Yes, You Can Build a Web Company in India. Here's How.

by Sarah Lacy on Mar 24, 2010

Silicon Valley and India have a cozy relationship, but a big question has resulted in friction, failed companies and millions in losses: When will the Internet catch on in India in a big way?

A few companies have done well and a few more are coming up, slowly but surely. But there are hardly any true breakout hits.

RedBus is pretty close. It's essentially an Expedia for bus tickets in India. It sells about 3,500 bus seats per day, is the fourth most-trafficked Web site in India and has at least tripled its revenues year-over-year. The company sells seats for roughly half the bus operators in India, and that's saying something: This is an insanely fragmented market that had next to zero centralization just a few years ago. All of this has been built in three years on about $1 million in venture funding. (The company raised another $1.3 million in 2008, but it's still in the bank. Investors include Helion, Inventus and Seedfund.)

I can vouch for the company being cheap. Having spent my morning in the plush eight-acre Infosys headquarters, the offices of RedBus were a marked contrast. They are split among two buildings located in one of those very chaotic Indian neighborhoods where vendors are shouting, cows are wandering and smell of open sewers is not too far off. It feels far from the sanitized, steel-and-glass rows of multinationals.

None of this is intended as an insult– co-founder and CEO Phanindra Sama is proud of his cheapness. (Sama is pictured above, sorry it's so blurry. My camera was having issues.) We met in a no-frills, un-airconditioned conference room. He didn't turn on the air conditioning for famed Silicon Valley Indian entrepreneur Kanwal Rekhi, when he visited last month either—and Rekhi is an investor in RedBus.

Despite the sweat trickling down my forehead, arms, legs and back throughout the interview, I didn't want to leave. What Sama and his two founders have pulled off in a short period of time with little funding in India is impressive.

Background for Americans: There are two kinds of buses in India—those that make stops and have ticket-takers on board and that go to one destination only and sell pre-paid tickets only. There are some 3,000 operators of the latter category and, before RedBus, there was no way to contact them directly. To get a bus ticket, you went to an agent. That agent only had inventory from a few bus lines. To book the ticket, he or she would call one person who was in charge of booking every seat on that particular route. There was a long wait time, and frequently the routes the agents knew about were sold out – meaning you had to change your travel plans, or find another agent who had different sources. Meanwhile there was no standardization on pricing and commissions. The agent simply wrote the cost on a piece of paper and if you wanted to ride, you paid it.

Now, RedBus has a central database that gets seats from half of India's bus operators. It has done so well that it powers the bus ticket applications for most of India's more general travel sites like MakeMyTrip.com. It also sells an OpenTable-like software-as-a-service product to help bus companies manage their own inventory and better integrate their inventory with RedBus. In terms of seats, it sells less than 1% of the 750,000 rides taken daily, but with several channels and few other easy options, there's a ton of room to grow a big company.

Sama didn't set out to build a company. I know that's a cliché with startups these days, but it's a rarity in Bangalore where the glamor of being a Web entrepreneur runs high and plenty of TechCrunch-reading kids save up money, quit for a year, try to start a company, and go back to a multinational if it doesn't hit quickly. When RedBus's mentor first suggested the company raise $1 million, Sama gasped. He hadn't even thought in those amounts. His only immediate thought was: "If I had $1 million, I'd put it in the bank and make interest."

That mentor was Sanjay Anandaram formerly of Neta, Wipro and other ventures known between the Silicon Valley and Indian entrepreneur communities. Sama met Anandaram through TIE's JumpStartUp program. Despite the reach, influence and press of TIE—the uber-Indian networking organization started in the Valley— Sama is the first entrepreneur I've met in India who gives it this much credit for his company's survival.

Specifically, he cites Anandaram's advice. When RedBus was trying to sell software to the bus lines, it was Anandaram who said: Don't keep trying to sell the same thing, ask what they need and build that. The bus lines needed to sell seats. So RedBus built a site, and bought the inventory itself from the bus lines to list on the site. Once it proved it could move seats, the operators were happy to pay the company a percentage of seats sold.

Once the company could prove results, it was Anandaram who warned them to undersell expectations: Tell an operator you can sell one seat for them a month, even if you think you can sell fifty. If you sell two, you'll be a hero, not a disappointment. RedBus has carried that over to fundraising, admittedly forgoing higher valuations because it didn't want to oversell and under-deliver.

That's harder than it sounds for an entrepreneur, who is usually the single most bullish person on his company. And it is absolutely shocking in India's startup culture. I had a blog network tell me on my last morning in India – with a straight face – that it would be doing double the revenues of Gawker in a few years. I like to give entrepreneurs the benefit of the doubt, but I also know the media business. Forgive the generalization, but Indians just love to over-sell. It's deep in their trader heritage. "You have to sacrifice your ego," Sama says.

But, especially for a startup in India, the most important piece of advice Sama and his co-founders got from Anandaram might have been this: You are not an Internet company. Because the Internet isn't more widespread in India, there has to be a core mindset that the Net is an important channel, but just a channel. Just under 50% of RedBus's business comes from the Net, much of the rest is via mobile phones.

And the company invested early in two expensive ways of skirting that Web limitation. The first was building its own network of bike couriers to deliver tickets and take payments, ala the hugely successful Chinese online travel company, CTrip. The second was investing in seven different call centers throughout India, not one central call center. Says Sama, if you don't localize a call center to local slang, languages, and customs the customer service won't work.

Seriously? An Indian in Bangalore arguing a centralized, remote call center can't give good customer service? That has about as much globalization-irony as China's BYD refusing to outsource any of its manufacturing.

For Anandaram's part he noted the founders' willingness to listen and learn from someone who'd been there. He says the biggest mistakes he sees Indian startups making are not seeking advice, being too obsessed with retaining control and not valuing sales, marketing and partnerships.

The RedBus story squares with something I've been noticing more in my travels to emerging markets—frequently when entrepreneurs complain about a lack of angel investing or venture capital, what they are really lacking isn't just the money, it's the mentorship. This came up in my recent conversation with Pierre Omidyar, whose philanthropic effort, the Omidyar Network, seeks to fund both non-profit and for profit entrepreneurs specifically those in the poorest areas of the world. Omidyar Networks has money it can gives these entrepreneurs, thanks to eBay and the dot com boom—lots of money. But what the organization is increasingly finding so lacking is that horrible buzz word "human capital."

In Omidyar's own experience, eBay never touched the $3 million it raised from Benchmark in 1996. But the mentorship he got was well worth giving up 25% of the company. "That's what is so hard to find around the world," Omidyar says. "We're increasingly looking at whether $500,000 worth of human capital could help more than $500,000."

I know that the idea the VCs bring more than money is ridiculed by most entrepreneurs today, but those are usually entrepreneurs operating in a scene that has had an explosion of startups—both failed and successful ones—in the last fifteen years. Even the shiest, most awkward or most unconnected entrepreneurs in the Valley can find a mentor with little effort. Sometimes we take for granted that that's not the case in much of the rest of the world.

Lucky for RedBus's founders, they were an exception.

America's Best Young Entrepreneurs 2009

by John Tozzi, Stacy Perman, and Nick Leiber
Monday, October 12, 2009

For our fifth annual roundup, BusinessWeek readers nominated a record number of young entrepreneurs. Meet the 25 most impressive

Welcome to our fifth annual roundup of the country's most promising young entrepreneurs. Before we get started examining the new batch, consider this question: Who is more likely to start a business: A college student or a worker with a few decades of experience? Yep, you guessed it: the experienced worker.

More from BusinessWeek.com: • America's Best Young Entrepreneurs 2009 • Entrepreneurs Who Started Young • Special Report: America's Best Young Entrepreneurs

It turns out it's boomers, not twentysomethings, who start the most businesses in the U.S. Over the past decade or so, the highest rate of entrepreneurial activity belongs to the 55-64 age group. The 20-34 age bracket, by contrast, had the lowest rate. That's according to a recent report by Dane Stangler, a senior analyst with the Kauffman Foundation, based on data collected from 1996 to 2007. It echoes research by entrepreneur-turned-academic Vivek Wadhwa, who found that twice as many tech entrepreneurs create ventures in their 50s as do those in their early 20s.

