From the Partnership

Our March newsletter appears in a macroeconomic environment that continues to be very difficult for all. We are fortunate in having the means to continue investing at our historical pace for 2009 and 2010, but recognize that many investors and many entrepreneurs are facing extreme challenges with courage and ingenuity. We salute you all because, at the end of the day, it is innovation, and innovative startup businesses, that will offer the most durable improvements to our economy, our jobs picture, and our global competitiveness.

In this issue of our newsletter, we hear from Jeff Anderson, the CEO of Quick Hit Sports, one of our newest investments, an online gaming company in a business that is said to be recession-resistant (although, as Jeff says below, no business is utterly recession-proof).

General Partner Art Marks offers some thoughts on valuation emerging from our experiences in the downturn, and Research Analyst Leon Zilber writes about "Journalism 2.0", an investment thesis we are pursuing rooted in the transformation of the news business.

As always, we welcome your comments and questions. Please email to editor@valhallapartners.com.

Valhalla CEOs: Jeff Anderson

What gave you the idea for Quick Hit?

I saw a major void in the market with online sports games and knew if I could create games that combined the quick and easy access of web-based games with the graphical quality and authentic game play of console games that I would be offering something the market had never seen. Coming from the MMO ["Massively multi-player online" games, ed.] world, I knew that MMOs inspire deeply loyal communities and thought if I could capitalize on the trends around sports games, web games and MMOs all in one product, we would have something truly unique...

Are you seeing any tailwind for gaming in this economic climate?

There are a lot of stories out there calling the games industry a "recession proof" sector. I don't think any sector is recession proof, but I think that gaming is less affected than other areas since it's a form of entertainment that helps people escape from some of the other stresses and pressures of life. In our case, I think it's even more fortuitous because our games are free to play.

What does the future of gaming look like in five years? Where will Quick Hit play in that world?

I think five years from now, you will see games become even more social, more affordable and more pervasive. Online gaming has created an environment for gamers where they can play the games they love, and make friends and socialize while doing it. Very few people will be playing against the computer, but rather will be part of leagues and guilds that connect them beyond just the game.

You are also going to see companies move to a free-to-play or a freemium model. It's likely that five years from now you will still see consumers looking for ways to get the most entertainment value at the lowest price point.

What advice would you give to entrepreneurs from lessons you have learned?

I have been through many lifecycles in the gaming industry, from working at established companies like Electronic Arts, to growing a relatively unknown company (Turbine) into one of the market's leading MMORPGs ["MMO Role-playing game", ed.] and now, with Quick Hit, I'm building a startup from the ground level. All those experiences have reinforced that if you can create a value proposition that fills a void in the market, take the risk. Down economies spur innovation and now is a great time to start a company. You need to really understand your audience and ensure you create something compelling. You need to be able to articulate your message in one sentence. And clarity of vision is vital - particularly in these trying financial times when venture capitalists are watching where they invest their funds.

Partners' Viewpoint: Art Marks on Valuations

Although of course all valuation of companies is rooted in consideration of their potential for generating earnings, the difficulty of forecasting future earnings for an early-stage company (in many cases, distant future earnings) has strongly skewed the venture-capital business into valuing companies on the basis of future revenues rather than earnings (which appear easier to model) to the extent that we have all but lost sight of the criticality of earnings. In the current downturn, earnings are not just a measure of value but also a means of survival for our companies. We believe that focusing more on long-term earnings forecasts for companies will become important in the current downturn and its aftermath.

At a recent offsite, we discussed an approach to quantifying the risk associated with future earnings from a company using a methodology advocated by Professor Bill Sahlman of Harvard Business School. Sahlman recommends deriving a discount for very early companies by adding up separate discounts for

1. A “base rate of return” appropriate to a theoretical risk-free investment for a time period similar to the venture investment,
2. A “systemic risk premium” representing the sensitivity of the exit value of the company to general market conditions (largely the anticipated general value of companies in our sectors at the time of exit,
3. A “liquidity premium” representing the risk of a more illiquid private investment compared to a public company,
4. A “value added” premium representing the risk that the investor’s value add will or will not help the company and
5. A “cash flow” adjustment representing the risk that a startup company will or will not be able to deliver the earnings flows that it forecasts.

We recommend Sahlman’s note in its entirety, which is available for a nominal price at Harvard Business Online

Journalism 2.0: Leon Zilber, Valhalla Partners Research

Circulation of print media has been declining for decades, and a good portion of that lost readership has moved online. According to the Pew Research Center, more than 31 percent of the U.S. population gets their news online today. But a recent shift of advertising from print media to online has exacerbated the problems of the industry, particularly the loss of print-media classified advertising, which has dramatically shifted in just a few years.

Newspaper management has attempted to react. Many newspapers now offer content online, but these newspaper websites have to compete with online properties with a boutique focus. For entertainment news, TMZ and PopSugar are must-visit sites, while Politico is a great example of building a news site with a sharp political focus. Because of the singular focus of boutique sites, online newspaper sites find it difficult to compete with these newcomers in any area besides local news.

Successful business models for Journalism 2.0 companies are still emerging. What is clear is that online advertising alone will not support newsrooms of the size and variety found in the typical Journalism 1.0 business. The successful newcomers will have to combine online advertising savvy with revolutionary re-thinking of news-gathering and editorial processes, and will need to find a way to get subscribers to pay at least some of the freight.

Portfolio News

New Investments

Flat World Knowledge

Flat World Knowledge, Inc., Nyack, NY

Valhalla Partners led an $8.0 million Series A round in Flat World Knowledge, Inc. Greenhill Venture Partners and High Peaks Ventures also participated.

Flat World Knowledge publishes college textbooks from some of the world's top authors, distributing them to universities for free in a commercial open source online format so universities can customize them for use in their courses. The company sells affordable alternative formats such as print-on-demand full color and black and white print versions, PDF versions, podcast and .mp3 versions, as well as Flat World Knowledge and user-generated study aides such as mobile flash cards and web quizzes to support the books. The company will enhance its value by building vibrant student social learning networks around these free books.

Quick Hit, Inc.

Quick Hit, Inc., Foxboro, MA

Quick Hit is building a series of free-to-play, multi-player, competitive sports games with which it hopes to acquire customers at a very low expense and monetize through advertising and the sale of premium features. The company is working on securing licenses with the major sports organizations so that the names and statistics of major league sports players can be used in the games.

Follow-on Investments

GetWellNetwork, Inc.

GetWellNetwork, Inc., Bethesda, MD

GetWellNetwork is a leader in the emerging segment of Interactive Patient Care (IPC). GetWellNetwork's IPC platform is comprised of both hardware and software and is sold to hospitals as a PatientLife System. Once installed, the PatientLife System allows patients and family members to interact with care givers from the bedside through automated workflows called Patient Pathways.

Sepaton, Inc.

SEPATON, Inc., Marlborough, MA

SEPATON, Inc. provides enterprise customers with affordable high performance data protection applications, which are non-disruptive to their existing infrastructure and business practices.

Q & A

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Please click here to submit feedback. We will undertake to respond to every submission, and to print those of general interest in this section. The partnership is happy to address topics such as hot technologies, exit strategies, or due diligence. We look forward to hearing from you.

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