Yale Entrepreneurs’ Economic Analysis: Rah Rah Rah!

Michael Stern, the 20-year-old founder of the much-ballyhooed and now defunct Internet incubator Aquarium Ventures, was about to give away a business card. Then he hesitated. “My mother said I should do this,” he said, pulling out a pen. Onto the card, which listed his 411 information but no business association, he scrawled the word “student” and then gave the card away. It was as if the former managing partner needed to be reminded of his current occupation–and by his mother, no less.

A year ago, this Net Baby found himself on the cover of The Wall Street Journal and inside many other publications, including Fast Company , Forbes , Red Herring and Business 2.0 , in stories heralding him as a “dorm-room” entrepreneur. His incubator, which he actually ran from an office near his room in Calhoun College at Yale University, had a $1 million commitment from New Haven-based Dagim Capital. It had 12 employees and had invested in two other student start-ups, including Broadcast Builder (also now defunct), co-founded by Mr. Stern’s roommate Ravi Paidipaty, and Goldthumb, a software company run by a bunch of recent Brown University graduates. His company was small, but the message was big: He was a baby entrepreneur, a poster boy for the New Economy.

Now his company has folded, and Mr. Stern is arguably a poster boy for the New New Economy–one who is battle-scarred but not bitter; older and wiser at age 20, with a firsthand understanding of one of the wildest business cycles in history. Mr. Stern is back in college now, but he wears his experience on his tailored shirtsleeve: “I know what I like now,” he said, referring to his summer job search. “Small companies, smart, aggressive people and stability .”

Mr. Stern and about 300 others like him–male and female, young and old–had gathered at the Yale Club on Vanderbilt Avenue in Manhattan on Feb. 8 to talk about the New New Economy. The forum, called “Building After the Bubble,” featured a panel of industry heavyweights: Merrill Lynch’s Internet analyst, Henry Blodget; Fidelity Management & Research Company’s chief executive, Robert Pozen; Euclid SR Partners’ general partner, Graham Anderson; Lehman Brothers’ vice chairman, Fred Frank; Yale School of Management professor David Cromwell, and Hotsocket.com founder Dev Bhatia.

The event was sponsored by the Yale Entrepreneurial Society, a group formed in September 1999 to foster the spirit among Yalies and others. Y.E.S., as it is known, is now the largest student organization on campus, with 500 student members and another 400 alumni and other adjuncts. Some of the organization’s members traveled down from New Haven to join other Yale alum and other members of the financial community at the forum.

It was–as the society’s president and the organizer of the event, David Pozen, a Yale junior, unabashedly called it–an evening of “networking and schmoozing.” There was media to court, business cards to be swapped and heavy-hitters to listen to, suck up to, pitch to.

But this was not an evening of desperation. The big guys who spoke had a message to impart, and they mostly stuck to it: There’s money out there for good, well-thought-out, well-executed ideas. At least for now.

The panel discussion, however, began inauspiciously. As the young Mr. Pozen (son of Fidelity’s Robert Pozen) was winding up his introductory remarks, a glass hit the wooden floor of the Tap Room and shattered loudly, evoking images of bubbles bursting and markets crashing.

There was some forced laughter, surely generated by thoughts of recent events. In November, Crosspoint Ventures had pulled the plug on a billion-dollar early-stage tech fund. Lucent Technologies had announced plans to lay off 6,000 more workers, in addition to the 10,000 already let go. The New York Post has no trouble filling its ongoing column, unsubtly titled “Dead Dot-Com of the Day.” Add in rising unemployment rates, decreased consumer confidence and the ups and downs of the Nasdaq, and the sound of a crash seemed most appropriate.

Yet the tone of the panel began on a remarkably upbeat note, more in line with the Y.E.S. acronym than with the recent headlines.

“This is an excellent time to be an entrepreneur!” declared Mr. Anderson of Euclid Partners, from his seat at the dais in the front of the memorabilia-filled room. “There is money out there. There’s more venture money now than there was in 1995. It will take longer to get it, but the money is still out there.”

David Cromwell, an adjunct professor of entrepreneurship at Yale’s School of Management and the former chief executive of J.P. Morgan Capital Corporation, noted that the venture-capital industry financed more new ventures– 4,000! –during the last 12 months than ever before. Henry Blodget was characteristically bullish, saying that only five years ago, when Netscape went public, the Internet accounted for $1 billion of market value, mostly from America Online, and everyone thought that was absurd. “Now,” he added, “even after Armageddon, we have 400 to 500 billion dollars of Internet value in the market. That’s extraordinary value creation.”

Of course, there was plenty of self-interest behind all these remarks–these speakers’ fame and fortune, after all, rise and fall with every tick of the Nasdaq. Nonetheless, in the face of all the doom and gloom, these words of comfort–delivered in the warmly lit setting of the Yale Club’s Tap Room–were, if a little sugar-coated, reassuring.

Mr. Pozen, of Fidelity Management, spoke for the institutional point of view, joking: “I guess I’m gonna have to be the pessimist in the group.

“Since the bubble has burst, I guess people like us feel a little vindicated,” he continued. “We were always a little reluctant buyers of companies that had no earnings and sometimes no revenues. But these companies were going up quickly; we tried to get good prices for our shareholders, and we knew a trade when we saw it.”

