San Francisco: The race is on to find the next Facebook, and venture capitalists are revamping their practices and turning up the competitive heat to hook up with the hottest startups.
With social media companies like Facebook, Twitter and Zynga all having accrued hundreds of millions of users in just a few years, and with entrepreneurs now able to easily mix and match disparate technologies to dream up innovative online services, venture investors say the field of opportunity is wide open.
"Whether it is a Google Inc or a YouTube or potentially a Facebook-like deal, they can deliver incredible amount of returns (for) the entire industry for in some cases a five-year or a decade period of time," Accel Partners analyst Richard Wong said at the Reuters Global Technology Summit in San Francisco this week.
"So rightly or wrongly, we always feel like when you pick up the scent of one of those things...we all chase and compete against each other to try and get in those deals," Wong said.
Exhibit A of the new funding atmosphere is Foursquare, the 14-month-old New York City-based location service that allows consumers to accumulate points by "checking in" at their favourite cafes, restaurants and other locations using their cell phones.
The service has been rumoured to be in negotiations with multiple VC firms about a funding round, and has also been in discussions with Yahoo Inc and Facebook about a potential sale, according to media reports.
Accel's Wong and David Weiden, a partner at Khosla Ventures, both acknowledged having had discussions with Foursquare, but declined to provide details. Chris Moore, of Redpoint Ventures, which was also reported to have been in funding negotiations with Foursquare, declined to comment.
Weiden said the competition among VCs to fund certain start-ups marks a return to the norm, following a slowdown during the peak of the recession.
"There was less hyper competition to get into companies and people were more on their heels. But that was unusual," he said.
The cost of dreaming
The proliferation of Web-connected smartphones, packing powerful graphics processors and location-tracking GPS chips has laid the foundation for new types of online services which have the potential to become mass-market sensations -- and start-up firms are eagerly racing to create the new products, said the investors.
"Mobile compute is going to produce a whole new sea of applications that we haven't envisioned and I think we are scratching the surface with the Foursquares of the world," said Redpoint's Moore, whose past investments have included online ad exchange Right Media, which was acquired by Yahoo in 2007.
What's more, Web start-ups need significantly less capital to build a rough version of their product than they did not long ago, thanks to services like Amazon.com Inc's S3, which allows companies to rent the computing and storage capabilities needed to build a Web service.
"The cost of dreaming these days is pretty low," said Moore.
For VCs, getting a piece of the next Internet smash-hit means making a move earlier than usual, and spreading out various smaller-sized bets.
In addition to the traditional Series A funding rounds of roughly $4 million to $5 million, venture firms are increasingly making $200,000 investments in start-ups, competing with the so-called angel investors who provide their own money to help entrepreneurs get started.
The number of companies that received venture investments in the first quarter increased roughly 12 percent year-over-year to 708 companies, though the figure remains sharply lower than the 1024 companies funded in the first quarter of 2008, according to a Money Tree Report.
And 49 percent of the start-ups funded in the first quarter received a higher valuation than their previous round of funding - according to data compiled by the Fenwick & West law firm - while only 32 percent of the companies were valued at a lower level, which could suggest that increasing competition by investors to fund the companies is driving up valuations.
In September, Twitter was valued at over $1 billion, Chief Operating Officer Dick Costolo told Reuters at the Technology Summit.
The microblogging service, which counts more than 100 million members, only last month unveiled its plan for making money through advertising.
But while venture investors are looking for robust user growth and a strong position in a newly-created market, it's not always a substitute for a solid revenue-model.
"I would just say if you are going to be doing a land grab, you better make sure it is beachfront that you're grabbing, not like staking out a bunch of swampland in the Everglades," said Accel's Wong.
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