eBoys

Benchmark partners had selected one another on the basis of perceived ability to subordinate individual ego to the larger interests of the collective.

What he left out in the telling were the complicating parts that made it interesting, the ways at several junctures he badgered his partners to undertake risks, jeopardizing modest success for the chance to move to the top. He also left out the way he and his colleagues had to project an aura of success for years before it actually existed, the way credit card debt and second mortgages had to tide the business over in the interim, the way the lack of personal contacts within the Establishment meant that Ramsey Beirne Associates advanced by dint of brute-force will.

“I have nothing to sell you today—let’s take that off the table and just talk,” he would say. “My goal is to earn the right to have a relationship with you, and I know it’s my responsibility to earn the right.” He’d vacuum up information about the candidate’s command of the business, but also about intellect, ethics, leadership, energy. Beirne likened it to digging into someone’s soul, then showing the person a portrait. He had removed anything uncouth in his appearance that would provide an excuse for him to be turned away. There wasn’t a hint of New Yawk in his voice, and you would never see him when his hair wasn’t freshly cut, gelled, combed, and parted, when his white dress shirts did not consist more of starch than cotton.

Kagle had a credibility problem, the other partner would remind everyone with a laugh. “Bob will say, ‘I entered venture capital just as things went bad. It was hellish!’ Then I say, ‘How bad was it, Bob?’ ‘We did Microsoft, Compaq, and Sun, granted, but, oh, it was bad.’

“Any bold undertaking risks the fortune of the man who embarks on it and of those who trust him. The Americans, who have turned rash speculation into a sort of virtue, can in no case stigmatize those who are thus rash.”

“God is not on the side of the big arsenals, but on the side of those who shoot best.” Voltaire’s words had been used by the Benchmark partners to solicit capital for their first fund.

Beirne ripped off a blank sheet from a legal pad and tore it into strips for the vote. Each partner was to select a number—by custom, an integer only—from 1 to 10: 6 or higher expressed approval; 4 or less, disapproval; a vote of 5, the neutral refuge of cowards, was not permitted.

The partnership formally bestowed its approval to any deal in which three of the five partners voted above 5, but in fact the votes on investment decisions were merely advisory, information for the advocate—the ultimate decision maker—to digest.

On that issue, whether huge upside should render conventional risk less important, Harvey sided with Beirne, and over time would become the leading advocate among the partners of paying up at any price to buy into the deals with the highest upside potential.

the tactical mistake Beirne committed when he gambled that he could persuade his partners to pay up for both TriStrata and Priceline simultaneously. In hindsight, it was arguably the biggest mistake he made in his first year. The gamble prevented him from declaring a favorite between the two; he was so busy winning and protecting the opportunities to invest, on the one hand, and trying to pull his reluctant partners along with him, on the other, that he never had time to step back, look hard at both deals, and compare the relative risks and likely rewards. Consequently it was happenstance that determined which of the two was funded first, in effect determining which of the two Beirne got to do. The other partners’ appetite for high-priced deals, never strong in the first place, was more than sated once the offer to TriStrata was immediately accepted and the initial offer to Priceline was not.

What the partners were looking for were categories that were ripe for “disintermediation”—removing a middle layer in the distribution chain. In this case, that layer was the twelve thousand or so art galleries in the country.

this would make Beirne’s fifth company, and by the following summer, after two years in the saddle, he expected he’d be a director for eight companies. This would be what his Benchmark partners considered the maximum number of directorships he could hold without diluting the quality of service to the entrepreneurs, and fewer than the twelve or fourteen directorships that the competition up the street assumed per partner.

The final tally: Two partners urged Kagle to walk away immediately; one urged him to raise additional capital immediately; and the last urged him to move the company’s headquarters to the Bay Area and find a new CEO.

Instead, what was talked about was the wayward child—and at any given time, the portfolio had one or two—the company that had stumbled off the path and now was deep in muck and could only be pulled out with a collective rescue effort by Team Benchmark, if it was not too late (and if it was too late, it was the other partners who had to persuade the sponsoring partner to let it go).

