An Old Hotbed With New Crops

For nearly 50 years, Silicon Valley has been a marvel of re invention through
innovation. Every decade or so, a new generation of companies has come along to
spark the local economy. After the granddaddies of the Valley's high-tech
industry, such as Hewlett-Packard and Fairchild Semiconductor International,
there were Intel and Apple Computer in the wild early days of the personal
computer. Then computer networks became de rigueur in corporations, and Cisco
Systems, Oracle, and Sun Microsystems rose to prominence. In the 1990s, Netscape
Communications Corp. cooked up a spiffy Web browser and started the Internet
revolution. Even today, years after the dot-com bubble burst, Valley Net
companies like Yahoo!, Google, and eBay are changing the way people do business.

But along the 45-mile stretch of Highway 101 from San Francisco to San Jose,
there's a nagging question these days: What's next? The anxiety is fueled by
the employment picture. The number of jobs in the region has plummeted 20% since
2001, to 840,000, the steepest loss since the Valley's fortunes were fashioned
from silicon. The tech industry's prospects offer little comfort. While some
analysts believe the information-technology industry can resume growing at its
historical average of nearly 10% annually, others see it languishing at only 3%
to 5% annually for the foreseeable future. That's the kind of growth expected
from Rust Belt businesses, like the automotive industry.

Is Silicon Valley becoming the digital Detroit? Or can it reinvent itself one
more time? Look closely and you'll see that the process is already beginning.
University labs are bubbling with unorthodox ideas. Entrepreneurs are building
startups of a different species than traditional high-tech companies. And
venture capital is following. The Valley's best and brightest are heading off
in new directions, blending info tech with biotech and emerging material
sciences such as nano—technology. This cross-pollination is producing hybrid
companies that will play a critical role in the region's efforts to remain the
center of gravity for innovation. "The key is to look in the white spaces
between disciplines," says John Seely Brown, the former head of the famed
Xerox Corp. Palo Alto Research Center and now a visiting scholar at the
University of Southern California's Annenberg Center for Communication.

Think of this as Silicon Valley: Next Generation. A new crop of startups
offers a peek into the future. XDx, in South San Francisco, Calif., is using
information technology to improve the monitoring of heart-transplant patients'
immune systems. Silicon Genetics, based in Redwood City, Calif., has developed
software tools to make it easier to research human genetics. And Santa Clara's
Peribit Networks is applying biological research to data networking.

Lure of India 

The valley's startups aren't being built in the same old ways, either.
Increasingly, they're hiring many of their employees elsewhere - often
overseas. Two Valley venture firms, JumpStartUp Fund Advisors and WestBridge
Capital Partners LLC, even specialize in so-called cross-border startups that
split their staffs between India and the Valley. The top execs, along with the
sales and marketing staffs, typically are in the States, to be close to
customers, while the engineering staff, including most of research and
development, is in India. "Over the next five years, there are going to be
quite a few of these companies funded," says M.R. Rangaswami, co-founder of
Sand Hill Group, a Valley-based consulting company specializing in Indian
business.

The new regime in Silicon Valley means this round of reinvention won't be
anything like those of the past. In particular, there's unlikely to be the
kind of job growth that followed the personal-computer and Internet booms. The
cost of living in the Valley is now so prohibitive that cash-strapped startups
can't afford to hire many people here at the salaries they need. The median
price of a single-family home has shot up 240% over the last nine years, to
$640,000. The result: Only 21% of the people who live in Silicon Valley now earn
the median income necessary to buy a house, down from 36% in 1995, according to
Leslie Appleton-Young, chief economist at the California Association of
Realtors. That's one reason why the Valley is expected to see just 1% to 2%
growth in employment for the next several years, according to Economy.com.