So not only are these entrepreneurs navigating the toughest economy many of us have ever lived through, they're also vastly outnumbered by older, more experienced competitors, who usually have more contacts and capital. That's even more reason to continue to give young entrepreneurs the encouragement, respect, and awe that they've received since becoming cultural icons during the dot-com boom.

Stangler says he's not suggesting young people aren't entrepreneurial or won't be. "The cachet of large, established companies has taken a hit. Job tenure has been falling for a long time. Employment is not going to recover in the very near future. People across all age groups are going to take the future into their own hands."

More from Yahoo! Finance: • Best and Worst Commutes in the U.S. • 10 Best Places to Launch a Career • Highest and Lowest Paying States Visit the Career & Work Center

Dorm Room Beginnings

Brian Ruby, 25, is just one entrepreneur who is following through on Stangler's prediction. He founded molecular imaging equipment maker Carbon Nanoprobes in 2003 in his Columbia University dorm room and has since raised about $4 million from institutional and private investors. After six years doing research, Carbon Nanoprobes is now transitioning to equipment sales, and Ruby expects about $1 million in revenue in 2010. The nine-person company based in Pike Malvern, Pa., sells its equipment to universities, semiconductor firms, and material sciences companies.

Husband-and-wife team Eric Koger, 25, and Susan Koger, 24, launched indie clothing e-tailer ModCloth in 2002, near the end of their freshman year at Carnegie Mellon University. They've managed to raise a little over $3 million from angels such as StubHub co-founder Jeff Fluhr and venture capital firms First Round Capital and Maples Investments. Eric says the 104-employee, Pittsburgh-based company is profitable, with around $1 million in monthly sales, and forecasts more than $15 million total in 2009.

Logan Green, 25, and John Zimmer, 25, started Zimride in 2007 to allow carpoolers to connect online. Its 35 clients are mostly colleges but include corporate customers such as Cigna (CI) and Wal-Mart (WMT). Universities pay about $10,000 per year to use the platform, although pricing varies. Zimmer says the Palo Alto (Calif.) firm, with six employees, expects revenue of $400,000 this year and is now profitable.

Record Numbers

These are just a few of our finalists defying the odds. To assemble the group, as in previous years, we asked BusinessWeek readers to nominate candidates aged 25 and under who were running their own companies that showed potential for growth. Given the severity of the recession, we were pleased to receive a record number of nominations this year -- more than 600. After the call for nominations ended in mid-August, our staff sifted through the nominees looking for the most impressive.

Not surprisingly, the majority were Web-based businesses, where barriers to entry continue to fall. There were a smattering of more traditional companies, including an aircraft seller, a specialty mushroom grower, and a machinery lubricant vendor. Compared with last year, more women were nominated, more businesses were profitable, and more had secured equity capital.

You can flip through this slide show for profiles of each of the 25 finalists, then vote for the business you feel holds the most promise. We'll announce the top vote-getters on Nov. 9. Then check out our slide show on where last year's finalists are now. For more elements of the special report, including a feature on selling to universities and a video interview with a standout alum, visit the related items box at upper right side of this overview.

U.S. Entrepreneurs Ages 25 and Under

This summer, BusinessWeek set out on its fifth annual search to find the country's most promising young entrepreneurs. As in previous years, we asked readers to nominate candidates ages 25 and under running their own companies. After the call for nominations ended in August, our staff whittled the batch down to 25 impressive businesses. To read profiles of the finalists and vote for the business you feel holds the most promise, click on. We'll announce the top vote-getters on Nov. 9.

Note: Revenues and traffic numbers are self-reported. To be considered, founders had to be 25 or under when the nomination form was posted in late June.

1. Ascension Aircraft

What It Does: Aircraft sales and leasing
Founder: Jamail Larkins, 25
Web Site: http://www.ascensionaircraft.com/
Based: Augusta, Ga.

Jamail Larkins has been hooked on flying ever since he took his first flying lesson at age 12. The Augusta (Ga.) native completed his first solo flight at 14, performed in an aerobatic air show four years later, and earned a bachelor's degree in aviation business administration from Embry-Riddle Aeronautical University. But instead of following a traditional career path and going to work for Boeing (BA) or Lockheed Martin (LMT), Larkins decided to channel his passion into his own business. It came naturally. At 15, he had started Larkins Enterprises, selling flight training books and videos to local pilots, to pay for his flying lessons. "I promise you we started off selling a lot less than we do today," he says. Though he continues to run Larkins to do marketing and consulting for clients that include his alma mater, the National Business Aviation Assn., and Michelin Aircraft Tires, he says 90% of his revenue comes from his aircraft sales and leasing company, Ascension Aircraft, which he started in 2006. Larkins says four-employee Ascension is profitable and had a little over $7 million in revenue in 2008, despite the downturn. He expects revenue to increase slightly this year. He continues to fly for fun every chance he gets and is planning to get back into aerobatics in 2010.

2. Box.net

What It Does: Online collaboration tool
Founders: Aaron Levie, 24, and Dylan Smith, 24
Web Site: box.net
Based: Palo Alto, Calif.

Aaron Levie and Dylan Smith started Box.net in 2005, when they were both college sophomores, as a tool to collaborate on projects with fellow students. The pair -- childhood friends from Seattle -- soon saw business potential in an online platform to let companies share information securely. Nine months after launching, they both left school (they were at University of Southern California and Duke, respectively) and moved to the Bay Area to work on the company full time, with an initial $350,000 investment from Mark Cuban. (His stake has since been bought out.) The service, targeted toward companies with fewer than 100 employees, has 3 million users representing 50,000 businesses. Individuals can try a limited version for free, but businesses pay $15 per user per month for the premium version. The company, now based in Palo Alto, has 50 employees and has raised $14.5 million in venture capital from Draper Fisher Jurvetson and U.S. Venture Partners. The firm is not yet profitable, though Levie says revenue is in the "mid-to-high single millions," and he expects it to turn a profit soon.

3. Click To Client

What It Does: Online marketing agency
Founder: Shama Kabani, 24
Web Site: http://clicktoclient.com/
Based: Dallas

While completing her master's degree in organizational communication at the University of Texas at Austin, Shama Kabani wrote her thesis on why people use Twitter and other social networking sites. She became convinced businesses could use the tools to market their products and services. But when Kabani made that pitch as she applied for jobs at big management consulting firms such as McKinsey and Bain & Co. in 2006, she was rejected. "At that point, nobody really cared for social media knowhow. They were just thinking, 'This is a fad. Our clients don't really need it.' " Undeterred, Kabani, whose parents are both entrepreneurs, founded her own full-service online marketing firm in March 2008, to build Web sites, handle SEO, and create and manage social media campaigns. The six-employee business now takes on about 25 one-off projects a month and also acts as an online marketing department for six regular clients on a retainer basis. Fees range from a few hundred dollars for a newsletter design to $2,500 for a Web site project; monthly retainer fees start around $2,500. Kabani says Click To Client had about $120,000 in revenue in 2008, expects $280,000 for 2009, and is shooting for $1 million in 2010. Her first book, The Zen of Social Media Marketing, is due out in April.

4. Emergent

What It Does: Renewable energy consulting
Founders: Jesse Gossett, 23 (left); Jayson Uppal, 23 (center); and Chris Jacobs, 21 (right)
Web Site: http://www.emergentgroup.com/
Based: Boston

Two years ago, three Tufts University students and one Babson College student attended the Energy Security Initiative at Tufts (now the Tufts Energy Forum), a group whose mission is "to spread and enhance the discussion surrounding all aspects of the transforming, global energy industry." It was there that Jesse Gossett, Jared Rodriguez, Jayson Uppal, and Chris Jacobs decided there was a need in the consulting sphere to help guide municipalities and private businesses toward using renewable energies and setting up sustainability practices. The quartet spent their final year in college researching and readying a business to do just that. Before they graduated, they landed their first consulting contract. Emergent now has about 30 clients, mostly municipalities, including the towns of Yates, Shelby, and Orleans County in western New York. The firm had $108,000 in revenue last year, and estimates it will reach $250,000 in 2009 and become profitable by 2011.

