Andrew Chen, a prolific blogger and Silicon Valley entrepreneur, had a wonderful post echoing some of the points I’ve made in the past about the serious but often overlooked drawbacks to starting a company in Silicon Valley.

Now that I’ve been here for a few years, it’s clear to me that the Silicon Valley echochamber has its clear negatives as well. Being out of touch with the average American consumer is one obvious negative. Chasing down technological rabbit holes is another.

Andrew goes on to discuss the downside of peer reinforcement from fellow entrepreneurs and engineers. These conversations often “[guide] the decisions of many employees or investors to dive deeply into the ‘hot’ markets” and leads to copycats who “are only in it to exploit the short-term advantages of the market, and some are self-admittedly not passionate about the area they go into.” This, in turn, hurts the company’s long term chance for success.

One thing I’ve noticed about startup cities like Pittsburgh or New York is that many of the startups there are refreshingly innovative. I mean, just look at the list of recent AlphaLab companies – it’s such a broad mix of companies that are really pushing the envelope in their respective areas.

Fundamentally, we all seek external validation for our ideas – but the fact that there’s less peer validation drives those outside of Silicon Valley to seek that validation from customers and from more introspection. Speaking from my own experience, I know this has led us to refine our offering in ways that we probably never would have arrived at otherwise. my own experience, has led us to refine our product in ways that we probably wouldn’t have done otherwise. (Ironically enough, much of this happened while we were in Silicon Valley though).

Of course, that doesn’t mean you can ignore Silicon Valley- after all, we are ultimately competing with it. 

When I was hiring a developer and a couple of interns last year, we received well over 100 resumes. Each of came in via email, and our workflow was basically to forward the resume to the rest of the team and then start a thread with our comments on each one. Needless to say, it quickly got unwieldy. 

It’s a problem that Don Charlton also recognized. As Don explained, “I have done hiring and we always used email. Resumes came to me in email, and I had to print and organize them. I hated it.” People used email to manage the process, he reasoned, only because nothing better existed. Don was determined to find that better way and set out to take the pain and paper out of resume management.

And thus, The Resumator was born.

I first came across The Resumator through TheFunded’s Founder Institute which we (Notches) are participating in. The Resumator partnered with TheFunded to offer six months free to program participants, and has since struck a similar sponsorship deal with TechStars. The Resumator was also a member of AlphaLab’s second class in the Winter/Spring 2009 class so Don appreciates the value of such incubators. “Knowing The Resumator owes much of its success to the great mentorship I received during AlphaLab, I made it my mission to reach out to other startup programs and offer our services.”

I was completely shocked to find out that Don built and designed the initial product entirely himself. Not only that, but he went live with his product on the first day of the AlphaLab program. Participating in the program, he said, was an opportunity to secure seed financing but more importantly to get advice from the best minds in the city and gain attention locally.

Don said his 10 years of experience in the design and marketing industry were invaluable in building his own business. “In that industry, you’re basically helping businesses solve business problems,” and as a result he learned the importance of interface and website copy to convert visitors to customers.

In part because of the low expenses afforded by the Pittsburgh area, The Resumator was cash flow positive after only one month, and still has a reasonable amount left from the $25,000 raised through Innovation Works. It helps, he says, that the business has a “East Coast mentality”, focusing on revenue over traffic.

Don’s goals now are to get more attention beyond the Pittsburgh area and further grow the team. To that end, he is considering raising an angel round of around $100,000. He intends to use this on a business development resource, contract with developers for enhancement to the site, and focus on marketing and awareness.

In a previous post, I discussed the paradoxical issue where VCs were generally doing fewer but larger deals despite the costs of creating a successful business being much lower.

Adeo Ressi predicts that this trend will start to correct itself in the second half of 2009.

Venture capitalists have started pumping their remaining capital into hundreds of seed and early stage deals, looking for the next big thing. Dollars invested in these opportunities have already jumped from $893 MM to $1.49 billion between Q1 and Q2 of 2009, and there will be more increases in both Q3 and Q4.

