An aerial view of the high-tech world – a desirable destination until six months ago – looks like a city after an earthquake. Entrepreneur Yossi Vardi is pained by the situation. He compares the current situation to a man who does not sow now, but expects to reap in two years. His question is clear: If no-one will invest in seed stage companies today, in whom will the advanced-stage investment funds invest in the future?
Peregrine Ventures CEO Eyal Lifchitz, his brother, president & CFO Boaz Lifchitz, and COO & general counsel Boaz Weil took up Vardi's challenge. They claim they're made of the right stuff. In a similar article a year ago, Lifchitz was called an angel, but he now has an organized operation in the form of a venture capital fund – one that relies on his abilities as a successful angel. He says, "From my perspective, risks are no greater at early stages than at later ones, simply because we're professionals at these stages. We know the job, and have done it often enough, quite successfully, in my opinion." Lifchitz learned all about the field as CEO of ECR- Electric Chemical Research, a company which he also founded. The company was sold to AVX Corporation (NYSE: AVX) of the US in May 2000.
He backs up his words with a list of the partners' investments. They helped found VisionCare Ophthalmic Technologies, ECR, BioControl Medical, and PharmaSys, as well as ClearForest and OrAccess. They have also invested in Envision Advanced Medical Systems and Comgates. The partners have used their own capital to make the investments. Lifchitz is proud of the104% internal rate of return the three men have earned from their investments in recent years.
The operation they founded is named Peregrine Ventures, and it has completed a $15 million financing round for a seven-year fund from Israeli and foreign investors. Lifchitz says the amount is not final, and the initial capital may increase, due to demand.
The money is intended for investment in early-stage companies, which Eyal Lifchitz divides into two groups, "There's what we call zero-stage investment, before seed, which in turn precedes the start-up stage. The zero-stage is the concept stage, such as (the stage at which we invested in) OrAccess. They came to us with an idea, and we carried out a thorough due diligence of the technological and commercial aspects with the help of Lucent (Nasdaq: LU). We then entered with a $1.5 million investment. Four months later, Cisco Systems (Nasdaq: CSCO) and Sequoia Capital invested $10 million. This increase in value is the difference between the zero-stage and the seed stage."
"In the case of VisionCare, the process took a year. The business is more defined and organized at the seed stage. There are patents, a registered company, a team. All that's needed is to move forward. At this stage, we'll invite other funds, and anly after that will the first institutional financing round by investment funds occur."
"Globes": How do you work with a zero-stage company?
Eyal Lifchitz: "We break down the zero-stage into a series of milestones in order to examine whether the idea is feasible. We carry out a thorough technological study, but we mostly discuss business development. We three didn't come from the technical world, but from the business world, and that's our orientation. We register patents."
How much will you invest at the zero and seed stages?
"We're talking about tens of thousands of dollars, up to a maximum of a few hundred thousand dollars. We help the companies run with the ball, while they are physically located near us. At the seed stage, we're talking about an investment from a few hundred thousand to $1 million. We won't invest more than 15% of the fund's capital in any one company, i.e. $2.5 million. This means investing in a maximum of 15 companies. We'll invest in 4-6 companies a year, tops."
The main investor in Peregrine Ventures is the Siemens Pension Fund. The fund's Israeli investors are the Dovrat Group, the Investments Corporation of United Mizrahi Bank, Maabarot Products, and private investors. Peregrine Ventures will invest in companies developing technologies in communications, organization applications, and the life sciences.
$15 million is not a munificent sum, even for early stage investments. The amount will not allow the fund to invest in a company's later stages. This creates two problems: For investors, there is a loss of upside caused by the dilution from later financing rounds; secondly, at a time when capital is not exactly flowing, part of a fund's strength is based on its ability to make follow-up investments in a company. Lifchitz says he is aware of these problems from his experience as an angel, which is why he decided to invest under a fund's auspices.
The fund has found an answer to these problems through an unusually sophisticated mechanism that will allow it to make follow-up investments, thereby avoiding dilution.
How does the mechanism work?
"Siemens Pension Fund reached an agreement with us, whereby they will invest $12 for each $1 they invested in the pre-seed fund. In other words, there will be $60 million in follow-up investments. The other investors will also invest at a 10:1 or 15:1 ratio. This is not a commitment, but a goal. The follow-up investment mechanism works under the fund's auspices. Peregrine Venture's investment committee will decide on follow-up investments in a company, and the fund will earn management fees and participate in the carry on the exits made by the direct investments of its investors. The fund's investors have the final word on their direct follow-up investments. If a company's technology is suitable for the investor, it will invest, and if not, it won't. Our investors invested in us based on our reputation of investing in pure technology. The mechanism is more a matter of dynamics and trust than a legal obligation."
Lifchitz says they approach entrepreneurs in several different ways. There is the normal route of the entrepreneurs taking the initiative, as they seek financing from a variety of sources. Also, the fund approaches entrepreneurs after identifying a market need for a particular product. Lifchitz says the fund's threesome has excellent connections with Israel’s universities, and are systematically looking for solutions to medical conditions afflicting at least 0.3% of the population. Entrepreneurs who knew the fund's directors in the past have approached Peregrine Ventures for financing. The founders of ClearForest and OrAccess fall into this category.
The current situation has hurt some of your portfolio companies. ClearForest, for example, laid off a major portion of its work-force.
"We're particularly close to ClearForest. After they raised $13.5 million, we analyzed the market situation and decided on a new budget deployment, based on a two-year period, replacing the earlier plan. The situation required it. Even though it hurt some workers, it was the right thing to do."
Published by Israel's Business Arena on 17 July 2001