Still, there's little question that the Valley will continue to create
important, innovative companies. The region has been blessed with a rare
combination of venture capital, good weather, and institutions such as Stanford
University and the University of California at Berkeley that are loaded with
academic and research talent. Most of all, the Valley has fostered a culture of
risk-taking, where talented hotshots itch to turn great ideas into corporate
winners. This ethos is alive and well in the Valley and continues to draw
ambitious entrepreneurs from far and wide. "We have a habitat for new
companies here that's unique," says William F. Miller, a professor
emeritus at Stanford and the former chief executive at SRI International.
"All the services are here, and they all specialize in dealing with
startups-the banks, the lawyers, the marketing firms. It all permits a company
to move more quickly and get good advice."

And don't discount the value of money, mountains and mountains of it.
Venture capital, so important to nourishing the ideas of young entrepreneurs, is
still Valley-centric, with its epicenter along Palo Alto's famed Sand Hill
Road. About 38% of the venture funding in the US in the second quarter of 2004
went to companies in the Valley. That's twice the share of the runner-up,
Boston, and almost exactly the same rate as it was 10 or 15 years ago. "It's
very difficult to find an area where there's more brewing, at least for a U.S.
investor," says Michael Moritz, a partner at the venture-capital firm
Sequoia Capital.

Even so, the Valley must contend with the likelihood that it won't be the
world's singular nexus for the funding and development of innovation. Silicon
Valley's share of biotech spending in the second quarter, for instance, was
29%, just seven percentage points ahead of Boston. "There was a time when
venture capitalists cared about where they were investing," says Daniel
Primack, editor-at-large at Venture Capital Journal, part of the research firm
Thomson Financial Venture Economics. "But venture capitalists are looking
everywhere for deals now."

They have to. Critical masses of talent are forming far outside the Valley's
borders. Bangalore, India, and several regions in China, for instance, are
emerging as important centers for software development, tech services, and
low-cost manufacturing. These high-tech workforces are beginning to create their
own entrepreneurs, and both financiers and high-tech companies are taking
notice. "The innovation's still bubbling in Silicon Valley," says
Shane V. Robison, chief strategy and technology officer at Hewlett-Packard co.
"I think it always will. It just isn't the only place that it's
happening."

Eureka Moments

The most successful startups may be those with one foot firmly planted in
info tech and the other in emerging technologies. Peribit Networks is one such
hybrid of the Valley's past and future. The Santa Clara company was founded in
2000 by a Stanford doctoral student, Amit P. Singh, who was doing bioinformatics
research, designing algorithms and computational models to speed up the analysis
of DNA sequences by recognizing hidden patterns. When Singh finished his PhD, he
was wondering what to do next. His "eureka" moment came when he
realized his work could be applied to routing computer traffic over networks.
"They took technology designed for the genetics world and moved it into the
communications world," says David Ladd, a general partner at Mayfield, one
of Peribit's investors.

At Singh's alma mater, they're trying to make those breakthroughs a lot
more common. Stanford opened the 146,000-square-foot James H. Clark Center in
October, 2003, to provide a place where experts in info tech, biotech, and the
material sciences can share ideas and, just maybe, spark a few business plans.
The space age-looking center, part of Stanford's interdisciplinary biosciences
program called Bio-X, will house 600 entrepreneurs and researchers when it
reaches capacity. The school is providing two-year, $150,000 grants for people
who want to do interdisciplinary research. "The health of the Valley
depends on really new things coming along," says Matthew P. Scott, a cancer
researcher and biologist who heads the Bio-X program.

The Stanford research center also has an eye toward the business community.
About 10% of the spaces in the center will be reserved for visiting academics
and people in private industry. Scott knows that whatever comes out of the Clark
Center, or similar centers being built at nearby University of California
campuses in San Francisco, Berkeley, and Santa Cruz, won't turn into big
companies overnight. But he has an eye on the long term. "The growth of the
Valley has been driven by a small number of very powerful technologies that
utterly transformed the world. But these are outgrowths of technologies that
have been developing for many, many years," he says. The original
programming protocols for the Internet, for example, were developed 26 years
before Netscape went public.