5. I Bec Creative

What It Does: Web development and graphic design
Founder: Becky Stockbridge, 25
Web Site: http://www.ibeccreative.com/
Based: Portland, Me.

While a senior at the University of Southern Maine, Becky Stockbridge wrote a business plan to start a Web and graphic design business for medical professionals, a group she found was in need of logos, brochures, and informative Web sites -- and who also had the money to pay for them. She got started in 2006 with a $4,200 grant from the Libra Future Funds, a Maine-based group that helps entrepreneurs under 25. The Maine Center for Enterprise Development awarded her free office space for one year. However, Stockbridge says she found it difficult to get through to the decision-makers in medical practices. While she struggled to make contact, Stockbridge began designing Web sites and logos for other small businesses. By 2007, she had more business clients than doctor clients and shifted her focus. Last year the five-person company had about $225,000 in revenue and Stockbridge expects $350,000 in 2009.

6. Intern Queen

What It Does: Internship placement consultancy
Founder: Lauren Berger, 25
Web Site: http://www.internqueen.com/
Based: Los Angeles

While earning her degree at the University of Central Florida, Lauren Berger says she completed 15 internships in four years. After graduating in 2006 she began helping the children of her parents' friends land internships. Soon, the idea to start a consulting business was born. But first Berger had to pay the bills, so she moved to Los Angeles and worked as an assistant at top talent agency Creative Artists Agency. While there, Berger met movie producer and director Marshall Herscovitz (Thirtysomething, The Last Samurai), who liked her concept and backed her financially for one year.

More from BusinessWeek.com: • America's Best Young Entrepreneurs 2009 • Entrepreneurs Who Started Young • Special Report: America's Best Young Entrepreneurs

Last September, Berger launched her company -- Herscovitz has a 12% stake -- offering to vet potential applicants and match them with more than 500 companies from across the country that pay to list on her Web site. Berger says what sets her service apart is the personal attention -- she and her small band of interns review every application and Berger calls each company to make an introduction. Potential interns can apply for one slot gratis to get a feel for the service. They pay $3 for every subsequent application; employers pay an annual fee of $50 for unlimited listings. In the four months the firm was running last year, Berger says she had about $100,000 in revenue and expects to double that to $200,000 next year. A regular on the college speaking circuit, she is also planning to expand into Canada and is exploring endorsement deals with Microsoft (MSFT) and Payless Shoes.

7. ModCloth

What It Does: Online marketplace for indie designer fashion and decor
Founders: Eric Koger, 25, and Susan Koger, 24
Web Site: http://www.modcloth.com/
Based: Pittsburgh

You might not expect an indie clothing e-tailer to get the attention of equity investors. But Eric and Susan Koger, the husband-and-wife team that launched ModCloth in 2002, near the end of their freshman year at Carnegie Mellon University, have managed to raise a little over $3 million from angels like StubHub co-founder Jeff Fluhr and venture capital firms First Round Capital and Maples Investments. ModCloth's inventory strategy helps explain its success. Eric says Susan and her buyers build rapport with independent designers, try to get payment terms of net 30, and normally sell 70% to 90% of the goods within the net-30 period. "We can turn our inventory faster than we have to pay for it. That's enabled us to scale as fast as we have." Being online only and located in Pittsburgh keeps operating costs low, too. ModCloth employs 104 people -- mostly young women who, Eric says, "come at it from a perspective that's truly aligned with the customer, because they are our customers" -- up from 22 people a year ago. The company became profitable in 2007 but wasn't in 2008, largely because it spent a lot of money to redesign its Web site -- which now gets more than 1.25 million unique visitors a month. Eric says ModCloth has around $1 million a month in sales and forecasts more than $15 million total in 2009.

8. NoteHall

What It Does: Online marketplace for class notes
Founders: Sean Conway, 25 (right); Justin Miller, 21(far right); B.J. Stephan, 24 (left); Fadi Chalfoon, 23 (second from left)
Web Site: http://www.notehall.com/
Based: Tucson, Ariz.

Launched in 2008, NoteHall is an online marketplace for college students who want to buy and sell class notes. Sean Conway, who has ADHD and finds it difficult to comprehend a lecture and take notes simultaneously, says the impetus to start the company came when he noticed fellow students shared his frustration. For initial funding, the founders used $70,000 they put together from Conway's inheritance and Miller's bar mitzvah money. To access documents, users purchase credits via the site's virtual currency system ($3 buys 100 credits; notes from one lecture cost 25 credits; a study guide costs 100 credits). When a student purchases credits and redeems them, NoteHall receives a commission that varies based on the product. According to Conway, 20 colleges and universities are participating now, including Drexel University and the University of Arizona, and an additional 30 will be by December. Last year, NoteHall had $40,000 in revenue, will be profitable this year, and expects to reach $900,000 in revenue in 2010.

9. Trunk Club

What It Does: Online clothes shopping service for men
Founder: Joanna Van Vleck, 26
Web Site: http://www.trunkclub.com/
Based: Bend, Ore.

When Joanna Van Vleck graduated from the University of Oregon in 2005 with degrees in psychology and business, she worked as a style consultant, taking men and women clothes shopping. No surprise here -- most men disliked shopping but enjoyed the new duds. So Van Vleck decided the shopping process should be turned on its head. Instead of accompanying men to the shops, she would take the shopping to them. In January 2008, she opened a location she describes as a "swanky man hang-out spot," where hesitant shoppers were sized up and regaled with advice and brand-name picks. Within a month of opening, an angel investor approached her and offered to commit $500,000 to expanding the concept to other locations. But after Bear Stearns failed that March, he changed his mind.

Convinced her idea had potential, Van Vleck searched for another source of funding. During a meeting via Webcam with a new would-be investor, Van Vleck decided to shift gears. Instead of opening physical locations, she would operate the business virtually, using Webcams to meet with clients, assess their needs, and then ship a box of clothing to them. Clients would only pay for items they liked. With zero retail experience, she launched the site in November 2008, buying marked brands wholesale from suppliers and selling them retail. Trunk Club now has six employees, 36 independent contractors who work as fashion consultants remotely, and around 2,000 members. Van Vleck says the company is close to breaking even and is on track for $2.3 million to $2.5 million in revenue in 2009. She expects to close her first venture capital round with a Bay Area firm within a month.

10. Tumblr

What It Does: Microblogging platform
Founder: David Karp, 23
Web Site: http://www.tumblr.com/
Based: New York

In 2005, David Karp was running his software consulting business, developing new media for big media companies. He got the idea for Tumblr after becoming captivated by a new form of blogging known as "tumblelogging" that presented material of various formats (such as text, photo, and video) in a stream. While building a tumblelog for himself, the programmer realized other fans of the form would want to use a simple tool that would allow them to create their own. So during a two-week window between consulting jobs, Karp, who first started coding when he was 11, created the first iteration of such a tool designed with speed, ease of use, and customization in mind. Launched in 2007 for general consumption, the Tumblr platform now has 1.8 million users and has landed $5.5 million in venture capital from two rounds of funding with Union Square Ventures and Spark Capital. Karp, 23, says the 10-person company is not making money yet but will be experimenting with revenue-generating features this quarter. "Goal No. 1 is growth. We're aiming this thing for a mainstream audience."

See the full slide show of 25 U.S. Entrepreneurs Ages 25 and Under

So, You Want to Be an Entrepreneur

First, answer these questions to see if you have what it takes
By KELLY K. SPORS

Thinking about starting a business? Make sure you're cut out for it first.

