Over the years in the venture business (and more generally in life), I have tried to develop a few maxims to help me steer a steady course, even in tumultuous seas. One of these is that it is best to concentrate all of one's intellect and energy on the controllable variables and not waste time with those external forces over which one has no influence. Embracing this discipline is for me particularly difficult because I am an addict --- a news junkie. And the last few weeks have put me, and many similarly afflicted citizens, in a state approaching a terminal overdose.

We have had to live with the daily bombings and reprisals in the Middle East and despite the reengagement of the US, at this writing, no peaceful outcome is in sight. We have witnessed the ouster and reinstallation of a democratically elected President in Venezuela with the predictable attendant oil price fluctuations. This happened so fast that the pundits barely had time to comment. Killings continue in beleaguered Columbia and merit only scant comment. We decided, for the moment, not to drill for oil in the Alaskan wilderness. We are sending former President Carter to Cuba, presumably in contemplation of Castro's smoking his final cigar and the subsequent possible easing of relations. And we have been witness to the soap opera in Cambridge between Dr. Summers and Dr. West ending in the relocation by West to Princeton, which he believes will be more hospitable than Harvard.

It is one measure of the vastness, strength and stability of the US economy that none of these has, as yet, had a significant impact on the fundamentals of GDP growth and developments within many business sectors. The economy is recovering despite the tremendous body blows of 2001 and the dire predictions of the great majority of economists. However, the recovery has been slow to moderate and skittish, depending, in part, on the sectors one examines, and the equity markets have been sluggish. We agree with one observer who believes the disappointing equity market performance is due to the "Enron effect". That is to say, that in the wake of Enron, Global Crossing, Merrill Lynch and even financially suspect statements by Big Blue, investors are appropriately skeptical and waiting on the side lines until financial misrepresentations are corrected. We think this is happening rapidly due to the pressure of declining stock prices, and managements appear to be moving in concert with their auditors to create more transparency and clarity in their financial reporting. Accordingly, we believe that, as is so often the case, the problem will self correct by the time regulators issue sterner reporting procedures.

This brings us around to our small patch of the US economic quilt, entrepreneurial capitalism, which is suffering from a contagion of contentiousness. Since WW II, the VC business has been conducted by a relatively small group of participants who understood and observed the ground rules. Even today there are less than 1000 firms in the business in the US with an aggregate employee count of less than 10,000. Until now, the GP/LP relationships were clubby if not downright friendly and I can think of only one instance of litigation over the past thirty years up until 2000. Due to the combustible combination of the siren call of the Internet commencing circa 1996, the unprecedented allocation of capital by institutions to VC firms, the rapid growth in the number of funds, the explosion in size of the largest quartile of funds, the failed dot com investments, the retreat of the equity markets in 2000, the brief contraction of the US economy and resulting appalling venture performance, the comfortable VC world has changed forever.

There is an element of posturing that runs through the current GP/LP arguments as certain investors lament the fact that the GPs raised too much capital and are, thereby earning excessive fees. They have a point in that the 2%-of-committed capital fee structure common in the industry was promulgated when the typical fund had $50 million of paid-in capital, not in excess of $300 million which is currently the case and which masks the fact that more than 30 funds each manage over $1 billion. However, all the investors knew precisely the size of the funds and the attendant fee structures when they subscribed in '98, '99 and early 2000. At the time, they uttered not a word of protest because GP and LP alike thought untold riches were in prospect. Now that the results of enthusiastic but ill-founded investments are becoming apparent, investors are seeking redress, in part, by attacking the fee structure because they feel while they have suffered, the GP managers have continued to do well in terms of their current compensation based on fees. This misalignment of interests has been debated before but never so heatedly, and this time it is resulting in litigation and substantive change including funds being split in two, funds being reduced in size and follow-on funds being postponed. In the long run, I think these are ad hoc band-aid solutions and that we will soon see the widespread adoption of fees geared to a specific budget to be submitted by the General Partners and approved by the Limited Partners. This would eliminate the huge fees attendant to very large funds and realign the interests of managers and investors who would share a focus on realized returns.

Fortunately, the small fund end of the market, where Milestone participates, has not been a party to this contentiousness because fees simply are not a significant factor in the GP compensation formula. Milestone's challenges are significant but "old fashioned" in that we are seeking out young companies that can execute a growth plan that is not capital intensive and where a lucrative exit strategy within four years, at an attractive valuation, is feasible. Although it is axiomatic that one never sees enough great opportunities, we are generally pleased with the deal flow and convinced that New York has a long and prosperous future for information technology companies that have developed productivity enhancing solutions to sell to corporate America. The private equity markets are sufficiently conservative, wary and distracted by the disputes referred to above so that if one does have money to invest, one has the luxury of a lengthy and thorough due diligence period, thereby enhancing the likelihood of sound decisions.

Although IT spending remains soft, we agree with those who argue that corporations operating in heavily competitive markets cannot long postpone mission-critical investments in technology and we therefore anticipate a resurgence in this area of capital spending during the remainder of 2002 and beyond, resulting in many appealing investment opportunities for MVP II.

Please know that Richard, Todd and I are available to respond to your queries concerning the current environment and Milestone's plans.

Yours truly

Edwin A. Goodman

General Partner

Milestone II Portfolio News

US Private Equity Performance Index

(Investment Horizon Return as of 09/30/01)