CONTEXT: How did you avoid getting swept along in some of the e-commerce fads that now seem to be such colossally bad ideas?

JIM BREYER: We tried to remain very consistent in our analysis and really look to how the math came together. We focused very specifically on gross margins. It’s something we’ve always felt strongly about in core software and communications businesses.

Some 95% of the entrepreneurs we met with could not take us through a detailed analysis of their gross margin structure.

Compare that with conversations we’ve had over the past year with Wal-Mart. The conversations always start and end with gross-margin structure. It’s a night-and-day difference.

What’s remarkable to me is how discipline was completely lost for a couple of years. For some reason, in consumer e-commerce, investors were caught up in a frenzy, and everything became relative. People would look at metrics but would make comparisons only with other dot-com companies, which were burning through cash like there was no tomorrow and heading straight for a cliff.

There were companies that were backed that would defy any rational analysis.

I think people were able to convince themselves that the top line mattered and that it really didn’t matter what the bottom line looked like. The public markets, of course, were receptive.

In addition, I think there was an unfounded belief that being first to market meant everything. In fact, as we’ve seen again and again, in particular where technology is concerned, leaders are not necessarily first to market. Whether it’s Microsoft in operating systems, Dell in the personal-computer business, Cisco in the data-communications and router business, Siebel Systems in customer relationship management software—all of these companies were second or third to market but were able to capitalize on enormous opportunities.

There was simply too much emphasis on being first to market and on building a pre-emptive brand position. People confused those dynamics with what have historically been the real drivers of success.

CONTEXT: Instead, you focused on clicks-and-mortar opportunities—in particular, taking assets from big corporations and turning them into standalone businesses. How are those investments looking?

BREYER: We started with BrassRing.com, because we believed that the Internet would fundamentally change corporate recruiting. We worked with the Washington Post, and eventually Tribune came in as an investor, as well. We’re working very closely with Tribune and Times Mirror to leverage their media and distribution assets.

BrassRing is off to a really good start. We’re a year and a half into it. The company will do upward of $80 million in revenue this year. We’re putting together a scalable bottom-line model, as well.

Wal-Mart is another company that we pursued aggressively when we couldn’t make Internet pure-play models work. When we’d have meetings to review proposals for start-ups that wanted to sell sporting goods or pet supplies online, we kept asking ourselves, What if Wal-Mart ever had its act together? Unlike the pure-plays, it has real assets, one million associates, 2,700-plus stores, more than 100 million customers per week, and a stellar board.

It’s going extremely well. We have upward of 150 people today at Wal-Mart.com. We have a truly phenomenal chief executive, Jeanne Jackson, who we were very fortunate to recruit from the Gap. The board is phenomenal. We are building what I think is one of the very best teams I’ve ever had the pleasure of being associated with.

We’re taking a very long-term view. When the deal was announced, the headlines tended to be: Watch out, Amazon.com; here comes Wal-Mart. When those stories came out, I was on the second floor of our offices here, unpacking Dell computer boxes so the business could get started. There were no employees at Wal-Mart.com at the time. I remember thinking, "Amazon is just fine for a long time." We could certainly, overnight, make sales increase so fast that the graph would look like a hockey stick. But what really matters is: providing the best imaginable customer experience over time; deeply integrating with the stores; and making money. We feel that we’re very much on track to do all of those, but there’s a long way to go.

CONTEXT: How are you thinking of integrating with the stores?

BREYER: There are an endless number of ways. One example would be a kiosk in the music or video section of the store. Wal-Mart is known for having very fair prices but carrying only the best-selling products. Through a kiosk linked to Wal-Mart.com, we can provide much greater selection.

There are phenomenal ways to allow the Internet user at home to gain visibility into the inventory of the local store. You could see if certain items for your child’s party are in stock. If they weren’t, you could have them delivered. If they were, you could reserve them and go by and pick them up.

Obviously, we have to make sure both the individual store and Wal-Mart.com are appropriately compensated for sales through the kiosks. But that isn’t turning out to be a big problem. At the beginning, most felt that individual store managers were the most likely people inside Wal-Mart to feel threatened. In fact, we received an overwhelmingly positive response from store managers. We believe that we can clearly show how store managers can increase sales in their stores through a deep relationship with Wal-Mart.com. We’re spending a lot of effort to make sure that Wal-Mart’s more than one million associates worldwide feel very good about what’s happening at Wal-Mart.com.

