A candid conversation with one VC firm reveals a good deal about how they operate, if not their peers. At least they paid the wine bill.
November, 2005 · by Jim Fawcette
Back just before the dot-bombs crashed, a company I ran accepted a $6 million investment from Hummer Winblad Venture Partners, the San Francisco investment firm, to fund spinning out its then Web properties as DevX.com Inc., with the money to go toward expanding DevX's streaming video capabilities for paid distance learning and sponsored Webcasts. FTP Inc. had already invested $6 million and Hummer eventually put in another $6 million, making the total, combined investment $18 million before DevX's assets were sold to Jupiter Media Inc. in a deal variously valued between $3.8 million and $4.5 million.
The sale was transacted without shareholder approval, and the proceeds went primarily to Hummer and its lawyers, not to pay vendor debt or other shareholders. The board members apparently also voted to pay themselves bonuses for that accomplishment; I say "apparently" because Hummer was reluctant to confirm details even to other shareholders, and no holders of common stock were on the board at the time. It took two law firms nearly a year to extract even a summary of the transaction for the other shareholders.
This article recalls a dinner with three Hummer partners and two other DevX executives when we had given up on raising a second round from other VC sources, but were collectively still somewhat in denial about how badly things were going. My apologies to Louis Malle's movie "My Dinner With Andre"; this is anything but an intellectual conversation.
"Mark my words. Today is the day the stock market turned around. The Dow went up 20 points today," said Hank Barry, a Hummer Winblad partner, beaming as he came up to our table at the Evvia restaurant in downtown Palo Alto. Industry observers were puzzled when Barry, a lawyer at Wilson Sonsini Goodrich & Rosati (WSGR) joined Hummer Winblad, because the law is an unusual background for a VC. But when Barry was named CEO of Napster, one of the more notorious members of Hummer's portfolio, and spent most of his time in court, the move made more sense. By the way, the Dow went down another 1,000 points shortly thereafter.
The Hummer partners invited the executives of DevX to dinner. Along with Barry, the diners were Hummer's Mark Gorenberg, who sat on our board; Chuck Robel, formerly in finance at PricewaterhouseCoopers; Peter Horan, who we hired as DevX's CEO; Jim Cook, DevX's CFO out of Wine.com and Netflix; and another man Hummer was apparently going to bring on to another portfolio company. I never caught his name, but then all I heard from him the rest of the dinner was "Yes, Mark" and "Yes, Hank" anyway.
At the time I was still chairman of DevX.
"Be careful you don't get hooked," Barry said as he strode up to me. He pointed at my Breitling watch and held up his own (was it a Piguet! A. Lange & Söhne?). "Last time I went to Geneva I bought five."
Barry sat at the far end while Robel took command of the wine menu.
After some small talk, Gorenberg asked Robel, "How are things going with Exodus?" Exodus was the hosting and ISP firm housing DevX's server farm, a big expense back then. DevX ran up a million dollar bill with Exodus, including the lease on a huge EMC storage array it never used.
Robel looked up, "Exodus is under control. I talked to their CFO and asked her, 'Where is your next job?'" Cook laughed and Gorenberg grunted. Since Exodus was in bankruptcy at the time, the implication was that the CFO would be more interested in where she would find her next job than in collecting what DevX owed her employer Exodus.
Cook explained, "Their operations side doesn't talk to finance. We can keep going there indefinitely." Gorenberg squirmed a bit after Cook had let this out. They'd previously asked me to figure out how to get DevX's data and applications out of Exodus quickly because, as they put it, Exodus was in bankruptcy and if it shut down they didn't want to be put out of operation. They lacked the expertise, so they wanted me to figure out an emergency evacuation plan. This dinner-time slip was the first time I learned the real reason they might need to "get out of Dodge," that they were continuing to run up bills when the company had little likelihood of paying. Later this became clear at a board meeting where Cook, again, let slip what they were discussing outside the board.
Eventually, I quit as chairman of the board for DevX when my attorneys, ironically WSGR, confirmed my apprehension that this behavior could be fraudulent, but went beyond that to tell me that as a director I could be held personally liable. As the WSGR partner told me, "There's a big difference between running up bills a company intends to pay but later can't, and intentionally running up bills when you know you can never pay them." But for this dinner, I was still the founder and chairman of DevX.
Robel and Cook were in their element discussing how to get reductions on vendor payments. Only finance people could survive that discussion without having their eyes permanently glaze over, but here is one brief excerpt.
Cook said, "Can you believe Shaheen at Webvan (George Shaheen, ex CEO of Webvan, later CEO of Siebel Systems)?"
"He bragged that the vendors got paid (when Webvan was closed down). Even the printer. Nobody pays their printer!" Cook said, screwing up his face in a look of disgust. Hummer had a share in Webvan from its merger with Grocery.com.