Early stage companies have strong prospects of raising significant capital in a “make it or break it” round. Venture capitalists are offering more cash up-front with fewer chances for follow-on investments. The average early stage deal size jumped from $4.1 million to $5.6 million in the first two quarters of 2009, and this number should increase to around $6 million for the remainder of the year.

If a funded company needs more money without achieving significant market traction, the remainder of 2009 will be difficult. More than 50 percent of venture capital portfolio companies will be left with insufficient capital to operate. Many of these companies will be gutted and put into “life support” mode or sold off to competitors for stock, allowing venture capital firms to maintain inflated portfolio valuations. Any acquisitions that generate precious cash will get pushed through at historically low returns of less than 2x, like the recent story of Mochi Media.

Well, sort of. Early stage is, of course, relative. The fact that these “early stage” deals are 35% larger on average only means the gap between seed and institutional money is widening.

Still, for the viability of the venture capital business, this is probably a good approach. Given the high rate of failure even among well-funded companies, it seems like a better strategy to have $30m deployed over 6-12 companies as opposed to just a handful.

Ultimately, it will be interesting to see how this trend affects VC expectations. On one hand, more money and higher valuations usually come with higher standards for the state of the business. On the other, it’s possible that it may become easier to raise money if the VC firm is committing less money over the life of the deal, even if they are putting more upfront. If a company can truly “make it” without follow-on rounds, this will also mean less dilution for the founders and employees.

AlphaLab, the early-stage incubator created by Innovation Works, just welcomed six startups to their third class for the Summer/Fall 2009 session. AlphaLab runs a 20-week program that includes funding (up to $25,000 seed investment), free office space and business & strategy mentoring.

While Innovation Works hasn’t “officially” announced the companies, they were recently profiled on PopCity.

Fooala helps restaurants “to create their own online Web sites with applications that offer access to the menu, prices, reservations and delivery options.”  I’m personally interested in hearing more about their business model and product roadmap. In particular, while subscription revenue is great, there may be an opportunity to really tap into “affiliate marketing” in the local restaurant space.

GearHeadz is basically a market maker for idle time on digital manufacturing equipment. As founder Nick Pinkston told PopCity, someone who needs a part for a prototype can send them the specs and they will in turn find the best price. (I’m picturing an army of MakerBots…)

LeftRight Studios is an iPhone game studio. smackBOTS, their first game, is similar to that old Rock’em Sock’em game and recently broke into the top 100 on both the action and kids categories for games.

NavPrescience is developing “personalized and predictive navigation solutions to improve the experiences of drivers.” They are still in stealth mode so not too much information is available. There are navigation systems like the Dash Express that crowdsource traffic information – perhaps NavPrescience will take this a step further and predict traffic based on previous traffic patterns?

Vivo is a web-based video broadcasting service that provides users with a private, customizable environment for sharing events. They are somewhat similar to LiveStream, UStream and the like, but are focusing on private events such as weddings or conferences. Given the trouble that those other companies have found in terms of generating revenue, it seems like Vivo may have found a good niche. They were also recently covered by the Post-Gazette – on the front page of the business section and as a featured story online.

Finally, Zipano Technologies is attempting to give users more control of the personal information that we share through social networks and the like. You can define rules on who can see your location and when it it is made public – for example, you can choose to make your location public when you’re at, say, a bar or the CMU campus but when you’re meeting at a potential client’s office.

I’m hoping to get interviews and do a more detailed profile of each of the companies. If there’s anyone in particular you want me to follow up with, let me know in the comments.

Believe it or not, great tech business can – and are – sometimes built outside of Silicon Valley. No, seriously.

During a recent Founder Institute talk, Adeo Ressi said that if he started a company in NY and someone started an identical company on the West Coast, the NYC company would be worth 1/5th or 1/10th. The idea that any business not started in Silicon Valley is automatically inferior is ridiculous – as is the idea that simply by starting your business in Silicon Valley that it will automatically be worth that much more.