We are founded on the premise that very deep cooperation and integration are what is defining about Wal-Mart.com. Five years from now, the customer purchasing experience will be seamless. If a company isn’t best in the world both online and offline, it will simply not be a leader in e-commerce.

CONTEXT: You say you’re taking a long-term approach to success. How long is long-term?

BREYER: When I met with senior Wal-Mart executives in December 1999, I said that we were taking a long-term view, that what really counts for me is what business is like five years from now. David Glass, who was CEO at the time and is now chairman of the executive committee, looked at me and, with humor, said, "You think five years is long-term. We think anything short of 10 years is immensely short-term."

Whether it’s one, two, five, or 10 years from now, we think we should be one of the two or three most successful, most innovative e-commerce companies in the world.

Over the next couple of years, we’ll provide online the current assortment of products and services that Wal-Mart provides to the 100 million customers per week who come through its stores. We’ll also branch out into additional services.

Early on, we will target the existing Wal-Mart customer. Over time, we’ll extend that dramatically. I’m not the traditional Wal-Mart customer. However, what Wal-Mart stands for in terms of value, customer service, selection, and doing what’s right by the customer are the things that matter for me when I’m purchasing on the Web. If I order toys for the holidays, I want to be 100% sure they are going to arrive on time. All of that is very consistent with the long-term, Wal-Mart culture and values, so I think Wal-Mart.com can rapidly expand beyond the traditional customer base.

Over the years 2001 and 2002, there are a number of very significant technologies that you will see integrated into the Wal-Mart.com site. For instance, we’re working with technology for selling music online and for letting people communicate with each other and us far more seamlessly than they can now. The new technologies will help draw in new types of customers because they will provide an experience that is different from anything you’ll be able to find elsewhere on the Web.

CONTEXT: A lot of executives who attempt e-commerce initiatives talk about being attacked by corporate antibodies. If the store managers at Wal-Mart didn’t turn out to be antibodies, who did?

BREYER: A lot of people were initially very skeptical. I have no doubt that there are still varying views within Wal-Mart on what the relationship should be with Wal-Mart.com. But we have a strong champion in the CEO of Wal-Mart, Lee Scott. Rob Walton, chairman of Wal-Mart, has also been a critically important supporter.

Initially, there was some pushback from the information-technology group. The information architecture that is optimal for a standalone dot-com may not be optimal if you’re trying to integrate that architecture back into the inventory systems of stores, for example. Kevin Turner, the chief information officer, has been a strong proponent of what we’re trying to do. At the same time, it takes a lot of effort to ensure that we’re working together on an architecture that will work not only this holiday season, but also will be able to grow and support what we’re doing three or four years from now.

On the merchandising and buying side, we’ve had a remarkably smooth and pleasant experience. We buy toys and books and videos together. There’s very deep integration on the logistics and warehousing and distribution-center side.

CONTEXT: Are there any issues about dividing up hot products between Wal-Mart and Wal-Mart.com? That was a huge issue in the relationship between Toys "R" Us and toysrus.com.

BREYER: If not for the Wal-Mart culture, that would be a huge problem. What lots of people don’t know about Wal-Mart is that store managers are really like entrepreneurs. They make a lot of their own calls on purchasing and merchandising. They’ve always had to deal with allocations on hot products, so introducing Wal-Mart.com into the mix doesn’t change things that much. In addition, Wal-Mart has a powerful culture that allows people to work very closely together, and the company provides strong incentives for people to make decisions that are for the good of Wal-Mart as a whole. Wal-Mart.com is majority-owned by Wal-Mart, so people would rather see lots of business go to Wal-Mart.com than to other Web sites.

CONTEXT: Were there issues within Wal-Mart because Wal-Mart.com employees are compensated like entrepreneurs and could make a bunch of money?

