Arthur Andersen Venture Fund Adds Net Start-ups to Its Equation

It seems everyone wants in on the venture capital game these days: investment bankers, lawyers, college students--and now accountants.

Arthur Andersen last week unveiled a $500-million venture fund targeting Internet start-ups, and, of course, much of the money will be invested in California, according to Paul Keglevic, managing partner of the company’s Pacific region.

“Everyone is trying to figure out what this new economy means and what it means to them,� Keglevic said. “Even if you don’t have ‘dot-com’ in your name, it needs to be in your strategy.�

Like most of the “old economy� giants, including accounting rivals such as Ernst & Young and PricewaterhouseCoopers, Arthur Andersen is struggling to define its place in this new economy. But Chicago-based Andersen is the first of the Big Five accounting firms to set up such a large venture fund for Internet start-ups. Through the fund it will take equity stakes in Web companies, a strategy once considered too risky by accounting, legal and other advisory firms, but now becoming more common.

Management consulting giant Andersen Consulting, which is also a unit of Arthur Andersen parent Andersen Worldwide, in December launched a $1-billion fund to invest in Internet start-ups worldwide.

Some observers question the wisdom of accountants and consultants trying to be venture capitalists.

“It’s like when cab drivers start talking about stocks--you know it’s time to sell,� said James Montgomery, head of Digital Coast Partners, a merchant bank in Santa Monica that controls a small venture fund. “When accounting firms start talking about venture capital, I get worried.�

But Keglevic argues this is not a strategy shift for the company.

“We’ve always been VCs--in that we’ve always helped companies go from very small to very successful,� he said. “Now, instead of cash, we will sometimes accept paper,� meaning stock or warrants.

However, some analysts warn that by casting aside traditional fee-based advisor-client relationships, accounting companies and other advisory firms risk exposure to potential conflicts of interest, not to mention financial losses through such volatile investments.

“There’s always that concern, but even the CIA has a venture fund, so that could be a problem as well. It’s kind of an ‘everyone-is-doing-it’ mentality,� said Jesse Reyes, president of Venture Economics, a data firm in New Jersey. “And in these go-go days of good news, we’re up so high that no one is looking down. Nothing bad has happened, so people tend to minimize what the potential hazards could be.�

Dick Poladian, the managing partner at Arthur Andersen in Los Angeles who will direct the fund’s investments in the region, said the company is sensitive to those issues.

“The fact of the matter is that the currency that e-business companies want to use to compensate their service providers has changed,� from cash fees to equity stakes, he said.

The new fund, Arthur Andersen Ventures, will focus on business-to-business commerce, new media and Internet services. It expects to make 15 to 20 investments this year and representatives are already in talks with three Southern California companies, Poladian said. Because Southern California is at the epicenter of the technology-entertainment convergence, companies here should get a good share of the cash.

The $500 million will come from profit generated at Andersen, making this a “corporate venture fund,� rather than a traditional venture fund that uses money mostly from outside investors.

Andersen will run the fund through an alliance with U.S. Venture Partners, an established venture fund in Menlo Park, Calif., that has more than $1.5 billion invested. U.S. Venture Partners will evaluate and manage the venture assets. Andersen will co-manage it and help choose the start-ups.

Some question whether a big company such as Andersen will have the flexibility to move quickly to make investments, a key to the success of any venture capital effort.

“We act with a sense of urgency,� Poladian said. “And we have people all over the world where these companies are.�

Arthur Andersen is entering a crowded field, as there are more than 1,200 venture companies in the United States, according to Venture Economics.

“Integration is the key: Some companies can help a start-up with a Web site, others with a back office or tax-planning effort, but we do it all,� Poladian said.

Arthur Andersen already networks with established companies looking to create an e-business strategy and Internet start-ups through its “100 Days to Market� program, which helps companies get their books in shape before an initial public offering as well as subsequent stock offerings. In that program, Andersen bundles several services, such as tax and financial assistance and Web page design.

As part of that program, Andersen will take an equity stake in lieu of fees.

Current clients include Stamps.com, a Santa Monica online postal company; Autobytel.com, an Irvine online car seller; Rightstart.com, a Westlake Village online seller of baby products; Jewelry.com, an El Segundo online jewelry seller; Stockjungle.com, a Culver City online mutual fund company; and Answerfriend.com, a Los Angeles Internet firm that helps customers navigate the Web and answers their questions.

Andersen is also providing assistance to Think Tank, the new Orange County business incubator started by Aliso Viejo-based Buy.com’s founder, Scott Blum. Andersen will be providing “100 Days to Market� assistance for all of Blum’s incubator companies (so far there are about 10), Greg Goodman, who heads Arthur Andersen’s e-commerce practice in Los Angeles, said.

Still, Andersen is not alone in jumping on the e-business gravy train. Cleveland-based Ernst & Young, which has 2,400 employees in Southern California, has several large e-company clients such as Santa Monica retailer EToys and Los Angeles consumer firm Bizrate.com, and runs several small venture funds of its own, said Julie Lytle, partner and director of marketing for Ernst & Young in Los Angeles.

“Our strategy is not just to add capital, but to help these companies get off the ground,� she said. “Los Angeles is an extraordinarily attractive market for us,� as so many Internet companies are sprouting up here, she said.

Arthur Andersen hopes its new fund will help it attract and keep talent in this highly competitive climate, as some of the partners, and possibly other employees, will be able to share in the profit.

In other venture news, the money continues to flow to Southern California companies.

Iwin.com, a Los Angeles Internet firm specializing in incentive-based games and interactive entertainment sites, recently completed a second round of financing. Iwin.com got a $25-million investment from a group led by Rader Reinfrank & Co., a private equity firm in Los Angeles. Individual investors included Randall Kaplan, a former managing director of SunAmerica and co-founder of Akamai Technologies, a Cambridge, Mass.-based Internet content delivery company; and Al Checchi, former California gubernatorial candidate and former chairman of Northwest Airlines.

East/West Capital, a Los Angeles venture fund with more than $250 million in committed capital, is expected to announce today that it is leading an $8-million investment into Codexa Inc., a Pasadena information provider to Wall Street professionals.

Times wire services were used in compiling this report. Remember that initial public offerings are highly speculative and not suitable for all investors. Debora Vrana covers investment banking and the securities industry for The Times. She can be reached by e-mail at [email protected] or by mail at Business Section, Los Angeles Times, Times Mirror Square, Los Angeles, CA 90053.