Divine InterVentures and ICG Cut and Shift

In a move 180 degrees opposite its “Internet zaibatsu” philosophy of collaboration and strength in numbers, Divine InterVentures laid off 18 employees from its 41-member partner development group on Nov. 3. Publicly traded peer Internet Capital Group followed suit less than a week later, announcing company-wide layoffs of about 50 of its 140 employees.

David Onak, a spokesperson at Divine, said the decision to cut staff was made “very recently” in light of current market conditions and the overall slowdown of capital flowing into the Internet space.

Perhaps a more telling explanation is the Internet incubator?s plan to focus on strengthening its existing portfolio companies while ferreting out fewer new ventures.

“Our number one priority is working with our companies and helping them grow,” he said.

Still, Onak said the shift by no means signals a strategy overhaul. Divine still plans to seek out new investment opportunities, albeit at a significantly slower pace than it has in the past. Since beginning operations in June 1999, the Lisle, Ill.-based firm has made more than 50 investments, primarily in e-commerce plays such as LiveOnTheNet and beautyjungle.com.

In light of the mantra Divine Chief Executive Andrew “Flip” Flipowski has coined in several recent interviews when asked for his response to current market conditions, the staff cuts could very well spell a new mission for the company. That mantra? “Roll ?em up. Lay ?em off. Roll ?em up.”

In essence, it means that, instead of investing in new start-ups, Divine picks up undervalued fledgling companies at bargain-basement prices, consolidates them and attempts to get them back on their feet.

It?s a strategy that?s slowly chugged along throughout the year. In March, the firm merged North Carolina-based Farms.com with eHarvest.com, and in September, sold off Oilspot to Houston-based FuelQuest.

No More Land GrabICG, which nurtures mostly b-to-b plays, intends to shift gears to become more involved in its companies? operations as well.

“The b-to-b market has evolved, and we?ve passed from the land grab phase into the operational excellence phase,” said Michelle Strykowski, an ICG spokesperson. “Before, we were extremely aggressive in acquiring and building companies. Now we?re concentrating on building the companies we acquired.”

The company?s increased focus on operational expertise necessitated the staff cuts, she added.

ICG currently has 80 companies in its portfolio, and announced in its third-quarter conference call to investors on Nov. 8 that it will concentrate a majority of its resources on 15 that show the greatest potential to create value for the firm. Among them are Jamcracker, Logistics.com and United Messaging.

“These 15 companies are in our ?development category,? which includes those that show potential to be profitable first and be winners in the market,” Strykowski said.

To get to that point, she estimated that the start-ups would need a $100 million to $150 million infusion from ICG in 2001. With $500 million in liquid resources, the firm is prepared to make those capital commitments, Strykowski added.

The other 65 start-ups will remain in ICG?s incubator network. Although some may continue to receive capital from ICG, Strykowski said the firm isn?t likely to take a lead role in many of those investments, and there are a few companies that won?t get any financing.

Winds of Change?

David Clawson, an analyst with Credit Suisse First Boston, said while the layoffs could mean bad news for the companies, they are simply a symptom of a much deeper-seated problem in the Internet space.

“The biggest questions investors are asking right now is, ?Are incubators and Internet holding companies viable operating models and good uses of capital??” Clawson noted.

Although the jury is still deliberating the verdict, there?s evidence that many investors are beginning to lose hope ? and interest. As recently as a few months ago, investors flocked to bet the farm in the incubator crap shoot, perhaps putting too much blind faith into those companies? abilities to scout promising start-ups and quickly nurture them to become Nasdaq darlings.

“Money was free earlier this year,” said Eric Upin, an analyst with Robertson Stephens. “It was a gold rush with very little scrutiny.”

That?s no longer the case. Incubators once scrambled to differentiate themselves in the market to get their hands on capital for their tribes of start-ups. Now, it?s no secret that the venture capital well is fast drying up.

Moreover, it?s become increasingly difficult for incubators to take their companies public.

“Companies [like ICG and Divine] are nothing more than a mirror of the Nasdaq and public market activity,” Upin noted. “They?re only as valuable as their underlying companies. For many of those early-stage start-ups, the public markets are closed for what could be years. Consequently, incubators have to pick the right companies to take public to increase their book value of equity.”

But can companies accustomed to embracing entrepreneurs? ideas and helping them take off downshift into the sedate role of managing them to some measure of success?

Upin believes they can, but it won?t be easy. “It will take good management and execution, an ability to keep their rainy day money dry, and a portfolio of successful companies,” he said.