BREYER: It’s a fundamental challenge. In Silicon Valley, compensation is all about the equity package, even in today’s market correction, and that’s not always true at major corporations, even at companies such as Wal-Mart, where people have done extremely well over the long run because of the stock’s appreciation. We’ve had to work through in enormous detail what compensation packages should look like so everyone feels the risks and rewards are fair.

We’ve had a remarkable run in recruiting for Wal-Mart.com. It’s unlike anything I’ve seen in our start-up world. We are virtually able to attract everyone we want to attract. It’s taken a lot of work in many cases. The sticking points are often around equity packages. In a classic Silicon Valley start-up, 30% of the equity might be in the hands of employees at the time of an initial public offering. At Wal-Mart.com, it will be more like 10% to 20% at the time of the IPO, which should come in 2001 or 2002.

People coming into Wal-Mart.com have to understand that there’s much less risk of failure than in a traditional start-up, and they still have the opportunity to become independently wealthy. Some people initially have trouble making that leap when a pure start-up is offering at least two to three times the Wal-Mart.com equity package.

CONTEXT: We recently ran a column that suggested business should consider "spin-ins," as opposed to spinouts. The idea is that, after a big company successfully establishes an e-commerce venture, it should use that venture to transform the whole company. Schwab did that wonderfully with its online brokerage unit. What do you think of the idea?

BREYER: I think it could work for many companies. But my firm belief, which is of course completely biased, is that the kind of structure we have at Wal-Mart.com is optimal if you want to attain a sustainable leadership position, and quickly.

Entrepreneurs are used to compensation packages that are fundamentally different than what the Fortune 1,000 might be able to offer. Many of these people, by definition, want to join a much smaller organization, and it’s the mix of the world-class outsiders with the very best of the parent that creates these unique cultures.

CONTEXT: You’ve lived through more than a few investment cycles. How do you see what’s happening with the plunges in dot-com stocks, and where do we go from here?

BREYER: We’re about where the personal-computer business was circa 1985. E-commerce has gone through the initial mass frenzy and surreal hype. We are now in the backlash days. I believe that we will go through a very rapid and very painful consolidation that will eliminate many of the pure-plays. But I have absolutely no doubt that we’ll emerge and that there will be a handful of multibillion-dollar e-commerce businesses that will be tomorrow’s Microsofts and Ciscos.

When we announced Wal-Mart.com in January 2000, there were a number of venture capitalists who said to me, "Are you crazy. Don’t you see that all of these e-commerce companies missed their numbers over the holidays? This is the worst time to start a new e-commerce company." That was music to my ears.

Companies such as Dell and Cisco were founded well after the introduction of the PC but are leaders of what might be called the second wave of that business. There are similar opportunities to lead in the second wave of e-commerce.

I think that, with businesses that handle physical goods, the right approach is to do the sort of carve-out that we’re doing with Wal-Mart, to take advantage of their physical presence, their logistics capabilities, and so on.

In businesses that aren’t physical—music, entertainment, and financial services—there are huge opportunities to fundamentally change the industries’ business models. I think we’ll see the peer-to-peer model—exemplified by Napster’s approach to sharing music files—become transcendent in numerous areas.

We’ll also see the model deeply influence businesses’ supply chains, and we’re very aggressively pursuing an investment strategy around that. For instance, we’ve invested in Ray Ozzie’s new company, which is based on the notion that peer-to-peer computing and communications sit at the heart of how business will be transacted going forward. Ozzie, who developed Notes for Lotus Development, has spent the past year and a half working on software to provide seamless communications for small groups that can scale to hundreds and thousands of participants.

What has happened in the venture-capital business this year may get in the way of certain investing activities. There are portfolios filled with B2C retailing investments that will require an enormous amount of work by the venture capitalists and that will keep them from doing other things. The state of those investments is much worse than the Nasdaq index might indicate. The second- and third-tier Internet stocks are off, in many cases, 90%.

But the venture-capital business is awash in new funds. We recently raised a new fund of $1.6 billion, and we’re going to make bigger and bolder bets. Anybody who gets complacent and thinks the pace of innovation will slow is due for a rude awakening.

In technology cycles, once you work your way through the backlash, the change that occurs always turns out to be greater than anyone expected, even in his wildest dreams.