“You know that emotion is exactly the emotion you feel when it’s time to shut it down,” said Andy Rachleff. He and Beirne’s other partners all had faced similar junctures before; this was Beirne’s first.

it.” This was the way Harvey preferred to seal a deal with an entrepreneur: to secure the agreement before bringing out the term sheet with all of the details. Here Harvey feared that if he brought out the terms of the partnership offer, Gurley’s analytical bent would lead him to say, “Okay, I’ll take this home and think about it.” Harvey wanted him to show trust that the partners had put together a generous package that accorded him fully equal status from day one. Gurley came through and, without asking to see the terms, accepted on the spot.

“You’ve got to do it the right way,” Dunlevie concluded. “You’ve got to set up a separate company. It’s not divisional—it’s a subsidiary. The management team and the board of directors have to be fully independent and autonomous.” The Right Way also meant the dot.com business had to offer the financial upside of stock options to employees and have unlimited access to use of the legacy business assets. The parent had to be ready for “one-hundred-percent self-cannibalization.”

The eBoys almost never mentioned the growth of their personal wealth. One of the rare occasions in which it surfaced was the day Bob Kagle asked his partners if they had seen a profile of another venture capitalist that had appeared in a magazine.

Yet, for family reasons, they were determined to set up shop in Ossining, far from Silicon Valley, where most of their prospective clients would be. Erasing that geographic distance meant they would have to be that much better than the competition that enjoyed the benefits of proximity to clients. It also meant that Ramsey Beirne Associates would have to be willing to travel all the time—“living in the tube,” as Beirne would refer to the weekly or twice-weekly red-eyes across the continent.

He instead used his smarts in the employ of listening. His prospective clients and candidates discovered he was a paragon of the quick study, who when asked to restate what he’d been told got it right, absolutely right, and followed with questions that showed strategic instincts about how to make the business or career grow. Respect, trust, and confiding followed.

The role that they preferred, or at least said they preferred, was that of “company builder,” which meant serving as an active board member and as informal consultant to the CEO in between board meetings.

Transplanted to California, Kagle and Wozniak felt unsophisticated. Unlike most of their new business-school classmates, who had worked for several years after graduation and were still unmarried, the two from Michigan came directly from their undergraduate school and were already married.

And yet being a technology investor—finding proprietary intellectual property and exploiting it—was not what he liked to do most. The engineering degree was his passport out of Flint, but what he secretly wanted to do was “consumer investing,” that is, working with businesses that sold directly to the broad public and whose fate would be determined by marketing, positioning, segment leadership, and branding. In short, businesses based on mastering consumer psychology.

a newly opened place called Juice Club. He canceled his appointments for the morning, interviewed customers and employees on the spot, tracked down the owner, who lived in San Luis Obispo in central California, and lobbied for a hearing. He flew down and persuaded the twenty-seven-year-old to abandon a franchise strategy and instead use venture capital to expand his business. They would soon relaunch the business as Jamba Juice. But is a countertop filled with blenders a high-tech deal?

So which aspect of the picture was most salient: that Priceline was spending scary quantities of marketing dollars in order to sell airline tickets below cost, or that it was the creation of a great guy, and one should always back a great guy?

The term comes from the shape of a graph that venture guys draw. Think of the life-cycle stages of a company: raw start-up; developing the product; revenue-producing; almost public.

“What scares me about this market,” Beirne said, “is kind of the same thing on PlanetRx. When you don’t have a major distributor, you don’t have a major player, you have this real big fragmented industry. You think, Okay, it’s a great opportunity to go in and disintermediate all this bullshit.” Kagle was a one-voice chorus. “Right!” “Then again,” Beirne continued, “there’s a bunch of quirks around traditional, small little nichey businesses like this. They operate that way for a reason.” So maybe what seemed to be a large opportunity was illusory.

“Well, but he might be a winner in an eight-million-dollar business. Which doesn’t leverage your skill set.” Dunlevie hastened to add, “I’m not shittin’ on the deal at all; I think it’s got a lot to recommend it.” But he pointed out the absence of natural scale effects. “I think you’ve got to have somebody call on every fuckin’ doctor. This product is sold, not bought. So it’s got field sales-force economics. You’ve got a lot of constituencies you’ve got to corral at the same time. It’s business-model complexity, which, again, I’m not scared of. It just takes longer, takes more money, it’s slower. And I don’t see this thing having any upside tornado effect, like a TriStrata or Priceline or something, where there’s word-of-mouth, potentially. So I think this is just a good hard slog.”

