Ottawa Citizen
April 6, 2004 Tuesday Final Edition

Venture capitalists lean toward ‘micro-multinationals’: Silicon
Valley’s ideal startups are ones that outsource white-collar jobs,
Ann Grimes writes.

SOURCE: The Wall Street Journal

by Ann Grimes

Silicon Valley’s venture capitalists, famous for funding technology’s
leading edge, now are pushing the companies they fund to be on the
leading edge of an employment trend: moving white-collar jobs
offshore.

The Valley’s ideal startup business these days is the
“micro-multinational,” a company that from its inception is based in
the United States but maintains a less-costly skilled work force
abroad. Venture capitalists also are prodding young companies in
which they already own stakes to turn themselves into
micro-multinationals.

One recently funded startup business, Solidcore Systems Inc., is a
case in point. The Palo Alto, California, company, which makes
security software, has a U.S. staff of 16, including its chief
executive, chief technology officer, engineers and sales and
marketing executives. It also has 15 employees in New Delhi, India,
including a top financial officer and engineers, and six contract
employees in Pune, India.

“It was set up that way from the beginning,” says Nick Sturiale, a
general partner at Sevin Rosen Funds of Palo Alto, which put $5.5
million U.S. into Solidcore along with venture firm Matrix Partners.
“The key is not just labour costs. It’s productivity.”

When engineers in the Valley are going to sleep, those in India are
waking up, he says.

Technology companies “look at globalization as a natural phenomenon
without borders,” says Ash Lilani, the South Bay Region manager for
Silicon Valley Bank in Santa Clara. Mr. Lilani recently organized a
scouting trip for two dozen prominent Silicon Valley venture
capitalists to check out potential startup businesses and markets in
India.

At Kleiner Perkins Caufield & Byers, the greybeard firm of Silicon
Valley venture capital, partner Ray Lane recently returned from his
own trip to India. The former Oracle Corp. president says 30 to 40
per cent of the startup companies his fund has helped to finance have
sent work offshore. “These are basically five to 10, maybe 20,
people. Small operations,” he says.

At Mayfield, another Silicon Valley venture firm, partner Yogen Dalal
says: “If you talk to all the leading VCs here, 50 per cent to 60 per
cent of their portfolio companies have some interaction with India.
But what really will happen in a couple of years, 90 per cent of all
startups will have some connection to India or China. There’s no
going back.”

Startup businesses that recently received funding include:

– July Systems Inc., a mobile-data-services company in Santa Clara
with a global product centre in Bangalore, India.

– 24/7Customer, which provides customized call-outsourcing services
from its Los Gatos, headquarters and from call centres in Bangalore
and Hyderabad, India.

– ServGate Technologies Inc., a security-software company that has 60
engineers in its Milpitas headquarters, 30 in Beijing and 10 in
Vancouver.

– ReaMetrix Inc., which makes sophisticated testing kits for drug
companies, with six employees in San Carlos and 10 scientists in
Bangalore.

– Open-Silicon Inc., a semiconductor-design company soon to launch
with 15 employees at its headquarters in Sunnyvale and 25 employees
at a development office in Bangalore.

At Norwest Ventures, managing partner Promod Haque says a majority of
the companies his firm has funded, including Open Silicon, have
located jobs offshore as a strategic practice. Some, he says, have
been doing it for years. “Our experience with this phenomenon started
before this was even recognized,” he says.

Four years ago, Norwest put $12.4 million behind a Boston
wireless-infrastructure company, Winphoria Networks Inc. The company
was started during the technology boom by two engineers from Bell
Labs and needed engineers with specialized wireless expertise. In the
U.S., demand for such engineers was high, and so were their salaries.

So the company set up subsidiaries in Spain and Bangalore, where it
found the engineers. Besides a cost differential of four to one, Mr.
Haque says, it also found new markets. “Sales and marketing and the
CEO were in Boston; the centre of gravity was outside the U.S.,” he
says, adding that “by having our employees based in Madrid and
Bangalore, we were bidding contracts in Europe and Asia” at a time
when the U.S. telecommunications market was in trouble. Motorola Inc.
ultimately bought Winphoria for $175 million, bringing Mr. Haque and
his investors a handsome return.

The search for such successful “exit strategies” — ways for venture
capitalists to sell their stakes in companies — also is driving the
offshore trend as VCs grapple with the fallout from troubled
investments from the technology boom. With few initial public stock
offerings these days providing a way to cash out, making the most of
capital at startups is key, Mr. Haque says.

Also fuelling the phenomenon is the maturation of a generation of
entrepreneurs who have started, run, sold — or been laid off from —
successful startups. “During the downturn, companies were looking for
clever ways to save money and survive. Employees were looking for
work. A lot moved offshore,” says Steve Domenik, another Sevin Rosen
partner.

The success of these entrepreneurs, many of them immigrants, has made
the cross-border business model a less-risky proposition, many
venture capitalists say. “They come to us saying, ‘This is how we
want to start it from the beginning’,” Mr. Sturiale says. “They have
experience doing it wrong, then doing it correctly.”

Indeed, the cross-border idea sometimes goes the other way, creating
what some call “insourcing.”

Norwest, for example, is funding Epiance Inc., a business-improvement
software maker in Bangalore. As part of its expansion, the company
plans to put 30 employees in Silicon Valley.

Others go outside the U.S. for experienced workers. Monterey Design
Systems Inc., a venture-backed software company in Mountain View that
has received $85 million in venture funds, designs software to make
chips. In May, it opened a research-and-design facility in Yerevan,
Armenia, staffed with about 50 scientists, many with advanced degrees
in electrical engineering and computer science.

The company’s chief executive, Jacques Benkoski, says the region is
home to Yerevan University, which by government direction under the
former Soviet regime became a region for semiconductor expertise. He
describes his Armenian employees as the “go-to guys for graph
theory,” a branch of math and computer science. “They work jointly
with the U.S. team to design chips,” he says.

Yet what goes offshore most often are routine engineering and
maintenance tasks, such as software testing. “Those are fairly
automated processes that can be easily be taken offshore by an
engineering group,” says Steve Baloff, a general partner with
Advanced Technology Ventures in Palo Alto. Mr. Baloff says his firm
typically advises its companies: “Don’t plan on outsourcing the
architectural or design part of the business where intellectual
property is involved.”

Gary Morgenthaler, whose Menlo Park venture firm bears his name,
says, “It’s dangerous ground to be outsourcing core R&D either in
India or China, who can become global competitors to America. To the
extent that we are outsourcing our intellectual property, these are
nations that don’t respect our IP to begin with. That runs the risk
of boomeranging on us.”

Monterey Design’s Mr. Benkoski disagrees. He points out the U.S.
can’t have it both ways. “You can’t want globalization. … but say
(to other countries) you only get to do slave labour, and we get to
do the interesting stuff.”

GRAPHIC: Photo: PR NewsFoto; Ray Lane, former president and chief
operating officer of Oracle Corp. and now a partner at Kleiner
Perkins Caufield & Byers, says 30 to 40 per cent of the startup
companies his fund has helped to finance have sent work offshore.
‘These are basically five to 10, maybe 20, people. Small operations,’
he says.