Leo Lax loves high-tech startups. That's unusual. But what makes him unique is that he's willing to back your inspiration with his cash.
When Misha Nossik decided he needed more than his own bank account and his partner's wallet to develop a device for analyzing and interpreting data as it flows across the Internet, Leo Lax's name kept popping up. "Leo's name was on everybody's lips," Nossik recalls. "They said, 'If you want your technology to get subjected to some real scrutiny, you've got to get Leo's attention.' It was 'Leo, Leo.'"
Back in early 1998, however, reaching Lax was almost as difficult as picking up the phone and getting the prime minister. For months, Nossik, a Russian who came to Ottawa in 1994 by way of Israel, called and called, "but all I did was get through to one secretary who put me onto another level of secretaries." The demand for Lax's time was obvious. He was the founding head of Newbridge Networks Corp.'s affiliates program-and had helped put together funding, marketing and technology packages for 17 tech startups with a current market value of about $1.6 billion.
Eventually, a friendly broker talked to Lax on Nossik's behalf. "He also gave me Leo's secret cell phone number," says Nossik. "When I called, I got a response in half an hour." It was a response that, in the end, would result in much more than a mere audience with the great Newbridge guru. After a few charged and highly critical meetings, Lax agreed to back Nossik's startup, Solidum Systems Corp., which was operating out of one room above a Coca-Cola warehouse across from Ottawa's main bus barn.
Solidum, however, didn't become another Newbridge affiliate. Rather, it was the first investment Lax made after leaving Newbridge to create, along with partners Andy Katz and Stefan Opalski, Skypoint Capital Corp., a technology venture capital fund with a different and audaciously risky plan. Unlike their counterparts in California's Silicon Valley, most Canadian venture capital companies avoid early stage investments. In other words, if they were putting their money into amphibians instead of companies, they'd be looking at baby frogs. Not Skypoint. "Our ideal investment is before the tadpole," says Lax, a Romanian-born electrical engineer.
There are several sources of venture capital for tech companies in Canada, including Ottawa-based Capital Alliance Ventures Inc. and Celtic House International Corp. (the investment operation controlled by Newbridge founder Terry Matthews) and Vancouver's Ventures West Management Inc. But there's no question the Canadian venture capital market lags behind the US. Last year, almost US$13 billion was poured into high-tech companies by US venture capital firms, a 12% increase from 1997. By contrast, Canada's total venture capital spending in 1998-$1.8 billion-was even lower than 1997's rate.
Even worse, early stage startup companies in the Canadian tech arena generally find that no one's interested in them. This stems partly from an aversion to risk and partly because few, if any, Canadian high-tech funds have someone with Lax's background and credentials to separate the inspired from the insane. "From my experience, the Canadian venture community tends to be looking at mezzanine-level investment," says Michael Weider, president of Ottawa-based Tetranet Software Inc. In the end, it was a $1.2-million investment from the Japanese distributor of his Web site management software that allowed Weider to develop Tetranet to the point where it turned an estimated $200,000 profit on $2 million in sales after just two years of operation. With Skypoint, however, Weider expects that life may become easier for some Canadian startups. "Leo Lax and Andrew Katz are filling a void," says Weider. "Having more people like them would definitely be an asset."
Several factors are driving Skypoint into areas where few Canadian venture capital companies dare to go. The first is the fund's size-or, rather, its lack of it. By North American venture capital fund standards, Skypoint is pretty small, with only about $18 million under management in its Skypoint Telecom Fund. It is also able to make tiny initial investments in projects, some as low as $500,000.
More importantly, perhaps, Lax and his partners have the experience, skills and contacts that puny startups (at least one Skypoint company is operating from its founder's basement) usually need to transform geeks' dreams into viable businesses. Right now, Skypoint certainly doesn't have the resources of some US firms that drop, say, $10 million into a company and then use some of that to hire outside managers. But after 25 years at Newbridge, Mitel Corp. and elsewhere, Lax brings an understanding of how to launch startups, as well as a global network of contacts in the telecommunications field who are willing to meet with companies pushing new ideas. Katz, who was Newbridge's first outside accountant, is the moneyman, with experience working with several tech companies. Once an investment is made, Opalski helps guide growth based on experience that includes cofounding Ottawa-based networking-chip maker Skystone Systems in 1996 and selling it a year later to Internet equipment giant Cisco Systems for US$85 million.
"Leo Lax and Andrew Katz are filling a void," says one company president. "Having more people like them would definitely be an asset"
Skypoint also sticks to what it knows. Unlike other high-tech venture capital funds, which tend to take a broad portfolio approach to investing, Skypoint focuses only on plays in telecommunications and data networking-in short, the fields that made its founders wealthy enough to strike out on their own. As well, the company only scouts for investments in North America, the UK and Israel, all areas where its principals have key contacts from their earlier professional lives.