Silicon Valley champions love to point at the number of big companies that have come out of Silicon Valley, but looking at this statistic alone ignores the fact hat there are more businesses period started in Silicon Valley. This also means there are an order of magnitude more failed businesses and bad deals in San Francisco. Fred Wilson attacked this fallacy in a recent post:

Let's look at the facts. Seattle has produced Microsoft and Amazon. Boston has produced DEC and Lotus. Austin produced Dell. NYC produced Bloomberg and Doubleclick. Europe has produced SAP and Skype. I'm doing this at 5am on my blackberry on the redeye because I can't sleep so my examples are what I can muster at this moment. I could do better with a clear head and an Internet connection.

But the point is this. Not every great tech company comes out of Silicon Valley and you don't have to be there to be a successful entrepreneur.

The West Coast clearly has certain advantages, but it’s important to recognize that you’re trading one set of problems for another. As Fred put it, “[f]or all the benefits … like density of great engineers and VCs, you have negatives like hypercompetition for talent and the creative cost of living in an echo chamber” – and of course higher costs talent and office space and related expenses.

The thing that really bothers me is when others give prescriptive advice that you “must” start or move to Silicon Valley in order to be successful. Giving advice like this while blindly ignoring the context and circumstances is a disservice to budding entrepreneurs. Your network is the most important source for building a great team (and thus business); if you have a great network in Pittsburgh or Ann Arbor, you’re probably going to have better luck attracting and retaining talent there than in Silicon Valley. Launching a business involves a lot of hard work and sacrifice; if your support system is in Austin, then you’ll probably find it easier to stick with it there when the road gets tough than if you’re out by yourself in Silicon Valley.

And, as Alan Warms discussed, a whole slew of services (such as Twitter) have really made it easier for people to connect with the Silicon Valley crowd even when they are not physically present. (Alan is a serial entrepreneur and investor in Chicago).

The area where we definitely were lacking in before was the whole networking game - 10 years ago you flew to the Valley at least once if not twice a month — plus you attended 5 or 6 tech conferences a year. But nowadays, with all the new collaborative technology out there — i can see what VCs in the Valley are thinking by reading their blogs and reading BuzzTracker Venture Capital — I can track the technology news by going to BuzzTracer Technology. And by commenting on these blogs and using new services like MyBlogLog you can really start to develop new relationships online.

Ultimately, I think Fred makes the point best in his conclusion:

When asked to summarize my thoughts on business models at the end of last night's panel, I said "there's more than one way to do it." And the same is true of locating your startup. You can build a great startup in any of the dozen to two dozen startup hotbeds around the world. Pick a place you want to live and work and possibly raise a family. And then get busy.

Quite simply – you shouldn’t buy the inferiority complex that they’re selling. San Francisco is great, but there’s no reason you can’t build a great business anywhere. (Well, within reason). 

This article probably isn’t the article you were expecting to read; most articles with a title like this one will usually talk about how important it is to be in Silicon Valley. Rather, I think it’s important to consider the other side of this conventional wisdom.

As I wrote in the past, there are valid reasons why you shouldn’t start a tech company in Silicon Valley. Obviously, one of the key elements there was money and, in particular, the accessibility of early stage money. Given the changes in the fundraising market since I first wrote the article, I thought it would be worthwhile to revisit that discussion.

Raising money from VCs is more difficult

Even though venture fundraising was down an astounding 82% less in Q2 (with half the number of firms being raised), the reality is that many VC firms still have way too much capital to deploy. In order to realize the returns necessary on these larger sums of capital, VCs are doing fewer deals but putting in massive amounts of money, often to negative effect.

None of this is to say that good companies won’t be able to raise money – just that the traditional fundraising model seems to be changing. Because it’s cheaper to build a business, you’re expected to be further along by the time you start raising institutional money. Unless you’re a serial entrepreneur with a history of big exits, the days of raising $5m on a PowerPoint are largely gone. 