In this bleak economy, lots of people are contemplating striking out on their own -- whether they're frustrated job seekers or people who are already employed but getting antsy about their company's prospects.

For some people, entrepreneurship is the best option around, a way to build wealth and do something you love without answering to somebody else. But it's also a huge financial gamble -- and some people, unfortunately, will discover too late that it's not the right fit for them.

Building a successful business can take years filled with setbacks, long hours and little reward. Certain personalities thrive on the challenge and embrace the sacrifices. But it can be a hard switch for someone who has spent years sitting in a cubicle with a steady paycheck.

So, how can you figure out whether you're suited for self-employment? We spoke with entrepreneurship researchers, academics and psychologists to come up with a list of questions you should ask yourself before making a big leap. Entrepreneurs, of course, come from all sorts of backgrounds, with all sorts of personalities. But our experts agreed that certain attributes improve the odds people will be successful and happy about their decision.

Keep in mind that any self-analysis is only as useful as the truthfulness of the answers -- and most people aren't exactly the best judges of their own character. So, you might enlist a friend's help.

Here, then, are 10 questions to ask to see whether you're up for the challenge of entrepreneurship.

1. Are you willing and able to bear great financial risk?

Roughly half of all start-ups close within five years, so you must be realistic about the financial risks that come with owning a business -- and realize that you could very well lose a sizable chunk of your net worth.

Consider how much you'll have to ante up and how losing it would affect your other financial goals, such as having a sound retirement or paying your kids' college tuition. Weigh the importance of starting a business against the sacrifices you might face.

Entrepreneurs should be sure that "if they lose this capital, it either won't destroy their financial situation, or they can accept the concept of bankruptcy," says Scott Shane, an entrepreneurship professor at Case Western Reserve University in Cleveland. "Some people thrive on the financial risk; others are devastated by the thought of losing even $10,000."

And don't assume you'll be able to lower your risk substantially by finding investors. Less than 10% of start-up financing comes from venture capitalists, angel investors and loans from friends and family combined, Prof. Shane says. And that's true even in good economic times. Banks, meanwhile, often won't lend to start-up founders without a proven track record. When they do, they generally require the founders to guarantee the loan or credit line with their personal savings or home -- an incredibly risky proposition. (To learn how to mitigate risk by keeping your old job while starting a new venture, see "A Toe in the Water".)

2. Are you willing to sacrifice your lifestyle for potentially many years?

If you're used to steady paychecks, four weeks' paid vacation and employer-sponsored health benefits, you might be in for an unpleasant surprise.

Creating a successful start-up often entails putting in workweeks of 60 hours or more and funneling any revenue you can spare back into the business. Entrepreneurs frequently won't pay themselves a livable salary in the early years and will forgo real vacations until their business is financially sound. That can often take eight years or longer, says William Bygrave, a professor emeritus of entrepreneurship at Babson College in Wellesley, Mass.

Even if you can steal away, it's hard to find somebody who can fill in for you. Many entrepreneurs must tow along their cellphone and laptop, so they can be available to answer questions from clients or employees.

Jennifer Walzer learned those lessons the hard way. In 2002, after being laid off from a $100,000 consulting job when the company closed, she started Backup My Info! Inc., which sells online data-backup services to businesses.

For the first year, the New York-based company brought in just $29,000 in gross revenue. Ms. Walzer didn't pay herself a salary until the third year, and even then it was a slim $30,000. She could have taken more out, but she wanted to shovel as much money into the business as possible to keep it financially sound.

Having no income for two years meant that Ms. Walzer had to be extremely frugal; she virtually never ate out or went on vacations or clothes-shopping trips. Twenty-nine years old at the time, she says, "I got very jealous of my girlfriends who got home at 5 o'clock every night and could go out gallivanting and pretty much do whatever they pleased." She'd occasionally meet friends for coffee instead of drinks, since coffee was less expensive.

Now that her business generates about $2 million in annual revenue, the tables have turned. Ms. Walzer says she earns more from the business than she did as a consultant, and "I have friends who are struggling to keep their jobs because they have bosses."

3. Is your significant other on board?

Don't ignore the toll running a business will take on your loved ones. Failed ventures frequently break up marriages, and even successful ones can cause lots of stress, because entrepreneurs devote so much time and money to the business.

Stephen Webster

"I'm always surprised at the number of husbands who start a business and don't tell their wives," says Bo Fishback, vice president of entrepreneurship at the Ewing Marion Kauffman Foundation.

You can avoid the heartache by talking at length with your spouse and family about how the business will affect home life, including the time commitment, changes in daily schedules and chores, financial risks and sacrifices. They must also understand the huge financial gamble they're making with you.

4. Do you like all aspects of running a business?

You better. In the early stages of a business, founders are often expected to handle everything from billing customers to hiring employees to writing marketing materials. Some new entrepreneurs become annoyed that they're spending the majority of their time on administration when they'd rather be focused on the part of the job they enjoy, says Donna Ettenson, vice president of the Association of Small Business Development Centers in Burke, Va.

"All of a sudden, they have to think about all these things they never had to think about before," she says.

Jeromy Stallings, the 33-year-old founder of Ninthlink Inc., a San Diego interactive-marketing firm with 15 employees, always felt he had plenty of passion for entrepreneurship and self-motivation. But when starting his agency in 2003 and hiring his first couple of employees, he realized he wasn't prepared for the day-to-day challenges of managing other people.

Mr. Stallings had assumed his passion would rub off on employees and they would do their jobs as enthusiastically as he did. But some clients started calling him directly, complaining that his employees weren't returning phone calls or that projects were behind schedule.

"My clients were saying, 'We love your passion, we love your skill, we're just having a really hard time with your management style,' " he says.

So, Mr. Stallings turned to peers, mentors and guidebooks for help. He realized he needed to work more closely with employees and create a more structured project-management system. "I didn't really have a plan in place for how they spend their time," he says.

5. Are you comfortable making decisions on the fly with no playbook?

With a new business, you're calling all the shots -- and there are a lot of decisions to be made without any guidance. You might not be used to that if you've spent years working in corporate America, says Bill Wagner, author of "The Entrepreneur Next Door," a book that lays out the characteristics of successful entrepreneurs.

"For most entrepreneurial ventures, there's no structure," he says. "You're going into a business, and nobody has told you how to be successful."

Mr. Wagner has surveyed more than 10,000 entrepreneurs to find out what traits distinguish successful start-up founders from less-successful ones. Among other things, most entrepreneurs he interviewed said they liked making decisions. He doesn't rule out the idea that less-decisive people could become better at the leadership role. It's just that they will have to work a lot harder at it.

6. What's your track record of executing your ideas?

One of the biggest differences between successful entrepreneurs and everyone else is their ability to implement their ideas, says Prof. Bygrave of Babson College. You might have a wonderful concept, but that doesn't mean you possess that special mix of drive, persuasiveness, leadership skills and keen intuition to actually turn the idea into a lucrative business.

So, examine your past objectively to see whether you have assumed leadership roles or initiated solo projects -- anything that might suggest you're good at executing ideas. "Were you senior class president? Did you play varsity sports?" Prof. Bygrave suggests asking.

Stephen Webster

You might even find clues back in your childhood, he adds: "A lot of successful entrepreneurs were starting businesses when they were still kids."

7. How persuasive and well-spoken are you?

Nearly every step of the way, entrepreneurship relies on selling. You'll have to sell your idea to lenders or investors. You must sell your mission and vision to your employees. And you'll ultimately have to sell your product or service to your customers. You'll need strong communication and interpersonal skills so you can get people to believe in your vision as much as you do.

If you don't think you're very convincing or have difficulty communicating your ideas, you might want to reconsider starting your own company -- or think about getting some help.

In 2007, Brad Price left a $135,000-a-year job as an associate at a Baltimore law firm to purchase a PuroClean Emergency Restoration Services franchise, which cleans up property damage such as mold and flooded basements. A former Naval officer, Mr. Price felt he was very self-motivated and a good leader. But he was less comfortable cold-calling and striking deals -- something he'd never had to do in previous jobs.