If you meet those criteria and are looking for money, Lax is obviously the guy to see. But he's one busy fellow. Many Canadian investors want to put money into tech startups. But they've found few outlets for their money simply because fund managers lack the technical background and experience to assess products they barely understand. So when Lax isn't lecturing tech-heads about business, he's educating investors about technology. "Skypoint gives us an insight into an industry you might not find on the public side," says Debra Alves, strategic investments portfolio manager for the CBC Pension Fund, which has put $5 million into Lax's fund. "The TSE 300 doesn't have that many technology stocks."
For Lawrence & Co., a Toronto-based venture capital fund that in late 1998 was one of the first to invest in Skypoint, much of the attraction was Lax's record during his Newbridge days."We pride ourselves on being the smart money in the health-care and IT areas, but we certainly didn't have the kind of depth in telecom that Leo and the Skypoint group have," says Ravi Sood, a Lawrence associate. "In our short involvement, it's worked out fabulously."
Some tech companies anybody can figure out. While it may not be entirely obvious how Amazon.com will make money, for example, at least its concept of selling books over the Internet is clear.
Then there are telecom and data networking stocks. The pages of Solidum's modest Web site are littered with references to such arcane things as PAX programming language and wire-speed packet processing. Put simply, the company is developing chips that will allow Internet operators to sort out basic units of Internet data-packets-while they're moving. Right now, that process only takes place inside destination computers. Moving it onto the network means, among other things, that time-sensitive packets-such as those carrying Internet telephone calls-could get priority over, say, someone spamming unsolicited advertising via e-mail. Similarly, networks could use Solidum's chips to give priority to the Internet data of customers willing to pay for premium service. If it all works, the potential is enormous.
But when Nossik and his partner, Feliks Welfeld, went shopping for money to expand Solidum-which by that point had six people crammed into its one-room headquarters-they quickly discovered that most Canadian venture fund managers wanted to wait until at least part of their potential had turned tangible. Even worse, it was obvious that most fund managers had limited comprehension of the technology behind the company's plan. "Generally speaking, in Canada you're dealing with people who took some courses and attended some conferences," says Nossik. "They don't really get it." Spurned early on, Nossik has vowed not to give priority to the Canadian venture capital market-except Skypoint and Lawrence-in the future, despite some fund managers' suggestions that he come back when Solidum's a tad bigger. "There's better money and worse money. Generally money from people who don't understand you and don't appreciate what you do is worse money."
So Nossik looked south. First stop: Boston, which is becoming a key source of venture capital for Ottawa companies. There, he met with officials from five funds, who all had solid engineering credentials, if relatively less experience. Knowledge-wise, things were even better in California, where Nossik then talked with people who had as much as 15 years of engineering design experience. But everywhere he went stateside, Nossik found investors hesitant because of Solidum's Canadian base. "In Silicon Valley, at least six months to a year ago, they didn't know where Ottawa is," he says.
Lax, of course, peers out of his office across the scrubby poplar bushes of Ottawa's greenbelt at the skyline of the national capital. His base is one of two new towers behind Newbridge headquarters that are also part of Matthews' personal investments, investments that include a stake in Skypoint itself. Lax and Matthews, however, couldn't be more unlike. Whereas Matthews is sometimes given to theatrics and bombast, Lax is carefully controlled, speaking with a precision that could well be a legacy of his days studying at the Royal Military College in Kingston, Ont. and a 10-year stint as a signal officer in the Canadian Forces.
But it's clear that Matthews was also quick to identify another of Lax's key traits. Around Ottawa, Lax the engineer has earned a reputation for having a keen head for sorting out technical issues. But he's also a first-rate schmoozer-of the Henry Kissinger variety rather than the backslapping kind. Throughout his post-military career, Lax has flitted between small companies and big players. It was at Mitel, which he joined in 1981, that he first worked for Matthews and became involved in guiding startups as vice-president of emerging businesses before setting off on his own again to start Hipoint Information Technologies in early 1990.
"We need an individual who's passionately in love with this thing," Lax says, "who believes eternally that with it, the entire world will shift"
Matthews, however, was to return in 1992 as Lax was setting up telecom networks in Asia with Hipoint. "Terry convinced me it was silly to keep working away in my little company when it would be so much more energetic and energizing to work with him," Lax recalls. He was soon back with Matthews again, this time with Newbridge. His assignment was pure schmooze: to set up a panel of retired telecom executives who could provide introductions for Newbridge to potential customers, especially outside Canada. In addition, Lax developed the successful affiliates program to fill Newbridge's technology gaps in a way that could also provide investment returns. While he still has nothing but praise for Matthews, Lax says that eventually the itch to be on his own again became overwhelming. "My passion has always been to work with entrepreneurs in the early stages of their companies, and I was doing that," he says. "But, in many ways, I'm also an entrepreneur and I wanted to drive things myself." The fact that Lax's success with the affiliates program had attracted unsolicited offers to bankroll him if he started his own fund likely helped him make the decision to move.