While such initiatives could pay dividends down the road, some startups are
going it alone. In a warehouse district of Redwood City, sandwiched into a row
of auto yards, is Silicon Genetics. The company's programmers and genetics
experts are working on software tools that make it easier to make sense of the
volumes of data unearthed in human genome research. It was founded by Andrew
Conway, a biochemistry researcher at Stanford. Conway grew frustrated with the
lack of good tools to help him do his job. So he built his own and created a
company to sell it with about $100,000 he made playing the stock market.
"That is what you do around here," laughs Conway, a 34-year-old
Australian who came to California for graduate school.

It's little companies like Silicon Genetics that are necessary to breath
life into the Valley and its more mature companies. On Aug. 23, Agilent
Technologies, the tech-equipment giant that was Hewlett-Packard's original
instrument and measuring business before it was spun off in 1999, acquired the
five-year-old company and its 50 employees for an undisclosed sum. Palo
Alto-based Agilent plans to add Silicon Genetics' two main software products
to its growing portfolio of biomedical research software. The room full of
programmers and PhDs will be moving out of the little office and getting new
digs with the rest of Agilent by early next year. Agilent is turning to a
startup to help it reinvent itself around genomics research.

Reinvention takes time, however. And some wonder if the Valley has the
patience to wait for those new things. Valley investors are especially wary of
biotech and materials research companies because of the inconsistency of the
payoff. Roger McNamee, for example, the co-founder of Silver Lake Partners,
prefers to steer clear of biotech. "The capital intensity is very high, and
the probability of success is very low," he says.

A Little Here, A Little There 

Still, many entrepreneurs are forming companies in innovative ways that don't
require as much capital as was needed before. Some are opting for offshoring
jobs from day one. Take Conformia Software Inc. Based in Redwood City, the
three-year-old software company has about 30 employees in Silicon Valley,
including the executive team, marketing, and sales. An additional 50 to 75
employees are in Bangalore, including nearly all of Conformia's engineering.
"When you're a startup and you're trying to conserve capital, it makes
sense," says co-founder Neil K. Kataria.

It's the new Valley startup model: Keep your top engineers, sales, and
marketing people local. If other jobs can be done elsewhere for less, send them
there. Of course, that won't lead to a lot of new jobs for the local folks.
But as long as Stanford and Berkeley have creative students, as long as San Jose
averages 300 days of sunshine per year, and as long as the venture-capital
community pours dollars into local startups, the Valley should continue to lead
the world in joining invention with a business plan- the most tangible
definition of innovation. From a region so accustomed to reinventing itself, the
world should expect nothing less.

By Jim Kerstetter with Robert D. Hof in San Mateo, Calif., and Bruce Einhorn
in Hong Kong in BusinessWeek. Copyright 2004 by The McGraw-Hill
Companies, Inc

Booms... And the Occasional Bust

Silicon Valley's business cycles are tied closely to innovation in the
computer industry. After the historic boom of the late 1990s, it's not clear
what the Next Big Thing will be to get the Valley growing again

1968 Semiconductor giant Intel is founded by Gordon Moore and Robert Noyce,
two employees of tech pioneer Fairchild Semiconductor. Intel, under the
leadership of Moore, Noyce, and Andrew Grove, becomes the model for Silicon
Valley's egalitarian engineering culture.

1976 Apple Computer is founded by Stephen Wozniak and Steven Jobs, beginning
the personal-computer boom. Over the next nine years, the Valley's workforce
increases by more than 60%.

1977 Database software maker Oracle is founded by Lawrence Ellison, Robert
Miner, and Edward Oates.

1981 IBM selects Intel's computer chips for its new PC. Intel, which had
focused more on data storage, shifts to making microprocessors for the growing
PC market.

1982 Corporate computer maker Sun Microsystems is founded by Scott McNealy,
Vinod Khosla, William Joy, and Andreas Bechtolsheim.

1984 Apple releases its initial Macintosh, the first affordable computer that
allows people to use a mouse to click on icons instead of typing complex
computer commands.

1986 The PC business begins to consolidate around a handful of manufacturers,
and the Valley loses 3% of its jobs in one year. Lacking a major new innovation,
the Valley's growth stays slow for the next eight years.

