After Weak Exits In Digital Music, VCs Start Smaller

The digital music companies that gave investors high hopes in 2007 haven’t resulted in great returns in 2009. Imeem and iLike have produced weak exits for stakeholders, and Apple’s purchase of Lala seems to have generated a lukewarm return at best. In an afternoon panel concerning venture funding at yesterday’s SF MusicTech Summit, three VCs outlined their new expectations for music startups: They’re not giving up on music investments, but they’re starting much smaller.

Although a handful of companies have raised substantial rounds this year — among them Pandora, Spotify and MOG — expectations for digital music companies are vastly different than they were a couple of years ago. The lone home-run exit,’s $280 million sale to CBS that resulted in a payday for Index Ventures in mid-2007, now seems like ancient history. Indeed, panelist Mark Sugarman of MHS Capital conceded that it “was done in another era.” (MHS held a stake in iLike, and Sugarman noted that “we did make money on the acquisition.”)

Rather, Sugarman, along with Larry Marcus of Walden Venture Capital and Ethan  Jacks of Silverwood Partners spent much of the panel discussing investments with much smaller needs and humbler goals. Marcus, a Pandora stakeholder, said flatly that he would refuse any investment that requires expensive deals with record labels, as Imeem and Lala did, adding that he was primarily interested in those of $2 million or less in companies “that are already up and running.” Jacks, too, said startups that might have aimed for $30 million in funding a few years ago should now be targeting the $5 milion-$8 million range. “Small and scrappy is beautiful,” he opined.

The lack of strong exits and nonexistent IPO window may have turned off many investors, but the digital music sector isn’t completely bereft of opportunities. Marcus, for one, was especially bullish on the possibilities offered by music-enabled phones — he’s invested in song-identifying technology developer Melodis, whose Midomi product is among the top paid music apps on the iPhone. And Jacks offered this bit of perspective: $154 billion of venture money is still waiting to be invested. With that kind of money floating around, and music startups continuing to innovate, opportunities are bound to present themselves — even if VCs don’t expect what they did a couple of years ago.

Image courtesy Julie Blaustein.