"There's a big difference in waiting for the phone to ring and getting an assignment and having to make the phone ring," says the 33-year-old Mr. Price.

Mr. Price says he now has his wife handle the marketing and networking. "My wife is very good at that, 'Hey, next time a call comes in, how about you give it to us?' " he says.

8. Do you have a concept you're passionate about?

Every morning you want to jump out of bed eager to get to work. If you're not that exuberant about how you'll be spending your time -- or the business concept itself -- running a business is going to be a rough ride.

Ms. Ettenson of the Association of Small Business Development Centers has coached many prospective entrepreneurs about their chosen business. She always asks why they're doing it. If they suggest it's mostly for the prospect of making a lot of money or because they're tired of working for someone else, she steers them toward something more in line with their interests or avoiding self-employment altogether.

"If you hate doing paperwork, the last thing you want to do is become a bookkeeper," Ms. Ettenson says. "If you'd rather be outside taking people into the wilderness, then that's the type of business you should be in."

But it's also usually wise to find a business in an industry you are very familiar with; it will be much harder to succeed if you know little about the field. Mr. Fishback at Kauffman says he has steered a doctor and other professionals away from starting restaurants because they often don't grasp how difficult and risky restaurant ownership is. And they'd be competing against restaurateurs with years of experience.

9. Are you a self-starter?

Entrepreneurs face lots of discouragement. Potential buyers don't return calls, business sours or you face repeated rejection. It takes willpower and an almost unwavering optimism to overcome these constant obstacles.

John Gartner, an assistant clinical-psychiatry professor at Johns Hopkins University and author of the book "The Hypomaniac Edge," theorizes that many well-known entrepreneurs have a temperament called hypomania. They're highly creative, energetic, impatient and very persistent -- traits that help them persevere even when others lose faith.

"One of the things about having this kind of confidence is they're kind of risk-blind because they don't think they could fail," Prof. Gartner says. And, he adds, "if they fail, they're not down for that long, and after a while they're energized by a whole new idea."

You don't have to be as driven as, say, Steve Jobs to succeed. But somebody who gets deterred easily, or too upset when things go wrong, won't last.

10. Do you have a business partner?

If you don't have all the traits you need to run the show, it's not necessarily a hopeless endeavor. Finding a business partner who compensates for your shortcomings -- and has equal enthusiasm for the business concept -- can help mitigate the risks and even boost the odds of success.

David Gage, co-founder of BMC Associates, an Arlington, Va., business-mediation practice, points to a Marquette University study of 2,000 businesses. The researchers found that partner-run businesses are far more likely to become high-growth ventures than those started by solo entrepreneurs.

The key, Mr. Gage says, is finding a partner who prefers handling different aspects of the business, so you're complementing each other -- and not constantly at each other's throats.

Someone who likes to take risks and be in the spotlight, for instance, might choose a cautious partner who prefers to work in the back room. "If they're willing to work with that person, and not just look at them as a wet blanket, then it can be great," Mr. Gage says.

But taking on a partner isn't a light decision. Many partnerships split due to conflicts over everything from attitudes about money to miscommunication and contrasting work ethics. Mr. Gage recommends that potential partners spend several days hashing out the specifics of the business and how the arrangement will work to see if they're compatible.

—Ms. Spors is a staff reporter of The Wall Street Journal in Minneapolis.

Write to Kelly K. Spors at kelly.spors@wsj.com

VC's New Math: Does Less = More?

Thiel Seeks to Change Old Habits by Investing Small on Start-Ups

By REBECCA BUCKMAN
December 29, 2007

Three years ago, Peter Thiel, who runs a small venture-capital concern called Founders Fund, plowed $500,000 into a little-known social-networking Web site called Facebook Inc. Later on, his company invested a bit more.

That was a good call. The paper value of Mr. Thiel's initial stake has increased more than 50 times. Facebook now ranks among the hottest online properties, with some 59 million users and investors such as Microsoft Corp. piling in.

Mr. Thiel, the former CEO of online-payment company PayPal, is making waves in Silicon Valley with an investment strategy that differs significantly from the traditional approach. His company invests only modest amounts of money, sometimes just a few hundred thousand dollars, and focuses on entrepreneurs Mr. Thiel and his partners often know personally. He also takes an uncharacteristically hands-off approach to company management.

Already, the gambit has yielded several potential winners like Facebook.

The venture-capital world "definitely needs to be shaken up," says the 40-year-old Mr. Thiel, an avowed libertarian who helped bankroll the movie "Thank You for Smoking," a satire about improving the reputation of cigarettes.

His company also reflects how a new type of venture capitalist is emerging, as start-up costs for Internet companies decline sharply. Many start-ups now need a bankroll of no more than a few hundred thousand dollars to get rolling, compared with the millions of dollars required a few years ago.

Other companies capitalizing on this trend include First Round Capital in the Philadelphia suburb of West Conshohocken, Pa., run by former Internet entrepreneur Josh Kopelman, who started online-commerce site Half.com and later sold it to eBay Inc., and Silicon Valley concerns such as True Ventures and Baseline Ventures. Many of the companies now manage money for outside investors, unlike informal "angel" investors who typically make small, one-time investments with their own money.

Most traditional VC companies want to invest larger sums, several million dollars, say, for large stakes in start-ups and then exert control over the companies' operations. Some demand "liquidation preferences," or guaranteed returns if companies are sold.

'Cushy Jobs' of VCs

Venture capitalists often can be too quick to fire start-up founders and replace them with professional managers, Mr. Thiel says. He blames a cultural divide: Many VCs "have these very cushy jobs, they get paid a lot," and often can't relate to founders, he says.

With so much money chasing deals in Silicon Valley these days, start-ups can afford to be choosy in picking their financial backers. They are increasingly turning to companies like his that offer less of a "command and control" model, he says.

Mr. Thiel and his fund's other partners, including two other PayPal co-founders, Ken Howery and Luke Nosek, also claim an advantage because of their front-line experience starting companies themselves. Mr. Thiel also runs a hedge fund, Clarium Capital.

The Facebook coup was one of several Founders investments that have generated "a healthy amount of envy" from other venture capitalists, says Max Levchin of Slide Inc., a start-up maker of software called widgets, or mini-applications used to decorate Web pages. In 2004, Mr. Levchin invited Mr. Thiel to be one of Slide's first investors, meaning bigger venture companies such as Mayfield Fund and Khosla Ventures could only invest later, for more money.

Heart in San Francisco

Mr. Thiel, who based Founders Fund in San Francisco rather than the traditional VC hotspot of Sand Hill Road in suburban Menlo Park, Calif., is structuring deals differently from how traditional venture capitalists do. Significantly, the fund often buys only a 5% or 10% stake in a company and sets up a special class of stock that start-up founders can sell while they are building their companies -- and before venture-capital investors see profits. That way, the thinking goes, the company founders can reap some financial reward and stay motivated to build the company before an IPO or company sale, which can take years.

Some traditional investors don't think founders should make money before backers do, since early paydays might distract them from the task at hand.

All of this is causing traditional VC firms to re-examine the way they invest in tiny tech start-ups. VC concerns including Trinity Ventures, for example, are now letting a few of their entrepreneurs "take money off the table" early on by selling stock.

Many big venture firms have also started looking at much smaller deals. Accel did six deals less than $1 million this year, although the company says that was in response to increasing valuations for larger-sized investments.

About a year ago, Charles River Ventures announced a program to offer $250,000 loans to fledgling Internet start-ups, far smaller than its usual investment size. Charles River is now also making equity investments in companies through its QuickStart program.

Partner George Zachary said his company launched the program because it was encountering many companies that didn't need a traditional, multimillion-dollar VC investment and the attendant hand-holding.

Just how successful Mr. Thiel's investing tactics are remains to be seen; Founders Fund hasn't yet seen any payout from the Facebook stake. However, it recently collected a big return when one of its investments, computer-security and antispam concern IronPort Systems Inc., was sold to Cisco Systems Inc. for $830 million.

