West Coast VCs, East Coast Rules

Azure's Wall Street refugees rely on in-depth research -- and it's paying off

Even within the chummy world of Silicon Valley venture capitalists, many people haven't heard of Azure Capital Partners. To the extent they have, it's usually because of the San Francisco firm's ties to one of Silicon Valley's infamous characters. Azure's four founders all rose to prominence while working for Frank Quattrone, the former Credit Suisse First Boston (CSR ) rainmaker whose conviction for obstruction of justice was overturned on Mar. 20. (None of the founders was implicated in the investigation.)

Now Azure looks poised to make a name for itself for more positive reasons. After a couple of hits in recent years, it has at least four companies in its stable of investments that could be headed for big paydays in the next year. They include software developer Zend Technologies Ltd., which has been in talks to be acquired by software giant Oracle Corp. (ORCL ), and Calix Networks Inc., which could be headed for an initial public offering. Fast-growing Calix, with more than $100 million in revenues, makes gear for telecom companies that want to offer TV and other services. "This will be a scorching IPO," says analyst Sam Wilson of JMP Securities LLC.

Azure isn't your typical venture firm. Rather than depending on partners' gut instincts, it relies heavily on the hard-core research its partners learned on Wall Street. Their approach is to conduct in-depth studies, often taking a year or more, to investigate investment possibilities. That has led Azure to place many of its bets on little-known companies in out-of-favor markets. "They are the quants of the VC world," says Carl Russo, chief executive at Calix. "They're either creating a very different model for a venture firm, or there will be a huge waste of money. Azure won't be run-of-the-mill."

It wasn't always that way. Azure was founded in April, 2000, by First Boston investment bankers Paul Ferris and Cameron Lester, as well as research analysts Michael Kwatinetz and Paul Weinstein. They easily raised $530 million and poured much of it into 20 startups, including some high-profile outfits with sky-high valuations. When the Net collapse came, they got pounded. "Our mistake was doing what everyone else was doing," says Kwatinetz.

The partners quickly changed tactics. They made their own research central to their investment strategy, focused on early-stage deals, and put in money only if they could get at least a 25% stake and a seat on the board. They also slowed down, making only four to six deals a year, vs. the 20-deal pace of the first year.

The approach led them to invest early in several promising tech areas. In 2001 they began doing research into open-source software, including interviews with 50 companies in the sector. The result was three investments in 2002, when few investors saw the potential in giving software away for free. The sector is red-hot today. Zend is likely to fetch $200 million if it's acquired by Oracle or another company. "By doing proactive primary research, it builds your confidence to make counterintuitive bets," Weinstein says.

What are the promising sectors now? Azure is betting on the ecosystem of companies that work with Microsoft Corp. (MSFT ), shunned in recent years because of the giant's slow growth. Azure did some research and decided to take a stake in SourceCode Technology Holdings Inc., with less than $1 million in revenues. Now the company is on track to pass $50 million in sales this year, making it a strong IPO candidate.

The Azure method isn't about to supplant the traditional approach of VC leaders such as Kleiner Perkins Caufield & Byers. But for now the Wall Street refugees at Azure are convinced there is room for their brand of investing. "Back in the 1990s, it was all about time to market, and getting eyeballs," says Ferris. "Now, it's more about finding an economic basis for success -- and that's only going to get more important."

By Peter Burrows, with Justin Hibbard

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