Dunlevie still liked the category, however. Artuframe’s missteps were merely operational, easily correctable. “They do have the digital rights to this massive number of impressions. And they have a framing factory, that if anybody cares about framing, these guys are the only guys that have that, too.” The company had twenty-eight thousand prints in its online catalog and were adding new images at the rate of five thousand each week. Dunlevie continued, “In the electronic commerce world, these guys have some assets that nobody else has. So the highest order bit is: Is there a category?”

“Anytime anything good happens to me? I wear my Opus T-shirt,” said Dunlevie. When he and Rachleff had been junior venture guys at Merrill Pickard, Opus Systems, a manufacturer of Sparc workstation clones and one of Dunlevie’s companies, was doing extremely well and preparing for its IPO when, out of the blue, Sun Microsystems decided to curtail its licensing program and kill off Sparc clones. It meant the end for Opus, but the company lingered in terminal pain for two long years before it finally died. Dunlevie had refused to issue do-not-resuscitate orders, and his Opus T-shirt was his memento of the experience.

“Our system didn’t scale,” he said, “so we didn’t grow big enough to attract competition. Everybody thought we were flying below the radar screen on purpose.” He gave a little laugh.

“This is a very different mind-set from most companies that are trying to protect what they’ve got, as opposed to cannibalizing,” Dunlevie said. “You have to decide you’re going to eat your own business yourself, as opposed to having eToys or Amazon or somebody else doing it for you.”

The end result is going to be cannibalization of stores. And you’re going to go from eight hundred stores to two hundred in the next three or four or five years as a result of the Web.” Nakasone did not agree, leading Dunlevie to conclude that he wanted everything—the existing network of stores and a thriving online business—which was a natural-enough inclination but a delusional expectation if he really understood what the dot.comming of America entailed. This was hard sledding.

Out of the hearing of eBay, Kagle said, “Competition brings out the best. It may not be the most comfortable feeling for the participants, but it does produce a better result. ’Cause I guarantee you that the user experience at eBay will be better as a result of this—much sooner!”

But Kevin Harvey took the view that Red Hat could avoid a frontal challenge to Microsoft’s business model; he worked to reposition the company away from the business of selling packaged software in boxes (Harvey’s old business) and move it toward providing support services and a central website for the Linux community. The only way Microsoft could compete with Red Hat, he would say gleefully, “is by abandoning five billion dollars of annual revenue, which they can’t!”

To be a success, one must act the part, and a retainer fee was the way to communicate that one’s services were in demand.

As a teenager, Kagle picked up a hobby of reading books on the Depression, and the family’s experiences produced in the adult Bob Kagle an uncommonly strong need for wholly unencumbered security: no mortgages, no credit cards, everything owned free and clear, safely beyond the reach of creditors.

He’s got to attend the board meeting, he’s got to attend dinner. We’ve got to show that we are committed to this human being.”

“Here’s my question,” said Kagle. “This is central to the beast here. Bruce said it earlier—as a result of the advent of Amazon, he’s increased his book gift-giving by a factor of—?” “Twenty.”

Lederer was under the protective wing of a softie, who happened to also have the connections in the industry to pull off financial miracles.

“We need to break the rules on this, guys.”

“The amazing thing is it hurts more on the downside than the good feelings on the upside.” “That’s my experience—three orders of magnitude,” Dunlevie quickly agreed. “Yeah,” Rachleff said, and then redid the ratio of intensity of pleasure versus pain. “One-X versus fifty-X.”

Bob Kagle could not take much pleasure in the event either, imagining, as he did, whispers that the eBay success was a fluke, akin to picking up a winning lottery ticket. He found himself working all the harder after eBay, to silence criticism that he had not actually heard but that he could imagine, beyond his hearing. One monkey don’t make no show, he’d say.

“It would be really nice if we could somehow lock in some of the gains for the staff,” Kagle said. “ ’Cause it’s always that first million that matters. The first million is the biggest million you ever make.”

“Having somebody else to bounce this off when it’s early really helps you figure out whether it goes to the next step. At least I, and I know you, Bruce, are like that, too.”

Dispreference, not just inertia, in some cases.

With more experience, eBay would have been further along, but adolescence cannot be skipped.

The high payoffs for one or two never erased the pain of those that did not survive: “You feel so responsible for the disasters.”

By then, the three principals were heavily in debt, and spouses were wondering how much longer they would be asked to wait for the experiment to prove itself.

