Venture Capital Loves Virtual

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Startups selling virtual goods and offering virtual experiences are raking in the venture capital these days. Perhaps it’s the fact that virtual gifting hit the mainstream in 2007 or because people are worried about the impact of business travel on the environment, but the virtual world is beginning to get its share of real dollars.

In the first half of 2008, virtual worlds raised $345 million in venture investment, according to data from Virtual Worlds Management, a media company that covers the industry. And while it may be easy to dismiss the virtual economy as frivolous or scoff at the idea of attending a virtual trade show as useless, deriding the intangible misses a crucial point about today’s culture: A lot of it is happening online.

From World of Warcraft to relationships built on Facebook or MySpace to intensely personal blog entries, we are using the web to extend our real lives into virtual ones. It makes sense that an army of startups will follow us there, ready to supply us with tools that make our virtual lives more productive or enhance our virtual status. So even as Google struggles to monetize video advertising on YouTube and social networks pray for higher CPMs, there is money to be made selling virtual swords and trade show booths.

Given that gaming, all the way back to Dungeons & Dragons offline to World of Warcraft online, has long pushed the envelope when it comes to building virtual worlds, it’s easy to see why their players are among the most comfortable buying and selling binary-based goods. Since games are where a lot of this began, it’s where a lot of investment dollars continue to flow. Earlier this week, Social Gaming Network netted an investment, the value of which was undisclosed, from Amazon Founder and CEO Jeff Bezos’ personal fund. SGN creates games for social networks such as MySpace and Facebook, and makes some of its revenue from the sale of virtual goods.

Last week Challenge Games, the Austin, Texas-based startup behind the popular casual role-playing game Duels, raised $4.5 million in a first round funding. Ironically it started its very real relationship with its newfound venture backer, Sequoia Capital, after a Sequoia partner attempted to purchase a pack of virtual armor. More than swordplay, sparking those real-world relationships is where the future of virtual worlds is headed as socially networked and digitally savvy generations rise in the corporate ranks.

Research firm eMarketer expects the number of teen Internet users visiting virtual worlds to rise to 20 million by 2011 from just 8.2 million in 2007. Expectations like these are driving investments in virtual worlds largely populated by teens, such as the $11 million Series C round of funding Gaia Online took in this week. That world makes money by selling virtual goods and advertisements.

Despite the hype surrounding Corporate America’s embrace of Second Life, which included stories about conducting job interviews in the metaverse and its very own news bureau, there is a business model around enterprises going virtual when it comes to conferences and collaboration. Just ask Cisco Systems, which has been quite busy in Second Life as of late.

According to the 2006 Meetings Marketing Report by the International Congress & Convention Association, corporations spend an average of $107 billion sending employees to conventions and in-person meetings. The number of conventions and meetings that year totaled 1,243,600.

Eliminating some of those costs — and the need to meet face to face at all — is one of the advantages of virtual conferencing, which explains why On24, a webcasting and virtual event producer, raised $8 million in funding on Tuesday. Many gamers and young adults bring their avatars into the workplace and are comfortable holding meetings online. To some this sort of communication may seem awkward, trendy or forced, but that’s at least partly because an older generation of workers isn’t used to managing online relationships.

The rise of the virtual won’t supplant the economy and relationships of the real world, but it will augment them. However, until bringing your virtual wealth and friends with you around the web becomes easier, virtual worlds will remain fragmented and bereft of their full economic potential. True data portability could allow people to create one digital persona that travels the web, paying money to access certain worlds via subscription, but able to leave that world and still seamlessly connect with friends made there. There's still too much real-world work required to link your various avatars and social network in multiple worlds. Solving that problem is yet another venture opportunity.

This post was originally published on BusinessWeek.com.