@LARGE
A tech reality check

By Scott Kirsner, 11/20/2000

Streamline. ShopLink. Furniture.com. MotherNature.com. iCast. ToySmart.com.

Never before has the media lavished so much attention on the bankruptcies of businesses that employed so few people and couldn't figure out how to make money.

Yes, there was hubris: Declarations by the aforementioned companies that they would change the way we bought groceries or listened to music. There were expensive TV ads and direct mail campaigns. The media is only playing its role as Greek chorus now, chronicling the demise of the dot-coms. The audience - executives at non-Net companies and investors who missed the ride - is cheering: ''We told you so.''

But is the chorus singing a bit too loud, and the audience getting a bit too carried away? I'm starting to think so.

The Industry Standard, ''the newsmagazine of the Internet economy,'' now has the ''Dot-Com Flop Tracker'' on its Web site. It lists, as of Nov. 1, 42 dot-coms that have gone down over the previous five quarters. Forty-two! As a national number, that is just ridiculously tiny, even if some of the companies did suck up prodigious sums of venture capital before croaking. Whatever happened to the old saw that out of every 10 companies that got funded, one

or two would be successful,

three or four would stumble along, and the rest would go out of business?

''We've had one hysteria replaced by an inverse hysteria,'' says John Landry, a one-time chief technology officer at Lotus who now invests in technology companies. The belief that every dot-com would go public and change the world has been replaced with the belief that every dot-com is worthless and doomed.

It seems like a good time for a reality check. So I talked last week with some tech industry graybeards - people who know the difference between a punchcard and a playing card - along with a handful of younger entrepreneurs to understand what the continuing string of dot-com bankruptcies really means. The response, summarized: This is a healthy winnowing. It's far from the line for the innovation economy in New England. But here's what is going on:

Screens get tighter. Investors are getting more selective about who they'll back. Experienced executives and battle-scarred teams are in; unproven recent college and business school grads will have a much tougher time. Defensible, patentable technologies are back in style again.

''The venture guys are tightening up their screens,'' says Gordon Hoffstein, chief executive of BeFree, an Internet marketing firm in Marlborough, ''and the East Coast VCs have always done more rigorous screening than those on the West Coast.''

It's also becoming harder to pressure a venture firm into investing, something that was common only a year ago. No firm wanted to miss out on the next Akamai or eBay.

''VCs are not as panicked about getting in on every deal,'' one entrepreneur told me last week. ''If you rush them, they say, `OK, we'll miss it.'''

No more misnomers. The way to get funding over the past five years was to label yourself an Internet company. But were Streamline and ShopLink really Internet companies, or were they grocery stores - which have notoriously low margins - that simply used the Internet as a sales channel?

''They were called dot-coms, but the fact was they were just using the Internet to take orders,'' says Landry. ''They still had warehouses and delivery trucks and perishable inventory, which is all expensive to manage. The economies that the Internet provided were minimal.''

Investors are getting smarter about separating the true technology businesses - like makers of software and hardware - from businesses that are simply relying on technology to deal with customers or suppliers. We don't, after all, consider Maison Robert a telecommunications firm just because you can use the phone to make a dinner reservation.

Cash is king. ''There were a lot of snickers in my course back in January when I said, `Cash flow is more important than your mother,''' says Ken Morse, managing director of the MIT Entrepreneurship Center. Morse was part of the teams that helped launch 3Com and Aspen Technology.

''The students looked at me like I was a stegosaurus still walking around when I told them that [the irrational spending of many dot-coms] was not sustainable. You have to take in more money than you put out, or you're toast.''

Unfortunately, says Joe Hadzima, this isn't the first time the technology community has had to learn about the perils of negative cash flow. Hadzima is a managing director of Main Street Partners, a venture development firm, and he is also associated with the MIT Entrepreneurship Center.

''I remember a fraternity brother of mine starting a company in the mid-'80s in the medical informatics area,'' Hadzima says. ''There was a lot of money flowing around then. They had a black-tie product launch at the Meridien, with an ice sculpture and a string quartet. I said to him, `I think I understand your business model - spend money until you're broke.' He didn't like that, but nine months later, he came to me and said, `How do you get out of a Mercedes lease?'

''There's a certain discipline to having built a company customer by customer, with a real value proposition and cash flow,'' Hadzima says, ''as opposed to having huge amounts of money thrown at you [by investors].''

Opportunities didn't vanish. We're far from having exhausted all of the profitable opportunities for building businesses around the Internet.

''The thing that kicked this off in the beginning is still there,'' says Craig Macfarlane, chief technology officer of Student Advantage. MacFarlane worked previously at iCast (he left earlier this year), and before that spent 11 years as an engineer at BBN Corp.

''The Internet is this massive, supported infrastructure that helps us all communicate and work together. It has only gotten better in the last couple years, and it will only get better after this. I think it will only get easier for new ideas to get launched.''

We still haven't figured out, for example, what businesses will flourish when Net connectivity extends throughout the home, into the car, and into public spaces.

''Case-hardened'' employees. Being laid off can be a huge personal shock, but the vast majority of jobless dot-commies have severance packages and the option to either join another start-up or go to a more traditional company.

''Every one of these people is being absorbed very, very quickly into other companies, Internet or not,'' says John Hodgman, president of the Massachusetts Technology Development Corp. Ken Morse calls them ''case-hardened,'' and points out that one often learns more from a failure than from a success.

NextGen companies. We may see the number of new companies being launched begin to drop, but the quality is rising.

''The next generation of [Internet companies] is going to be leaner, meaner, and much smarter about the way they do things,'' says David Wechsler, general manager of the Boston office of Razorfish. In 1994, Wechsler started one of Boston's first Web design companies.

''VCs are actually taking time to read the business plans,'' he said. ''It's Darwinism. The next breed will be stronger. You're not going to see companies anymore that are on their fourth round of funding but are still trying to figure out their business models.''

NextGen companies will also have a longer gestation period, according to Ken Morse. Eighteen months from inception to IPO is no longer realistic, and it was probably never healthy. ''People got addicted to a quick pop,'' Morse says. ''But it takes a long time to develop good technology.'' NextGen companies will be run by sales-oriented executives with an extremely high risk tolerance - and the people who work for them will be aware that working for a start-up is never a sure thing.

Moronic marketing. Many Internet failures can be chalked up to ill-conceived marketing campaigns - companies simply overspent to attract customers.

The most egregious local example is probably Maynard's Computer.com, which spent more than 60 percent of its investors' money last January to buy 90 seconds of Super Bowl advertising, and in November shows up nowhere in the Media Metrix listing of the top 500 most-trafficked Web sites. Start-ups are already getting much more focused, and frugal, about how they spend their marketing dollars.

The flip side of that, as Wechsler puts it, is that ''we don't get to see the sock puppet from Pets.com anymore. That's a bummer.''

But we'll live.

Scott Kirsner is a contributing editor at Wired and Fast Company magazines.