August 27, 2008, 12:00 AM

New capital wave

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Like the online DVD rental company, Bag Borrow or Steal rents its products, though under a more complicated pricing model. It charges rental fees by the week or month for handbags, jewelry and sunglasses, plus shipping fees on each order. Customers pay discounted rental fees if they buy a membership at fees ranging from $9.95 per month to $59.95 per year. Members can rent a Louis Vuitton handbag on for $43 per week or $125 per month. Non-members pay $66 per week or $166 per month. If customers feel they can’t part with a rented item, they can purchase or “steal” it a current market price determined by the retailer.

The formula has enabled Bag Borrow or Steal to grow from $250,000 in revenue four years ago to more than $15 million projected for this year, Goodrich says.

For, attracting venture capital has required a long road of ongoing improvements since it launched in 1999, Gniwisch says. The retailer suffered through early years marked by uncertainty over how it would approach the retail market-first as an independent online jewelry retailer, then as part of a broader merchandising strategy planned by Idealab, which acquired shares of Ice and other web retailers in late 1999.

When the mass merchant idea fell flat, Gniwisch and his partners bought Ice back a year later for the assumption of about $600,000 in debt, then gradually built the company on product selection and customer service. By 2005, in an effort to fund faster growth, it secured $12 million from Ignition Partners, followed by $47 million late last year from Ignition and Polaris Venture Partners

Ice has used some of the capital to expand its e-commerce technology beyond its home-grown platform to include Blue Martini software for content management and order processing, and it plans to continue upgrading technology as well develop customer acquisition and retention programs, Gniwisch says.

Vendors of e-commerce technology have also modified their business plans on the way to venture capital. SellPoint Inc. launched in 2000 under its former name of Tentoe and offered a range of product information services that enabled manufacturers to distribute product specifications and image files to online retailers. But it decided to focus on a core competency in online instructional product tours, including videos and product manuals, which SellPoint sells to manufacturers and displays on retail sites at no charge to merchants.

The product tours have won over customers like Calumet Photo, a Chicago-based retailer of cameras and related equipment. “They’re helping our conversion rates while providing a wow factor among customers who say the tours are great,” says Joe Henson, Calumet’s chief technology officer.

SellPoint’s new business model, meanwhile, has sparked the technology company’s growth and pushed it within reach of profitability, enabling it to secure nearly $20 million in venture capital, SellPoint CEO Rick Martin says. The funding has included early seed capital from unnamed angel investors and two institutional rounds of funding, the first from Menlo Ventures and the second from Menlo and Granite Ventures. “That new strategy attracted Menlo Ventures and Granite Ventures,” he says. “The expectations by venture capital firms for growth are very high.”

Focus on financials

After their experiences in the ‘90s with online retailers that started out with great fanfare but then faltered because they couldn’t score with customers, venture capitalists are looking hard today at financial fundamentals that indicate a retailer’s basis for continued growth.

“Many retailers run on thin profit margins, so they have to watch all operations-it’s not just about revenue,” Jensen says. “They need to show a clear path to profitability, but a lot of times that gets forgotten.”

When advising retailers in seeking venture capital, Jensen looks at criteria such as growth in number of customers, number of month-to-month repeat customers, number of customer complaints, and the number of product returns, he says.

E-retailers also should take advantage of their Internet presence to improve back-end operations like inventory management and accounting, putting them in a better position to improve financial performance and attract outside capital investors, experts say.

Peeling the onion

“A lot of retail web sites look sexy, but if you peel the onion you may find they operate with old-fashioned accounting,” Jensen says. “If your business is done electronically, you should take advantage of it to automatically update your back-room applications.”

Investing in the right web site technology can also go a long way toward making an e-retailer more attractive to financial backers. New Web 2.0 technologies that give shoppers more control over an interactive and even entertaining shopping experience-for example, online merchandising displays that let shoppers rotate or enlarge product images-are important in many retail environments to provide the kind of shopping experience customers have come to expect. But such features can also be crucial to supporting a retailer’s profit margin and attractiveness to continued financial backing from investors, Jensen says.

“One of the big problems in online retailing is that shoppers can too easily order the wrong size or color dress or pair of shoes, and that creates a lot of two-way traffic through orders and returns,” he says. “That’s good for UPS, but it’s bad for the online retailer. Technologies that show what a color really looks like and virtual models that help shoppers see the exact size they need can really put an online retailer on the map and support its profitable growth.”

Investors will also consider a retailer’s ability to capitalize on multi-channel retailing and other strategies to build on an Internet presence, experts say.

Multi-channel deals

“Deals have been done where investors say, ‘We’ll give you money if you develop a multi-channel strategy,” says Jim Okamura, senior partner at retail consultants J.C. Williams Group.

Bass, however, cautions that start-up retailers may need to become established in a single channel first before getting funding to address multiple channels simultaneously. “Many investors want to fund Internet pure-plays or just catalogs or just stores,” he says.

Even if a company has a well developed plan and a clear execution, investors still want to see who’s in charge. In Fair Indigo’s case, it helped to have a personal connection at Highfields in addition to a Fair Indigo management team of former retail executives from Lands’ End, Bass says.

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