Seattle Tech Investment Trends and Themes, From Madrona’s Tom Alberg (Part 2)

In the past month, Luke and I had the opportunity to sit down with Tom Alberg, the co-founder and managing director of Seattle’s Madrona Venture Group, for a wide-ranging discussion. In earlier installments, we’ve reported on Alberg’s thoughts about the future of newspapers, as well as the rise of the high-tech innovation cluster in Seattle, which has paralleled his career as a partner at Perkins Coie, a senior executive at McCaw Cellular, and a prominent venture capitalist.

Armed with a deeper (and broader) perspective on the history of the Seattle technology scene, the two of us could better dive in and address some of Alberg’s investment strategies in the current economic climate. We also heard about specific areas to watch in the tech-business world—and where Alberg sees his firm’s real competition coming from.

Here is an edited account of the rest of our conversation:

Xconomy: What are you seeing out there these days?

Tom Alberg: One of my major themes on investing has been more of a revenue focus. When an entrepreneur comes in here, often they’re talking about the technology, which is good to talk about, or how much money they’re going to be able to sell this company for someday. I say, “We’re not here to talk about the exits.” I always want to know, what is it that you’re making or selling that somebody would want to buy? Why would they want to buy it? Whether it’s a big company buying your software or an individual buying something on the Internet. What is it that you’re actually selling, and what is the value to somebody?

That’s the test, whether they’re going to pay for this someday. It’s surprising how hard it is to get this out of somebody making a presentation to you. Not always, but sometimes. They want to talk about everything but that, [focusing instead on] “this is what we do, this is why people are going to love us, this is why it’s revolutionary.” What it means is you’re focused on getting customers earlier, get a beta out there and learn from a beta product. That lends itself much better to what’s going on today. On the other hand, there are companies where you have to put a lot of money in to get to a point where they can be successful.

X: So at what stage does Madrona want to get involved?

TA: Well, the other thing that has happened recently is it’s much cheaper to start a company, and actually launch a product. People are doing with much less, which is probably healthy. Often, they’re not coming to the venture capitalist until they’ve actually got something that works. Their strategy is maybe to get a higher valuation than if they come early. There’s a bunch of companies that got going pretty well without venture capital. They don’t always have a lot of revenue. Groundspeak [based in Seattle] has the location and geocaching thing, it has a lot of traffic. The photo site Picnik gets a lot of traffic, and they’re doing well. They haven’t taken any venture money. I always say our real competition is more there, in some ways.

We depend on angels, there’s no question. We do a lot of really early stage [deals]. We’ll do $400,000 to help develop an idea, so in that sense we do invest in business plans. But it’s with the idea of getting a product out quickly.

X: The billion dollar question, of course, is where will the next Amazon emerge?

TA: That’s hard to tell. We have some themes. Cloud computing. Virtualization. We still believe strongly in all things related to the Web. There are a lot of challenges trying to figure out what could grow big and make money. We think there are opportunities in advertising still. Though advertising is down at the moment. Focused ideas around local advertising, targeting. We’ve got this company called AdReady, a self-service focus on banner ads. Banner ads have not been considered a hot area, but this company is already doing well. They’re growing every quarter.

X: People have been saying the consumer Internet space is dead. Do you agree?

TA: That’s the other point. We’re dealing in five to 10 years. We think this is the moment to invest in things that could pay off in five years. I think there’s opportunities in the consumer space. There are targeted things, maybe in the music area still. It’s interesting. You get these areas that look like they’ve become solidified because of big players, or because of technology, and then there’s suddenly, “Oh, we’re going to allow you to do your own music slideshow.”

Some of these things can be big, or not. I think the search area is a challenging thing because of the power of Google, but there’s vertical search. We’ve done vertical search in travel [and other areas]. TripAdvisor, with all the hotels, that’s a search tool. And not super well done—maybe somebody can do a better one. We’re very interested in some technologies out of the University of Washington that are search-related or trying to do more sophisticated algorithms. The UW continues to be a prime source of opportunity.

X: What are some of your other sources?

TA: We sponsored with Amazon a couple of years ago a little networking event in a loft on Capitol Hill. They wanted to proselytize their new Web services. We invited a lot of people, and 200 people came—CTOs and presidents, mostly of companies I’d never heard of. It really turned out to be little tiny companies. We met two entrepreneurs there and were impressed just talking to them. They’d come out of F5 Networks and a year later we invested in one of them [ExtraHop Networks], so that’s how you uncover them.

They were probably smart enough to figure out they should come over and talk to us, as opposed to us being smart enough to go talk to them. But we might never have discovered them. I bumped into them, and Matt McIlwain bumped into them, and afterwards at our meeting here, we said, “Did you meet anybody interesting?” I said, ‘Well, these two guys seemed really interesting.” Matt thought so too. So let’s follow up. You have to be out there.

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