Some Backlash

Mr. Thiel acknowledges his company faced resistance from blue-chip investors when it set out to raise money for its latest, $220 million venture-capital fund. One large institutional investor, who declined to be named, said he was put off by Founders Fund's anti-establishment pitch. Others wonder whether Founders Fund could soon tap out its close-knit network of entrepreneurs and run out of companies to fund.

"The early-stage venture game has always been about getting in early and getting in cheap," says Founders Fund partner Sean Parker, who helped start companies including online-music service Napster and online address-book company Plaxo Inc. "Some of those deals are now going to funds like ours."

Write to Rebecca Buckman at rebecca.buckman@wsj.com

Power Plays - Heading Into the Wind

By YULIYA CHERNOVA and JONATHAN SHIEBER
November 12, 2007

If you follow the money in the alternative-energy world, it often leads to wind-power projects.

European utilities have been snapping up wind assets in the U.S., which they see as one of the top wind sources in the world. In October, Germany's E.On AG announced the acquisition of $1.4 billion of North American wind assets from Airtricity, an Ireland-based wind-farm operator.

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The deal will make E.On one of the world's largest wind-power producers, increasing its global installed capacity to 850 megawatts from 640 megawatts, E.On says.

Among U.S. utilities recently locking in supplies is American Electric Power Co. It signed a 75-megawatt, long-term power-purchase agreement for new wind power for its Appalachian Power Co. subsidiary with the Camp Grove Wind Farm being built near Camp Grove, Ill., operated by Orion Energy LLC. American Electric Power, based in Columbus, Ohio, has been acquiring wind power in response to plans by Ohio to require utilities to derive 25% of their power needs from renewable sources.

With such demand, companies are rushing to enter the wind market. One wind-development firm, MMA Renewable Ventures, aims to help small developers prosper in what is a market of increasingly large players.

Investing in projects at a preconstruction stage, MMA, which is a subsidiary of MuniMae LLC of Baltimore, provides debt, usually from third parties, to sponsor construction and turbine procurement. Before projects become operational, MMA lines up investors who specialize in making "tax equity" investments, collecting the federal tax credits on the income from the project.

WHAT ELSE IS NEW

Here's a look at other recent deals reported by Clean Technology Investor:

* GridPoint Inc. of Washington, D.C., raised $16.5 million to close its Series D round of venture capital with $48.5 million. The company has developed an operating system to manage the disparate technologies needed to control and automate utility networks.

* Genencor, a division of food- and feed-ingredient producer Danisco A/S of Denmark, made its biomass enzyme for the production of cellulosic ethanol commercially available for the first time. The technology is aimed at helping large-scale ethanol production.

* Ciralight Inc. of Park City, Utah, raised $1.5 million from angel investors ahead of planned institutional funding. The company develops "daylighting" technology that makes more effective use of sunlight to save on the use of electric light. It is targeting the retail market.

Running on Less

Utilities have been looking for ways to trim energy use by customers. That mission underlies several recent deals utilities have made with "demand-response" companies, which recruit business customers to join demand-reduction programs run by the utilities, and help the companies go into energy-saving mode at peak hours.

In one such deal, Comverge Inc. signed a contract with Connecticut Light & Power of Hartford, Conn., to reduce electricity consumption by 130 megawatts during peak demand hours over a 10-year period.

"It's a sign of the times that utilities are feeling pressure all over to deliver to their customers," says Arthur Vos, vice president of marketing, products and strategy at Comverge, East Hanover, N.J. "Their reserve margins are getting squished, they can't build new power plants, and they've got to do something to keep the lights on."

Southern California Edison made three recent demand-response deals, with Comverge, EnerNOC Inc. of Boston and privately owned Energy Curtailment Specialists Inc. of Buffalo, N.Y. EnerNOC's deal to manage approximately 160 megawatts of capacity for SoCal Edison was its largest to date, valued at $50 million to $75 million. Comverge and Energy Curtailment each struck deals to manage 50 megawatts of SoCal Edison's power.

Sun Spots

Among competing solar-power technologies, solar-thermal technology, which relies on heat rather than light to generate electricity, has been reviving after a federal tax credit was restored in 2006.

Ausra Inc., of Palo Alto, Calif., plans to build at least 1,000 megawatts of solar thermal power plants at a cost of roughly $3 billion, says David Mills, the company's chairman and chief scientific officer. Ausra is benefiting from ambitious solar-thermal investment plans on the part of electric power provider FPL Group Inc., which said recently it plans to invest $2.4 billion over several years in solar-thermal and renewable energy projects.

Development of solar-thermal power in California also is likely to be helped by a regulatory change. The California Independent System Operator Corp., the agency that governs transmission planning, has proposed allowing utilities to borrow money to build out transmission lines to areas rich in renewable-energy potential and then get reimbursed by new developers as they start using the capacity. Currently, the first developer to need transmission has to pay the cost for building it and then let others use it without paying for the development, a significant barrier for developers of wind and solar-thermal energy, which is often in remote places.

"You can't transport the wind or the sun," says a spokeswoman for the California ISO. "That's why we feel this is needed."

--Ms. Chernova and Mr. Shieber are reporters in Jersey City, N.J., for Clean Technology Investor, a newsletter published by Dow Jones & Co.

Write to Yuliya Chernova at mailto:yuliya%20Chernova@dowjones.com and Jonathan Shieber at jonathan.shieber@dowjones.com

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Starting Up: A Benefits Package Can Reel In Talent

By DIANA RANSOM

When Chris Larsen and John Witchel, co-founders of Prosper, a peer-to-peer online lender in San Francisco, sat down with three employees around Larsen's kitchen table to build the now year-and-half-old web site, benefits were the last thing on their minds. The staffers were all working for stock options at the time.

"At that point, it was a very risky venture," says Larsen of the start-up. "We weren't really paying salaries let alone benefits." But once Prosper started to, well, prosper, he says, the company "started attracting a bigger variety of folks." New employees, he found, "want to take a risk and hit a homerun like everyone else, but they needed to not also have to worry about their livelihood."

So about six months before the site's launch in February 2006, Larsen began offering his employees, who then numbered about 15, the option to participate in a group health plan. Today, at just under 50 employees, Larsen now offers a 401(k) plan, two weeks of paid vacation and maternity leave in addition to stock options. "It's definitely a process," says Larsen. But, he adds: "It's also about being frugal and communicating that we're in this together."

For small-business owners just starting up and looking to add staff, benefits such as medical and dental coverage may be just the edge you need to attract and retain stellar employees. While you want to supply the best benefits, it's a smart idea to be selective and sparing when possible.

Here are a few questions to ask yourself as you weigh the costs of offering benefits:

Do you really need to offer benefits?

By law, you're obligated to withhold income tax and half the load of Social Security and Medicare taxes from your nonhousehold employees' paychecks. You're also required to pay the other half in addition to both federal and state unemployment tax, when applicable. Additionally, you must provide worker's compensation insurance. If you have more than 50 employees, under the Family and Medical Leave Act, you're obliged to provide up to 12 weeks of unpaid, job-protected leave to eligible employees for the birth or adoption of a child or if a serious illness befalls an employee or a family member.

But offering employees health, retirement, dental, vision and life insurance coverage generally isn't required. "It's a judgment call," says John Foley, a partner at the Benefit Consulting Group in Northfield, Ill. "An employer's job is not to supply everything, but in order to get the people you need, you need the benefits."

Some smaller firms have been able to get by covering the brunt of employees' individual health-care plans rather than getting a group policy. Until recently, Phillip J. Ryan of law firm Ryan, Ryan & Landa went this route. But the first question he'd always hear during interviews with prospective hires was: Do you offer health insurance? "If it is someone who you want to come with you," he says, "it's hard to say 'find a plan first and then we'll help.'" With nine employees, the Waukegan, Ill.-based law firm is set to begin a group health plan this month complete with dental and vision coverage.