While Dave Beirne projects power, Bob Kagle projects empathy. From his previous experience as a venture capitalist, he was at Benchmark’s formation already extremely wealthy, but material success was a garment he refused to wear. He was determined to remain unchanged, as hungry to learn, to connect with you, as he’d ever been.

He’d brought in Starbucks as a prospective early-stage investment, but his partners could not get comfortable with “a coffee deal.”

who knew they needed to hire a CEO and other seasoned executives with skills they lacked. It appeared to them that the only way they would be able to attract people with deeper management experience than they had was by obtaining the imprimatur of a well-regarded venture capital firm. Selling a minority share of their equity to venture capitalists was the intermediate step they had to take to get the good people they sought.

The venture guy’s job is to refine his powers of evaluation, to hone the ability to see the outline of one good idea among the thousand brought in by entrepreneurs that are too small or me-too.

Later that morning Dave Beirne made a vow that took the form of a confession. “My goal,” he said, “is to be either a really successful venture capitalist quick, or be out of the business in a hurry.” He did not smile.

Instead of setting themselves apart by offering to charge a carry lower than the prevailing industry standard, they instead decided to charge 30 percent, like Kleiner, and right out of the gate. As a marketing ploy, it worked well—it got attention, even if it scandalized and angered some investor prospects.

“Close to signing,” however, was not signed. If ever there was a deal that screamed for due diligence, investigating claims and consulting disinterested third parties, this was the one—and all the more so given it would be Benchmark’s all-time largest investment and at the all-time highest valuation. The Benchmark tradition was to do the due diligence before a commitment to invest was made, but here the TriStrata board was pressing for an immediate answer.

During that summer in 1998—and due undoubtedly to some extent to the consciousness-raising experience of the Priceline debates—the others came around to Beirne’s position that for some must-do franchise deals, the potential upside did render risks irrelevant, and in those cases price should be no object.

Harvey suggested that one of the options be ruled out immediately—the one that put the original amount in at a renegotiated lower valuation.

The company’s dire financial situation, with sizable liabilities, meant that Benchmark’s capital would be financing an existing balance sheet, rather than financing growth. That was not the case with their other first-round investments.

Only six months afterward, Art.com, as it had been renamed, was purchased by Getty Images, the London-based photograph licensor founded by a grandson of oil titan J. Paul Getty. The purchase price was pegged to subsequent performance, but it provided for an approximately fivefold payoff for Art.com’s venture investors. It was a respectable outcome, not a home run like eBay but a good base hit, especially considering the company’s parlous financial state at the time of the investment just a few months before.

What originally had burned him, and what he had had no way of doing anything about, was the fundamentally undemocratic nature of IPO’s, which allowed the big clients of Wall Street investment banks to profit while excluding individuals of ordinary means. As eBay’s own IPO approached, he now had an opportunity to do something about unfair business as usual.

His ally was Kagle, who looked at every deal as a morality play, pitting the little guy against the big, the underdog against the unfairly privileged.

The next day, on October 27, eBay announced better than expected quarterly earnings: $2 million excluding special charges. Investors, inured to red ink among the hottest Internet stocks, regarded $2 million as whopping. CFO Gary Bengier told analysts in a conference call that he thought a surge of traffic on the eBay site was attributable to the publicity surrounding the IPO. “We do not expect this unprecedented level of publicity to continue,” he said.

EBay was “a company with trouble written all over it,” Byron said. Barriers to entry in the Internet auction field were nonexistent. The good stuff that people wanted to sell would go to specialty sites, and eBay was going to be left only with junk. The underwriters were engaging in “full-frontal, right-in-your-face stock hyping.”

“After you get this reputation built up online,” Kagle explained, “you’ve got all these people who have dealt with you, you’ve got seventy-five people who’ve said good things about you. That’s a pretty fundamental thing.”

Other criteria for evaluating Web initiatives included the value-to-weight ratio, which is high in the case of watches and diamonds and low in the case of iron and lumber (or furniture; nevertheless, Dave Beirne had championed a Benchmark investment in a furniture-via-the-Web start-up that became Living.com). “Dollar density” was the phrase Bill Gurley used to refer to the same criterion.

Dave Beirne method: Spend more time with the entrepreneur to understand the opportunity by relationship-building.

“I think you need to make sure the company has got plenty of financing to get itself in great shape to do a second round,” Harvey reasoned. Putting in more money now would mean Beirne would not have to spend time raising more money soon. “The scarce commodity here is not money, it’s Dave’s time.”

