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Brain Currency
A bi-weekly column with timely, relevant and possibly irreverent insight into the BC technology industry.

 

Something Ventured:
August 18th, 2000


By Brent Holliday

"You've got the brains,
Let's make lots of money. "
The Pet Shop Boys, Opportunities

I want to talk about an intriguing phenomenon that has emerged over the past few years that I like to call Scarecrow Economics (you know, from the Wizard of Oz, "If I only had a brain…"). It's all about buying brains. Technology companies have found that one of the keys to success is finding scarce talent. Recruiting is hard. Buying companies for their staff is easier. This is why you see many high tech mergers these days that have astronomical valuations when the company had little or no revenue. More than just the product (that is likely still in development), these companies are bought for their talent. Some examples:

Last year Broadcom bought Hothaus in Vancouver for US$280M. I argued that one of the main reasons that Broadcom made the purchase was for the 60 or so engineers that they could not possibly recruit in a meaningful time frame. In a simplistic view, Broadcom set the price for an engineering brain at US$4.66 M per.

Abatis was bought for US$636M by Redback three weeks ago. One of the attractive parts of the deal for Redback was access to 90 engineers. Again, assuming no other reason to buy the company, Redback paid roughly US$7.1M per datacom brain.

What about some recent US deals like Qtera, bought by Nortel for US$3.25 B. With its 120 engineers, that's US$27M per brain. You want silly? What if you assumed that JDS Uniphase wanted SDL Inc. for US$41 B worth of smart people. SDL has roughly 1,100 engineers, making the price per brain an astonishing US$37M.

Hey, I realize that Qtera was bought by Nortel for its "disruptive" technology as well as its talent and that SDL was actually selling product and lots of it, but it was fun to start throwing around those large numbers. Still, I have to come back to the argument that part of the reason that big numbers are paid for very early stage technology companies is for the talent that is acquired in the process. Which begs the question, how does the acquiring company make sure that the multi-millionaires (on paper) that they just created actually stay? The answer is vesting periods. You see, it might look awfully good for the employees when they are bought for big bucks, but in high tech, you have to earn those big bucks by staying to help turn the developing product into a reality. So, although I saw two engineer-like people fawning over a brand new Audi TT convertible just outside of the front doors of Abatis this week, the reality is that the wealth is tied up in performing for the next little while.

No one sets out to create a team of brains to be sold. When companies start, the goal is to develop a product for a hungry market and sell it into that market. But companies can be made more valuable by the technical talent that they posess.

There are some very smart people out there. Scary smart. They usually have incredible domain knowledge about a certain field. They have developed this through specific training and research over many years. They speak their own acronym filled language. They have little patience for or little interest in talking to people that don't speak their language and can't challenge them to be even smarter. That rules out about 99.999% of us. They also tend to have really bad hair and fashion from the mid-to-late 70's. We called them nerds because being smart was just not "cool". Then came guys with bad hair and billions of dollars in their pocket. Being smart is definitely cool now.

In Canada, we have many scary smart people. They have developed the core ideas and innovations that made some of our biggest technology companies. Think of some of our biggest companies in technology. They are data communications companies, semiconductor design companies, fuel cell technologies and biotechnology companies. This is really brainiac stuff. These companies stay ahead with very, very smart people. And they always will.

The Internet has spawned a revolution in opportunity and entrepreneurship. Some very smart people made the Internet function in the first place, but then the web created a brand new playing field for business opportunities. Billions of dollars of investment flowed in, followed by more billions of dollars of wealth being created. But Yahoo is not rocket science. It does not require great technical minds to make eToys. This is not a slag against the other 99.9999% of us that can't design a semiconductor but could think up Internet related business opportunities. Au contraire. For a while, we didn't need the smarty pants people to go out and make a fortune in the technology world. But increasingly, that time is over. The complexity of new ideas that can make the next big fortunes on the Internet requires the smart technoids to help solve problems and innovate.

Meanwhile, back in the land of "rocket science", the smart teams of engineers are plugging away. Optical networking is really hard. Internet infrastructure is seriously complicated. Applying advances in genomics to real world usefulness is a bitch. If you want to succeed, you need the best and brightest.

Returning to the Scarecrow Economics theory, assembling a team of very smart technologists around a unique idea is a good start to any company that is looking to make it big. If these engineers are to ever get a price on their head in the US$5M range, they will have to show that they are the best team in their space. They will have to show that they can deliver on their promise. They will have to show that they can innovate and adapt in real time. They will have to show that they listen to customer needs and are creating a useful product. And they have to do it better than anyone else.

It comes down to a useful adage that you can take to heart if you want to be a big success: "Always hire people smarter than you."

Random Thoughts –
- BC Early Stage Technology Index (BC ESTI) is at 7.5 out of 10 this month. While some very exciting opportunities are bouncing around Vancouver currently, the August malaise has hit full force. It's tough to close a significant deal in the late summer because everyone says that after Labour Day, it will be back to work. Watch for a glut of announcements in September.

- Belts Tightening - According to a few sources of venture capital statistics in the US, the second quarter of 2000 saw the first decline in venture investment in the past 6 quarters. I am willing to bet that Canada saw the same thing overall. But the numbers are not frighteningly lower. It is merely a sign that the frothy times of 1999 are behind us. I've also heard talk of big US VCs trimming their holdings in pure play consumer focused web companies. In some cases, it may be as many as 50% of the VCs portfolio that will be set adrift with no further financing. Case in point: Living.com filed for bankruptcy this week after all of its big, deep-pocketed backers said no more. I thought that 7 on-line furniture stores was about 6 too many. Watch for many more stories like this one from the dotcom world.


What Do You Think? Talk Back To Brent Holliday

 



Something Ventured
is a bi-weekly column designed to supplement the T-Net British Columbia web site with some timely, relevant and possibly irreverent insight into the industry. I hope to share some of the perspective and trends that I see in my role as a VC. The column is always followed by feedback (if its positive or constructive. I'll keep the flames to myself, thanks).

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