What's the competition doing?

Figuring out how your business measures up to competitors especially if you are worried about attracting and retaining quality employees is critical, say human-resources and benefits consultants. Knowing what the competition is doing allows you to set benchmarks and "prevents offering a benefit level that is too costly," says Kerry Finnegan, head of the small-business health benefits segment at Mercer in Chicago. Otherwise, "you may be wasting money," he says.

If you're in a situation where top-tier employees are few and far between, consider offering inexpensive benefits such as flexible work schedules or continuing education classes, suggests Marie Schram, director of human resources at LMI Consulting, a government consulting firm in McLean, Va. Little rewards such as Monday morning bagels and donuts as well as pumping in fresh coffee everyday could help perk up employees, she says.

How much are you willing to pay?

You will, undoubtedly, want to offer your employees the gamut of benefits. But realistically, "when you are just starting out, a brand new company has to be judicious and conservative," Schram says.

Health care, alone, is a huge expense. According to a recent employer benefits survey from the Kaiser Family Foundation and Health Research and Educational Trust, the average premiums for health insurance coverage at smaller firms in 2007 rose 5.5% to $4,553 for singles and $11,835 for families. And the employer portion for smaller firms, on average, amounts to $3,992 and $7,599, respectively.

Take a conscientious look at how much you are really willing to pay for employee benefits. To get clients thinking about the costs, Foley presents an example: If you have a company with 50 employees in Chicago you are probably spending in the neighborhood of $350,000. Of that $350,000, he asks: "How much do you want to shoulder?"

Also, keep in mind that the costs will be recurring, says Finnegan from Mercer. If you have a bad year or if premiums skyrocket, will it still be affordable? "You don't want to offer a plan that you'll have to change dramatically in the future," he says.

What type of plan should you provide?

Jerry Ripperger, director of consumer health at the Principal Financial Group in Des Moines, Iowa, recommends protecting employees against catastrophes that may result in a loss of income or worse. Focus on health, long-term disability and life insurance. A growing number of small employers are setting up health-savings accounts or HSAs, which allow individuals with high-deductible health-insurance plans to pay for routine medical costs with their own pretax dollars.

Ripperger also suggests tapping the services of a benefits consultant or an insurance broker. This person can help you parse through the minutiae of health-care plans and bring to light benefits and even cost savings that you haven't considered. Be sure to ask around and get referrals, however, as no two brokers are alike.

How can you save?

To keep costs low, you might ask employees to share part of the health-care premium burden. Or, you can opt to provide so-called "voluntary" benefits, which employees pay for themselves. Figure out what's important to your staff, suggests Holly Lifkey, vice president of human resources at Society Insurance, a workers compensation firm in Fond du Lac, Wis. "Understanding what your employees want will help you target what you offer" and possibly limit the expenses you take on, she says.

Another way to control costs is by providing a minimum amount of coverage and allow employees to, say, "buy up" to richer plans. "It is a way to get benefits to employees without the employer paying for all of it," says LMI 's Schram. With life insurance, for example, many employers will cover two times a person's salary. If you want more, you then have the option to buy up to a certain amount of coverage on your own for yourself or a spouse.

But no matter which iteration of employee-benefit package you choose and there are many every business owner will want to do some soul-searching and thoughtful analysis before and during the benefits process. But at the end of the day, says Ripperger, the thing to keep in mind is "benefit plans are investments in employees." Choose wisely.

In Search of Traffic

A Web site is only as valuable as the number of people who see it. Here's how to make sure customers can find you online.

By KELLY K. SPORS
April 30, 2007

For small companies, just having a Web site isn't enough anymore. To be successful online, they must learn to harness one of the Web's most powerful tools: search engines.

After all, search engines like Google Inc., Yahoo Inc. and Microsoft Corp.'s MSN are often shoppers' first stops when they're looking for a product on the Web. So it's crucial for small businesses to show up prominently in search-engine results -- and that's a complicated job.

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Search engines don't disclose their ranking formulas, making it tough for small companies to figure out how to boost their site's results. Even worse, big competitors can afford to pour lots of resources into that same effort -- putting small companies at a bigger disadvantage.

The good news? While the exact ranking formulas are a mystery, there are plenty of clues about how to improve a site's position. Add lots of relevant descriptions to the site's text, including the search phrases for which you want a high ranking. Have other sites link to it. Offer a blog or other informational content for customers. And if these efforts prove too complicated for a business to handle, not to worry: A whole industry has sprung up to help companies improve their rankings.

Small businesses are discovering other search strategies, as well. They're getting smarter about ads, for instance. Pay-per-click ads that pop up for general search terms (such as "clothing") tend to be very expensive -- so companies are buying ads for much more specific terms to cut costs. Many businesses are also focusing their efforts on search-engine pages devoted to their own geographic area, instead of trying to compete against businesses world-wide.

Here's a guide to the best ways for small businesses to nab better search results.

DESCRIBE YOURSELF

Placing high in search results for common search phrases -- known as natural, or organic, results, to differentiate them from paid ads -- is getting ever more crucial. Studies show that Web users predominantly click on the top four results for any particular search, and then move on, says Shar VanBoskirk, senior analyst for Forrester Research Inc. in Cambridge, Mass. Very few dig more than three pages into results.

SELECTING KEYWORDS

PODCAST: WSJ's Kelly Spors talks with author and search-marketing consultant Aaron Wall for advice on selecting keywords to make your site more prominent in search-engine results.

One basic way to secure a better search-engine ranking is peppering a site's text with carefully chosen keywords -- the kinds of phrases people would use to find the site with a search engine. The search engines like it best when the keywords appear naturally in the site's text, such as product descriptions, says Aaron Wall, a search-marketing consultant in Oakland, Calif. So a good strategy is to add a generous amount of useful content that uses the keywords frequently, such as beefier descriptions or informational articles.

The keywords on each page should also appear in that page's title tag -- the blue bar that appears at the top of each page. Less important, though still helpful, the keywords should appear in the metatags, the invisible text that gives information about the contents of a page. Some Webmasters try to game the system by hiding keywords in text that blends into the background, but many search engines now penalize such practices with lower rankings.

Smarter use of keywords was one of the first strategies Allan Dick employed to boost business at Vintage Tub & Bath, a Hazleton, Pa., company that sells reproductions of old-fashioned bathtubs online. A few years ago, Mr. Dick, who helps run the 30-employee company with his brother, found he could increase traffic by using certain words in the product descriptions on Vintage's Web site.

For instance, adding more content and product descriptions that used common search terms -- words like "tubs" and "vintage tubs" -- frequently seemed to boost its ranking on search engines. "It was dawning on me that if you were wording things in a certain way, people would find us," says Mr. Dick. "It was, 'Aha, there's a certain method to this.' "

But that was just a first step. Mr. Dick bolstered his efforts by attending search-marketing conferences to learn about search rankings and new optimization techniques. And the work seems to have paid off: Last year, his company had sales of $10.4 million, up from about $8 million in 2005, and well above its $1.4 million or so of revenue in 2001. It recently surfaced as the No. 2 site in a Google search on "tub," out of 35.4 million results.

THINK MORE NARROWLY

The big choice for small businesses is which search phrases to focus on. Some companies concentrate on just a few phrases, while others tackle 20 or more. The best number depends on factors such as how many different products are sold on the site, the number of pages on the site (each page can usually hold only a few keywords) and how much time or money a company is willing to spend redesigning its site to attract search engines' attention.

It's also important to weigh how competitive the search phrases are. Instead of focusing on generic search words, such as "books" or "mortgages," that already have hundreds of businesses wrangling over them, small businesses often fare better focusing on longer, specific phrases, says Mr. Wall.

For instance, he suggests that a used-book dealer who has a book signed by Mark Twain might try optimizing its Web site around terms like "rare used books" or "autographed Mark Twain," instead of just "books." Another advantage of this approach is that more-specific search terms generally elicit higher customer-conversion rates -- turning visits into sales -- since shoppers are more likely to find what they're looking for.