1991 The Cold War ends, and the Valley loses nearly 3% of its jobs over the
next year because of cuts to defense spending that hurt big contractors such as
Lockheed and United Technologies. Employment bottoms at 790,300 in March, 1992.

1994 Netscape Communications Corp. is founded by James Clark and Marc
Andreessen. Netscape popularizes the Web browser and starts the
commercialization of the Internet.

1995 Netscape goes public, igniting the dot-com boom. In five years, the
Valley's workforce increases nearly 30%. Employment peaks in December, 2000,
at just over 1 million jobs in Greater San Jose.

2000 The boom ends. Over the next three years, the Valley loses 212,900 jobs.
By July, 2004, total employment is 841,000 jobs, just 4% greater than at the
beginning of 1995.

Silicon Valley's Strengths and Weaknesses

The Valley continues to be a world leader in technological innovation. But
behind every attribute of the local economy, there's also a downside

Plenty of Talented Workers...

More than 30 years of high-technology entrepreneurs have created a strong
workforce of engineers, tech marketing experts, venture capitalists, and legal
experts necessary to get small companies off the ground.

As Leaders Plan for Future Growth...

Through groups like the Silicon Valley Joint Task Force, local business,
government, and academic leaders are planning for the Next Big Thing, which
could come out of the convergence of info tech, biotech, and material sciences.
The Bio-X Center at Stanford University was created for the study of such
convergence, and similar research centers are opening in University of
California campuses in nearby San Francisco, Berkeley, and Santa Cruz.

Venture Capitalists Prefer Silicon Valley...

Silicon Valley is still the biggest recipient of venture-capital spending.
In the second quarter, $2.13 billion in VC money was invested in Silicon Valley
companies, more than twice the next highest recipient, Boston, and 38.2% of all
the VC money invested in the US.

...But the Cost of Living is Scary

The Valley's 6.2% unemployment rate is still above the 5.5% U.S. .gure.
One reason why is that wages have to match the out-ofsight local cost of living.
The median price for a single-family home in the Valley is $640,000, more than
three times the national figure.

..But They Worry About the Local Infrastructure

Local leaders worry that a lack of affordable housing, cuts to the public
school system, a poor mass-transit system, and a crumbling road infrastructure
will limit Silicon Valley's ability to grow. Indeed, commuters on all bridges
over San Francisco Bay may have to pick up the tab for an overbudget earthquake
retro.tting project on the Bay Bridge, which connects San Francisco to Oakland.
That project alone could end up costing more than $5.1 billion.

...But in Biotech, the Gap is Closing

Silicon Valley's share of biotechnology venture capital was 29% of the
total spent around the US in the second quarter. By comparison, Boston received
22%. Clearly, the Valley's grip on biotech spending isn't as strong as it is
in traditional technology sectors.

Voices of Innovation

What can we learn from Apple's struggle to innovate during the decade
before your return in 1997?

You need a very product-oriented culture. Apple had a monopoly on the
graphical user interface for almost 10 years. How are monopolies lost? Some very
good product people invent some very good products, and the company achieves a
monopoly. what's the point of focusing on making the product even better
when the only company you can take business from is yourself? So a different
group of people starts to move up. And who usually ends up running the show? The
sales guy. Then one day the monopoly expires, for whatever reason...but by then,
the best product people have left or they are no longer listened to. And so the
company goes through this tumultuous time, and it either survives or it doesn't.

How do you systematize innovation?

You don't. You hire good people who will challenge each other every day to
make the best products possible. That's why you don't see any big posters on
the walls around here, stating our mission statement. Our corporate culture is
simple.

So the key is to have good people with a passion for excellence.

When I got back, Apple had forgotten who we were. Remember that "Think
Different" ad campaign we ran? It was certainly for customers, but it was
even more for Apple. That ad was to remind us of who our heroes are and who we
are. Companies sometimes do forget. Fortunately, we woke up. And Apple is doing
the best work in its history.