FreshDirect isn't the only fledgling dot-com attracting investors. Over the past six months, VC firms have started wading back into a sector many had given up as a lost cause. They're moving cautiously, though. According to industry tracker Venture Economics, VCs invested only $850 million in some 110 new and existing companies last year. During the boom's peak in 2000, VCs pumped $13.1 billion into 750 companies. "Maybe there weren't as many great dot-coms as people originally thought," says Jay C. Hoag, founder of Technology Crossover Ventures, a Palo Alto (Calif.) VC firm that last month invested $15.3 million in online movie-ticket service Fandango Inc. "But that doesn't mean all of them are bad ideas."
What's drawing the VCs back into the fray? In large part, they're rewarding dot-coms' newfound focus on the bottom line. Most VCs say they are looking for strong transaction-based dot-coms that can persuade hordes of people to pay regularly for a service or product, such as tickets or online games. "Investors today are obviously concerned about reality vs. fantasy," says Fandango CEO Arthur Levitt III. "They want to see a proven track record and strong fundamentals."
That's what Hoag and his partners saw in Levitt's three-year-old company. Although it had taken a while for Fandango's business to catch on, it began to mushroom in the past year. By the end of 2002, Fandango was attracting 2 million Web surfers a month, according to comScore Media Metrix, driving revenues up threefold from 2001.
In part, it was the dearth of VC funds that forced dot-coms to get real. Take RedEnvelope Inc., a company that specializes in last-minute gifts. In 1999, the year it was founded, RedEnvelope spent twice its revenues on marketing. This year, the company says marketing costs will amount to just 20% of revenues, or $72 million, up from $56 million last year. That's had two results: RedEnvelope expects to make money this year, and in October, it attracted $13.8 million in funding, much of it from the Boston VC firm Weston Presidio.
For the time being, caution will prevail on the dot-com front. VCs will focus on seasoned private players or startups with models that mimic eBay Inc. (EBAY
) or trade in information. Still, more aggressive VCs, including Sutter Hill Ventures and Brand Equity Ventures, say they will risk money in such new areas as digital-photography services. For dot-coms, the message is clear: It's time to grow up. By Heather Green in New York and Arlene Weintraub in Los Angeles