There are other wording tricks small businesses can use to get better results. Businesses aiming to attract a high-end clientele might add the word "professional" to the search phrases highlighted on their site. Or a business might try to boost the search ranking for its top-selling brand name instead of just the generic product type. But "the focus should always be on coming up with terms that customers actually use to find your business online," Mr. Wall says.

Many online forums and free tools can help businesses learn to optimize their sites on their own. Yahoo's Keyword Selector Tool lets users see which terms are typed into search engines most often. Other free tools, such as Google's Analytics software, keep track of a Web site's visitor numbers, keywords used to find the site, and customer-conversion rates. Other free tools available online can track which other Web sites link to a business's site, make content suggestions and scan the site for keyword density, or the percentage of the text in which the keyword is used.

One final wording tip: A business's domain name also plays into search rankings. If the domain is "couch.com," the site will probably rank much better for the keyword "couch" than if the domain name is "tomsfurniturestore.com."

BE THE EXPERT

Loading up on search terms isn't the only way to improve a site's search rankings. Search engines are getting more sophisticated, experts say, and increasingly they're rewarding sites that offer high-quality, useful consumer content. For instance, becoming an "evangelist" on your industry and posting helpful consumer information on your site is likely to boost its popularity and ranking.

Take Ice.com, an online jewelry business based in Montreal. Besides selling jewelry, the site includes a diamond-buying guide, a checklist with steps that couples should take before their wedding, a blog and a feature where readers can ask questions about jewelry. The site recently showed up 11th in a search for "jewelry" on Google, and seventh for "diamond jewelry."

GET LOTS OF LINKS

Another big factor in search-engine results is the number of Web sites that link to a company's site that are highly ranked by the search engines. The more such sites, the better. Many Web sites that do well in search rankings spend time "link-building," or trying to coax related sites to post links to them. Sometimes companies contact Webmasters directly and try to forge relationships, or they get a link in an online search directory such as Yahoo Directory, which costs $299 a year. Having interesting or informative content such as a blog also boosts the chance of getting links from another site.

The words used by other sites in links also factor highly into search results. Let's say another site links to tomsfurniturestore.com, which specializes in couches. If the other site uses the word "couch" in its link, it can help boost "tom's" ranking for the keyword "couch."

Keep in mind, though, that no two search engines are the same. "Google's algorithm tends to place more weight on the authority and trust of the site," such as the number of links, Mr. Wall says. "Yahoo and MSN place more weight on the page content."

Vanessa Fox, a product manager for Google, says the search engines "all have different things that we're looking for in our page results."

GET SOME HELP

For many small-business people, optimizing and asking for links can get technical and time-consuming. So an industry has sprung up in recent years to help businesses with their search results. These companies -- called search-engine optimizers, or SEOs -- come in many flavors. Some are full service, handling everything from redesigning a Web site to writing content to determining which keywords are best to persuading other Web sites to post links.

Others are more like consultants. They provide Web-site audits with recommendations on how to better optimize the site, but the client's Webmaster must implement the changes. Some focus on specific aspects of search optimization, such as writing "search friendly" text or link-building.

But businesses should be careful when hiring an SEO, because not every company offers the same expertise, says Ryan Allis, chief executive of Virante, a Durham, N.C., search-marketing consulting firm. And the results can never be guaranteed, given the changing and sometimes mysterious nature of search-engine rankings.

So businesses should take bids from several SEOs and ask to see the work they've done for previous clients, Mr. Allis suggests. An SEO should also be willing to give regular reports showing how its efforts have affected the business's search rankings for various search phrases.

Then there are fees. The prices for SEOs can be bewildering to many small-business owners. Costs can range from $500 a month to several thousand -- for what often seem to be almost identical services.

Submit Express Inc., an Oakland, Calif., SEO, charges a "setup" fee of $2,500 to $10,000, which includes keyword research, optimization and link-building, says Chief Executive Pierre Zarokian. Then clients can pay a monthly fee ranging from $750 to $5,000 for continuing optimization efforts -- mostly link-building, he says.

The fees vary depending on how much work a site needs and how competitive it is already, says Mr. Zarokian. For instance, propelling a site from No. 10 to No. 1 in the search rankings may be a lot easier than moving it from No. 10,000 to No. 10.

BUY ADS

Ads are another consideration. Marketing experts advise that most businesses are best served by complementing optimization with some paid ads on search engines. It also can be a faster route to getting good exposure in search engines.

Most major search engines now offer paid ads, such as pay-per-click ads, where the Web site pays a set fee every time someone clicks on its ad. Google and Yahoo let businesses bid on their per-click fee for particular search phrases to garner a better ranking for their ad.

Paid results appear right next to natural search-engine results, usually under a "sponsored ads" heading. As with search results, businesses should try to end up in the top few paid ads for common search terms. If the per-click fee is too high for popular phrases, they should focus on more-specific search phrases, which usually cost less -- and convert to business more. For example, the average suggested per-click fee for ranking in the top three paid results for "tennis rackets" recently was $1.38, according to Google's AdWords Keyword Tool. But "graphite tennis rackets" cost only about 43 cents.

For some small-business owners, paid ads aren't a complement to an optimization strategy; they're an alternative to it. They don't want the headache of learning about search-engine optimization or hiring a firm to do it, so they rely exclusively on ads.

That's the case with Geoffrey Searles, owner of Apollo Piano Co., a piano refurbishing and tuning business in Grafton, Mass. Last September, he began running pay-per-click ads through Google's AdWords program. He bid on about 25 keywords such as "piano repair" and "antique player pianos," and capped his monthly expenditure at $200.

Since then, his site has had an average of 270 hits a month, compared with about five a month before he started using ad words. The ads have cost him about $575 total, and he estimates he has received at least $20,000 extra in work. He likes the ability to control his monthly spending and stop the ads when he has enough business. "It's just been so successful that I haven't gone any further," Mr. Searles says.

THINK LOCALLY

Small businesses should also consider focusing their efforts on one corner of the Web. Many small, locally based businesses, such as dry cleaners and restaurants, don't need Web traffic from around the globe. Instead, they want people in their area to find them easily online.

The solution: local search. These listings pop up, sometimes with a map or customer reviews, when somebody searches online for a business type in a particular geographic region.

Type in "Olympia, Wa., pet groomer," at Google, for instance, and you'll get the option to see "Local search results." This calls up a map of Olympia and a list of local pet businesses, with their locations marked on the map.

Google, like other search engines, draws these local listings from third-party directories and other sources.

For companies that want to buy ads accompanying these local listings, the competition is much more limited than with general searches, so the price is lower. Local search also can be particularly useful to small businesses without Web sites. Some specialized local search engines -- such as CitySearch.com, YellowPages.com and Superpages.com -- even provide a free, basic page for businesses that can include basic information about the company, like phone number, hours of operation and address.

A good way to get started in local search is to make sure all the local search directories include a listing for the business and that all the information, such as phone number and address, is accurate. Most local search directories also let businesses embellish their local search listings. Google's Local Business Center, for one, recently began letting businesses post photos, and many local search directories let them post hours of operation, services provided and coupons. Businesses can also buy pay-per-click ads in local search results.

Another consideration: If a local business has a Web site, the owners should be sure all the information there is clear and accurate. Search engines extract some of their local search listings from location information found on Web sites. So it's important for a business to include its address prominently on its home page -- with the state name spelled out, since many search users spell it out when searching. Businesspeople should also include the city and state in the site's title tag to increase the odds search engines will find it.

Danny Sullivan, editor of SearchEngineLand.com, an online forum on search-engine marketing practices, says focusing on local search is easy and can pay off for many businesses.

"Local search is still kind of open, and many businesses don't realize it's an option," Mr. Sullivan says. "So there's a lot of opportunity for that right now."

--Ms. Spors is a staff reporter for The Wall Street Journal in South Brunswick, N.J.

Write to Kelly K. Spors at kelly.spors@wsj.com