In what would become a pattern for the five or so proposals Skypoint now evaluates each week, Nossik's first meeting with Lax and Katz was informal. Initially, Lax and Katz would clearly prefer to talk to prospects rather than endure the inevitable-and seemingly identical-charts of soaring potential sales and profit. For Nossik, the first session at Skypoint was fairly discouraging. While generally affable, Lax can be blunt. As Nossik recalls, "He said, 'Nothing makes sense. This is not going to fly. You guys don't know what you're doing.'"
As Lax explains it, however, there's a purpose to the torture test. He doesn't just want people with good ideas. He wants true believers. "We need to have an individual who's passionately in love with this thing," Lax explains. "He has to believe enterally that once this idea turns into a product, the entire world is going to shift. That's very difficult to find, but it's a key ingredient because on the way to success things get good and things get tough." As Katz puts it: "Slowly, Leo gets under their skin to find out what they're about.''
Of course, passion isn't everything. Lax also searches for the key factor that differentiates a would-be target company's idea from all other proposals. In the early sessions, which can sometimes run into four or five meetings, he also prods investment candidates to ensure that their vision isn't so powerful that they won't take direction and suggestions from Skypoint and, most importantly, from potential customers.
To Skypoint, Nossik and his partner Welfeld, Solidum's chief technology officer, seemed like a high-tech dream team. "Welfeld is a scientist who is a purist in his desire to solve the problem in the most elegant way," Lax says. "Nossik, on the other hand, is a driven and focused individual who will make sure the target is met, the path is clear-like a marine corps colonel."
Keeping a deadline vow they made when they founded Skypoint, Lax and Katz made Nossik a seed-money offer within two weeks. And then the real relationship began. Nossik, a mathematician who trained in Moscow, and Welfeld, an electronics engineer from Warsaw, aren't marketers-which led, in Lax's view, to their technology's biggest flaw: a lack of focus. At the heart of Solidum's system is a highly complex series of pattern-recognition technologies with a wide range of potential uses not only in communications, but elsewhere. The decision to focus on taming Internet data grew directly out of working with Skypoint. At the same time, Katz acted as an unofficial chief financial officer, allowing Nossik and Welfeld to concentrate on their technology.
Key to shaping their concept into a product were visits to potential customers-including Nortel Networks and Cisco-brokered by Skypoint. That's become a vital ritual for each of the four companies that have so far received the company's backing. (To date, the company has provided funds to Solidum; Telexis Corp., a well-developed Newbridge affiliate that makes systems for moving video across computer networks; BitFlash Graphics Inc., another Ottawa company that's developing graphics software using the Java programming system; and Trellis Photonics Corp. of Israel, which is trying to commercialize crystals that use holograms to redirect light on command.) "It's only the key people at big companies who deal with planning issues who can tell you not to do a blue widget with 24 corners on it because everyone's looking for the green one with four corners,'' says Lax in his clipped eastern European accent.
Solidum's still in the Coca-Cola warehouse, and its door, until recently, was marked with a battered cardboard sign. But rather than one room, that door now leads to a full suite of offices staffed with the sorts of people you'd expect to find in a real company, including a chief financial officer and vice-president of marketing. Much of that is being paid for by a $2.5-million round of funding completed in April, which, again, came largely from Skypoint. Largely, but not entirely. On the strength of Lax's endorsement, Lawrence & Co. also made a direct investment in Solidum-on top of its indirect stake through Skypoint.
Of course, it's much easier to reach Lax now than during his Newbridge days. Skypoint even solicits proposals on its Web site. Tetranet's Weider, who's currently looking for US$10 million, got a session with Lax and Katz even though his company is too far along in its development for Skypoint and outside of the fund's area of focus. Even more amazing, however, is that, after the meeting, Lax-with absolutely nothing to gain personally-made calls on Weider's behalf and helped direct him to more suitable investors. "They are a very decent group," Weider says.
Skypoint, as well, has dreams of expansion. In mid-May, the company rounded up about 25 investors and would-be investors for its annual meeting in a downtown Ottawa hotel. The crowd of suits-only two Lawrence reps showed up in casual wear-was clearly not the normal environment for Lax and Katz, who favor golf shirts and Levi's Dockers around the office. But wearing a suit for a few hours is probably the easiest concession the two have to make if they are to reach their goal of boosting their fund from $18 million to $75 million by the end of the year.
Since starting Skypoint, Lax has found that, by and large, Canadian investors remain true to their conservative stereotype. Amused and frustrated, he recalls that after pitching Skypoint to one senior moneyman, the investor replied: "You mean to say you'd give $1 million to a 21-year-old with a ponytail?" Lax's response? "In the high-tech business a 21-year-old with a ponytail may be exactly the guy you want to support." If Skypoint's results match those of aggressive US venture capital funds, Lax may one day succeed in forcing Canadian investors to turn their attention away from hairdos-and toward the strength of high-tech ideas.
Copyright Canadian Business, 1999. All rights reserved. www.canbus.com