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TeleSoft's Gupta: Venture Capital's Tough Times

In an interview, Gupta talks about nurturing TeleSoft's portfolio, rationalization in the industry, and the goals of his community foundation

When Arjun Gupta came to the U.S. in 1980 as an exchange student, he had big dreams and strong belief in his own potential. Now, as one of Silicon Valley's most successful venture capitalists, the founding partner at TeleSoft Partners helps entrepreneurs achieve their own dreams.

Since Gupta began venture investing, he has helped to build 61 companies, of which 33 have gone public or been acquired. Notable among them are Cerent, which was bought by Cisco Systems (CSCO), and Ikanos Communications (IKAN), which went public.

Gupta recently answered questions posed to him in e-mail by Senior Writer Steve Hamm. Here's an edited version of his reply:

Your title at TeleSoft Partners is "Chief Believer." Why did you choose that title?

At TeleSoft, we invest in and help build small companies where the odds of winning are against them. As you know, competing against giants is hard work, and the probability of success is low. Therefore in this macro landscape, "belief" plays a huge role. I like to lead by example, and I put everything on the line when I started TeleSoft in 1996. I had failed on two prior attempts to launch companies, so TeleSoft was my third shot. Chief Believer characterizes my leadership, including commitment, persistence, tenacity, and calculated risks, which hopefully increases the probability of success.

Some observers have described the venture capital industry as dysfunctional—since startups can't easily go public and limited partners are reneging on their investment pledges. From your point of view, how tough is the situation?

The situation is pretty tough but can be fixed if we address the fundamentals. There are a number of complex dynamics at play. The [initial public offering] markets have been largely shut for a while. The recent IPOs of OpenTable (OPEN) and a couple others are…going to help change this somewhat. Without a vibrant IPO market, private investors have to fund negative cash flow companies for longer time periods, in which case…many companies still don't get funded. Also, when capital markets are shut for IPOs, then acquirers of companies get an unfair advantage as it becomes a buyer's market with no competitive alternatives. This translates to lower acquisition prices. It becomes a vicious cycle. With minimal profitable exits, limited partners don't see liquidity, so they then reassess their commitments to venture investing.

The capital markets situation is very tough, and the U.S. should focus on helping bring back stability to our capital markets platform. The U.S. capital markets have been the envy of the world for a long time. However, at the end of the day, a capital market is a trusted electronic platform for users of capital to be matched with suppliers of capital in many segments of differing risk tolerance, all governed within an overall regulatory and legal framework. Currently there are many obstacles killing our capital markets platform which need to be fixed.

There are too many venture capital firms, and some rationalization of the industry is healthy. I believe the need for venture capital for new ideas is as great as ever. I fully expect the [Obama Administration] will increasingly see venture capital as being a solution in the economic downturn as an enabler of innovation, jobs, and taxes.

How is TeleSoft Partners dealing with it?

We delayed raising our new fund so we could first work with our existing portfolio. Within our portfolio companies, we have been proactive to cut costs and expenses, including very tough management team decisions like salary reductions. When companies are pitching a new financing, we reevaluate their plans to ensure there is a path to a successful outcome we believe in. We are even more disciplined on pricing our investments. Currently we have about a third of our portfolio companies targeting annual revenues of $50 million to $250 million this year, which by most measures are solid companies. Once the capital markets stabilize, some of these companies would likely go public or be acquired. In the meantime, we want our companies to take a conservative, preserve-cash approach with a goal to be the last player standing.

What's your assessment of the status of information tech innovation? Are startups targeting technologies that could yield dramatic improvements in productivity or quality of life?

Yes, entrepreneurs continue to work on great ideas that could dramatically improve productivity or overall quality of life for society. One of the largest opportunities for IT, networking, and communications technologies is the smart grid for the utilities, which needs to be developed and deployed. The power networks of the world are dinosaurs and archaic, largely from the second quarter of the last century. Architecturally, current power networks are largely broadcast networks, which in the future will be peer-to-peer networks where each node can be a point of production or consumption or both. This is a huge opportunity for innovation at every level from the end points through the network core.

If you could reshape the startup culture, what would you do?

When capital is cheap and plentiful for startups, and there are sufficient profitable exits as over the last two decades, the cost structures of startups have slowly but surely ratcheted up. Many startups may not have a culture where people are working for the equity upside. In addition, cash costs for most services to startups have also edged up significantly, like legal fees, accounting fees, recruiting fees, compliance with new regulations like [the Sarbanes-Oxley Act], salary levels, etc. As a result, I spend a lot of time coaching CEOs and management teams to go back to the basics of a low-cost culture and an equity-upside-oriented culture.

What role could information technology have in economic development in poor countries?

IT and technology will have a dramatic impact in the economic development of poor countries. For example, wireless phones are fast penetrating the poorest countries where landline telephony historically had very low penetration. There is a direct correlation between communications infrastructure and economic development. Wireless platforms like [Research In Motion's (RIMM] BlackBerry, [Apple's (AAPL)] iPhone, and others will keep getting smarter and more capable, with next-generation applications from the very small to the very large, from business applications to consumer applications. With the right leadership, poor countries can leapfrog the developed world and deploy the latest technologies, which will make a huge difference in their economic development. For example, in parts of India, poor coastal fishermen bringing in their fresh catch use their wireless cell phones to check which buyers will give them the best prices and have removed one tier in the distribution channel.

In 2001, you started the Arjun Gupta Community Foundation. What's your goal for the foundation?

The goal of the foundation is to support projects in education, medical research, the arts, and other community projects. In 1980, I came to the U.S. as an exchange student with very little money and a lot of dreams. This country has given me unparalleled opportunities for my education, work, and outdoor pursuits. As a result, I feel privileged to now give back to the system. To date, the foundation has helped support about 90 projects in the U.S., India, and Africa. We started small and will grow over time.

What accomplishment of the foundation are you proudest of?

I believe there is a need for great leadership worldwide to help lead us through the extraordinary challenges of the environment, poverty, health care, and how to handle the expected growth in the planet's population from 6 billion to 9 billion people by 2050. Therefore, I am proudest of supporting various leadership programs which I believe will sow the right seeds among young leaders who will blossom into great leaders in the future.

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