Higher expectations for seed stage

This is further exacerbated by a tighter market for seed money in the $250k-$750k range. Angel investors have gotten a lot more organized in recent years, forming angel groups that syndicate deals and allow them to move into territory that was once exclusive to the VC. On top of this, many casual angels aren’t investing in light massive losses in the public markets. Ultimately, this means that more actual money may be deployed by angels today, but at the same time the relative number of companies that are angel funded is dropping. Of course, these bigger deals come with the same higher expectations that VCs have today.

Some VC firms have launched “seed” programs that provide funding up to $250k, but the untold secret there is that the standard is even higher than a traditional Series A. The reason for this higher standard is that the VC will often spend just as much time on the small deal as the large one, even though it won’t fundamentally affect the fund’s bottom line. As a result, the VC has to be even more selective about who they commit to so early in the process. (This doesn’t apply to all such programs; some are more passive with the VC not taking a board seat or otherwise getting heavily involved).

There may be less money – but you also need less of it

In other words, your initial $25k needs to go a lot further if you want your business to have any chance of survival. With that seed money, you either need to start generating revenue such that the business will be self-sustaining or you need to cross that ever-widening chasm to institutional investment.

The good news is that, while expectations are higher, the cost of starting a business is a lot cheaper. Infrastructure costs have dropped dramatically in the last few years. Better tools and frameworks, cheaper outsourced talent and the availability of open-source software have driven down the cost of building and launching a product.

For an early-stage startup, talent and office space make up the most significant portion of your burn rate by far. Our hosting and development costs were virtually zero by comparison. I recently worked with a company that had one of the most aggressive (and perhaps unrealistic) growth plans I’ve ever seen. Even with an estimated $6,000/mo in server hosting, $10,000/mo in employee benefits and $10,000/mo in travel, over 90% of their expenses were office space and salaries.

And here’s the thing – you have the ability to control these costs, because location plays a major role. San Francisco and New York City are the two most expensive places to live in the United States which directly translates to a higher burn rate. For example, we raised around $80,000 for Notches last year. Much of this funding was used to hire an engineer at $65,000 – less than market rate in a competitive job market at the time, though perhaps still a little higher than you’d pay in San Francisco. We spent another $1,575 per month for rent on three desks in a shared office space. Without myself or my my co-founder collecting a salary, we were spending nearly $7,000 a month.

If we had started the company in Pittsburgh instead, our monthly costs would have been 30-40% less. Right off the bat, talent is at least 15-20% cheaper. Given the city’s affordability, you’re also more likely to find people willing and able to work for less relative salary and a greater slice of equity. Office space is much cheaper as well – 200-300 sq ft turnkey offices are available for less than we were paying for a single desk.

On a small $25k raise, we’re talking about an extra two months of runway for a company – a difference which may very well determine whether your business survives or not.

As I said in the previous post, one of our goals is to provide visibility and some coverage for Pittsburgh startups. If you’re interested in being profiled on Nextburgh – even & especially if you’re early in the process - please contact me.

That said, building a business is hard and there's a reason that many high-tech entrepreneurs choose Silicon Valley - it has an extensive support system in place to really make the process a lot easier. Our goal with Nextburgh is to start putting some of other pieces in place in Pittsburgh to help the city take the next step. 

We're launching two things today which are hopefully just the beginning:

A blog to provide exposure for local startups. An important first step in this process is visibility and exposure for those already doing great things - so we're starting a blog that will focus on covering local Pittsburgh startups. Whether you're a mature, venture-backed company or just a guy/gal with an idea, we'll help you get the word out. If you're interested in being interviewed for the blog, contact us.

A mailing list to help entrepreneurs connect and share insights. Being an entrepreneur can be daunting, especially when you feel like you're tackling a unique set of challenges. Even though it may not always seem like it, the good news is that you're usually not alone. Our goal with the Nextburgh mailing list is to help entrepreneurs connect with each othe to ask questions, share insights and, well, sometimes just get a little empathy. We intend this to have a very high signal-to-noise ratio and there are certain guidelines in place to help ensure that.

We have a lot more planned down the road, but hopefully these two pieces can start laying the foundation for what's next in the 'Burgh.