Mr. Pozen lamented how, during the late 90’s, “the notion of audited earnings had pretty much become a joke, so the question became: ‘Do you have revenues; do you even have an idea ?'”

Fred Frank, of Lehman Brothers, made similar jokes about the exuberance of the last five years: “We used to take companies public that had demonstrable records of achievement. Now we take public companies with demonstrable expectations of achievement.”

He made a similar point at the expense of Connecticut Senator Joseph Lieberman: “Roughly five to six years ago, Senator Joe Lieberman came to visit me to determine how can the state of Connecticut–and, more importantly, Yale–attract biotech companies around the Yale Medical Center.

“So I asked Joe a very impolitic and very impolite question. I said, ‘How do you define a biotech company?’

“Well, he stammered and he stuttered, but he’s a very adroit politician, so he points his finger at me and says, ‘Fred, that’s a hell of a good question. How does one define a biotech company?’

“I said, ‘Joe, it’s very simple–a biotech company is a pharmaceutical company not encumbered with revenues.'”

Ba-dump-bump.

And so the panel continued. The senior Mr. Pozen added some weight to it by offering a little case analysis as to why he thought Priceline.com had failed.

“Here’s the reason the auction wasn’t a success. Travel tickets are what I call perishable goods: If a company doesn’t sell seats, then they lose them. Priceline therefore was able to get airline companies to give them low discounted seats pretty close to travel date. Unfortunately, the company misunderstood its success. They thought they were successful because they were a travel company, not because they were a perishable-goods company. So they decided to sell travel insurance, to sell gasoline, to sell all these things that were related to travel but not to perishable goods. I think we’ve seen the company has had problems since then. One very important lesson for all you people is, understand what your business model is … understand, if you’re successful, why you’re successful.”

Converting to Metrics

It took some pointed questions from the audience, however, to focus the panel on what was on everyone’s minds–particularly those Y.E.S. kids: How do you get the money?

One software entrepreneur, who had taken time off from his School of Management studies to start his company, complained that he had met “some of the most prolific angel investors in the world” who had told him that “nothing is getting funded now.” He added, “No one knows the metrics which define the path to profitability.”

He then asked the panel, “Do you have any working metrics whereby one can define the path to profitability?”

Then came the bad news everyone had been expecting.

Said Mr. Anderson: “If you’re already generating revenues at this time and have a loss, and can’t show an actual break-even by 2002 second quarter, I don’t think you’ll get any venture funding at this time. If you don’t have revenues right now, typically, I would think–if you could find a venture firm that’s doing seed–you would need to demonstrate profitability within eight to 10 quarters, max. At the late stage, some venture firms are not doing any investing unless they can sell their investments within one year.”

Dev Bhatia, the founder and chief executive of Hotsocket.com, a database-driven marketer which has raised capital from Goldman Sachs Private Equity Group and Bessemer Venture Partners, among others, shared his experience. One of his venture firms, he said, had spelled out the metrics pretty clearly: Within six months, one had better be gross-margin positive; six months after that, they had better be bottom-line positive.

There were more questions, about global investing and niche versus generalist investing patterns. It wasn’t until the end that someone finally asked what a lot of people had presumably been wondering all along:

“Yes, there’s been value created,” a member of the audience said. “But a lot of people have lost a lot of money. A lot of jobs were lost, and there are clear signs that the pain is not over yet. I was wondering if some of this could have been avoided …. From venture-capital firms to banks to online investors, there was some irresponsible behavior across the board, and I’m wondering is this going to happen again or can some of it be avoided?”

“I’ll take a swipe at that,” said Henry Blodget, to much laughter. “I’ve found myself in the role of piñata” of the dot-com shakeout, said the man whose career was made by a bullish Amazon bet. (Amazon recently fired 1,300 employees.)

“Absolutely, this will happen again, hundreds of times,” he said. “It’s happened hundreds of times in the past …. Sure there were some stupid bets made … people got drunk … expectations got way ahead of reality… but there’s also a huge risk of missing the upside.”

Shortly thereafter, the panel ended. Many who lingered seemed to have upside on the brain, as they gathered in groups to chat and stood on line to pay homage to the financial luminaries at the dais. Lehman Brothers’ Mr. Frank had the most supplicants, not surprisingly. As the lone investment banker on the panel, he was the one who ultimately could turn an idea into I.P.O. riches.

No one seemed deterred by the designs resembling gray storm clouds that decorated his tie.

Class Act

At a gathering at Bliss on East 49th Street following the summit, the Y.E.S.-men were downing kamikazes and making out with their girlfriends. (Y.E.S.’s membership is about 40 percent female, Mr. Pozen said, though there were few female representatives at Bliss on Thursday night.) A few of the guys were talking shop. One could be overheard asking his friend, “Did you get a deal?” Mr. Stern was there, too, though in a league of his own.

Sitting at a corner table with his friends and sipping a drink, he talked exit strategies and bricks-and-clicks with the same passion that some of his classmates might bring to pornography, Derrida or extreme football. He shared industry gossip, reminisced about past experiences with reporters, and made a call from his cell phone to a friend burning the midnight oil at an investment bank.

He was not unaware of the irony of his situation. He brought up the Business 2.0 article, in which Irrational Exuberance author and Yale professor Robert Shiller dismissed him and other undergraduate entrepreneurs as part of a media-driven fad.

“Now,” said Mr. Stern wryly, “I’m taking his class.”