Gorenberg looked at his ringing cell phone, but didn't answer. He's famous for not going five minutes without interrupting a meeting to take a call, so it was strange he didn't answer. "That's
Gorenberg is heavily involved in raising money for the Democratic Party, and was one of the leading fund raisers for Sen. John Kerry as he launched his as-yet-unannounced campaign for president. I'd attended a fundraiser Gorenberg set up at the home of CNET head Shelby Bonnie, so we chatted about that.
Then Barry read an e-mail on his BlackBerry pager and scowled. "Shawn used an unlicensed control in the Napster client. Now it's on millions and millions of computers," Barry said staring at his pager in disbelief.
"Offer them common stock," Robel said, bringing general laughter. I was not amused.
Robel turned back to the wine list. We had already had an expensive, but undistinguished merlot, followed by an excellent $150 bottle of Stags' Leap cabernet. Robel proclaimed, "They have Dominus, that's the best." At restaurant prices, it was probably $250.
"Back in the good old days at PWC, we had cases of Dominus for a reception I had at Pebble Beach. PWC paid for everything."
Our first pour arrived. Robel asked to our end of the table, "Which do you like best?"
Cook chimed in, "Dominus is wonderful, Chuck."
I responded, "It's good, but I like big California cabs more than Dominus, which is blended and softer. So, the Stags' Leap is more to my taste." Robel scowled at me.
"No, Dominus is great, Chuck," Cook reiterated. (A review of high-end cabs by The Wall Street Journal's Dorothy J. Gaiter and John Brecher described Dominus as the worst of the $100 bottles, even "ridiculous," although Robert Parker gives some vintages high ratings. If it's so-so at $100, and beyond inflated at $200 restaurant prices, imagine if it cost you $6 million.)
Robel was on a roll now. "…Yeah, Meeker was clueless" (Mary Meeker, Internet analyst with investment banking firm Morgan Stanley). "When I was at PWC, I was the one who told her that our client's competitor was booking barter as revenue. Reverse that and they weren't growing. She got all the credit for that, but had no idea until I told her…"
Meanwhile, on the other side of the table, Horan and Gorenberg were going on about their plans to spend the capital Hummer had invested in doing something called "enterprise portals" (Horan's idea of doing custom software development for large enterprises, mixing custom information with DevX's database). Remember, we'd raised the money to establish a leadership position doing paid and sponsored Webcasts for IT professionals and developers.
"Your plan for doing enterprise portals sounds great," Gorenberg told Horan. I asked why we were dropping Webcasts, since that had never been discussed at a board meeting.
"We tested on-demand video courseware and it didn't work," Horan said.
"Peter, I tried to find the Webcasts on DevX and couldn't even find them. How could that be a valid test? How can it prove no one wants to watch video, that we can't sell advertisements on video, or that people won't pay for distance learning?"
"We don't want to sell retail items online," Gorenberg added, apparently applying his painful experience at Pets.com to IT departments. FTP, pre spin-out, sold millions of dollars in seminar courses, magazine subscriptions, and paid subscriptions to online content, so this seemed a strange interpretation.
"If we pursue enterprise portals, we have no expertise in that area and don't have the right team," I argued.
"To sell those at six figures, we'd need an entirely different sales team from the people who sell advertising, plus we'd need another editorial department and basically a second IT department. All that and we have no evidence anyone will pay for these."
Gorenberg's answer was to ice me and turn to tell Horan and Cook, "We like you guys and enjoy working with you," raising a wine glass while pointedly not looking at me. DevX, which was running basically at break-even when it was spun off, spent its venture funding on the enterprise portals, yet never collected a penny of revenue from that effort, and built up millions of dollars in vendor debt. It did manage to give Hewlett Packard one portal on Microsoft Exchange, for a free trial.
I resigned from the board at my attorney's advice. DevX continued to bleed slowly for years until the assets were sold to Jupiter. Horan accepted Hummer's second round as warrants convertible to stock, so Hummer got paid ahead of the vendors, in a transaction that, again, the shareholders never voted on.
As attorneys told me, "It's certainly unethical. Board members have a fiduciary duty to all shareholders. And it may well be illegal. That's why VCs incorporate the firms they invest in, in Delaware; the state makes so much money on incorporation fees it doesn't enforce the law. You could sue in civil court, but even if you won, you can't restart the company now and the money would be awarded to vendors."
Ah, but I got a lot of wine and some good dolmades.
Hummer Winblad Responds
Nearly a year after I published an article on Hummer Winblad's investment in DevX.com, formerly the Web properties of FTP, Inc., one of the company's partners emailed me. Here is that partner's email:
I hope you are well and things are going well at FTP.
I wanted to give you the satisfaction of letting you know that I recently lost a hard fought deal due to your article "My Dinner With Hummer Winblad" After reading it, the entrepreneur became uncomfortable completing the deal with us and sought competing term sheets and then took one of the others.
While I hold no malice, I thought you might like to get some satisfaction.
Hummer Winblad Venture Partners
San Francisco, CA