Another aspect of the tradition endured that should not have: Instead of buyers coming to meet the company’s representatives for a single presentation, the representatives had to travel to the buyers, wherever they happened to be and at whatever time they wished. That meant the same presentation was repeated, up to eight times in a single day, for several weeks. Why was this necessary? Because it had always been done that way, that’s why.

the value of Benchmark’s original $6.7 million stake in eBay was now about $416 million. During the previous week, Whitman had pressed Kagle to join the eBay group in New York so he could be there, too, when “ebay” crawled across the digital ticker for the first time. He had plane reservations set but at the last minute decided reluctantly to cancel, concerned that the CEOs of his other companies would think he had gone too far in giving eBay his attention, to the detriment of their own interests. Staying in Menlo Park, he fielded congratulatory calls all day from his entrepreneurs, who complained only half-jokingly that the eBay IPO set an “impossible bar” for the rest of them to best.

It’s a knee-jerk reaction to the fact that we’ve been on the boards of hundreds of small companies, and the ones that focus, statistically, win at a much higher rate than the ones that try to do two or three things at once.

“No,” Kagle allowed, but “the tension here is these kinds of deals are testing some of the fundamental tenets of at least the way we used to think we approached the business. I, for one, am open to learning new things here about all this.” He laughed. “But I’m seeing some crazy things that I never would have predicted six months ago. And I think there’s a lot to be learned from going through this exercise. I’m excited about it.” “Really?” Rachleff asked. “Yeah.” Kagle continued. “I’m where you are on judgment on the deal. But I’ve got to be open to learning and changing my mind.”

“If you put in half of what we’re on the hook for,” Bruce Dunlevie said, “it goes to do these two acquisitions and Yahoo and he’s out of money again. I think it’s either walk away or do the big financing at lower cost. I don’t think the turn-over-a-few-more-cards-on-the-cheap works.”

“I think this is a personal decision on your part,” Harvey said, addressing Kagle. “Because you’ve got to decide that you feel okay walking away. We can’t tell you to do it. I think the logical answer is to walk away. It sounds to me like there’s enough evidence of representations being different—”

“Can I go around the room, can I hear?” Kagle addressed everyone. “I appreciate your point, Kevin, that this is a decision I need to make. I’d like to know, given everything you guys know, and everything you can factor in, what each of you thinks you would do in this situation. That would be very helpful to me.”

“If fifty percent of retail is going to be on the Internet within ten years, which I think it is, then that’s going to be an awesome number. And customers are not going to be getting eight and ten packages a week, they’re just not going to put up with that. The paper and cardboard and the tracking and the calling up. FedEx bringing four packages from four different vendors is not going to be a solution. Think of the volume that FedEx is doing now and multiply by about twenty, in terms of cubic volume.”

I think relationships are all about communication. I want to apologize ’cause I think I’ve pushed you too far. And if I have, I’d like to get together and just make sure we’re all on the same page, because I’m going to continue to throw myself on the tracks over this one. But I’ve promised you from the first day I met you that if we as a board agree to something, you get my one hundred and ten percent support.”

“You kind of have to be that way to get something goin’,” Harvey said, thinking back to his own experiences as a software entrepreneur. “That’s why guys who are too-critical thinkers have a tough time getting the business started, ’cause ‘it was never possible.’ ”

“I do, but the reason I do is because he’s a rare combination of highly intellectually curious and humble. I think he really is open to questioning his own thought process and what’s really working, what’s not working.” “It’s like being around an academic,” said Dunlevie. “He’s got so many ideas spouting forth, I really enjoy talking to him. My fear is that he’ll outthink it.”

In practice, this is not the case for companies at the intermediate stage of still developing a product. Here an investor has to pay up, usually at a valuation for the company that is at least three times that of the raw start-up stage, but the risks have not been reduced proportionately. Think of a U-shaped graph showing the rewards divided by risks. The left top of the U is represented by the high reward/risk ratio of a seed-stage company, and the right top is where one finds the high reward/risk ratio of an about-to-go-public company. And in the middle, the trough, are the companies in the development stage where history shows a pattern of comparatively low prospective reward married to high risk.

To try to puzzle out a solution, he asked himself the most basic question: Was there going to be an Internet service selling art and framing online? His answer remained unchanged: yes.