Non-Linear Growth

A glimpse around the next corner; mind the curves.

December 22, 2009 • 3:14 pm 0

The make or break fallacy

It seems inevitable that every startup hits an inflection point; a “make or break moment”. There is no path to success that doesn’t include these moments. You have to go through them; they are not optional.

The catalysts that create make or break moments vary. Sometimes the catalyst is external; perhaps the market meeting your product, an acquisition by one of your potential partner’s competitors. Sometimes the catalyst is internal; a great new product release, a partner deliverable. We all know what these moments look like; we’ve all described a moment in time as “make or break”.

The notion of “making” a business in a singular moment is alluring. But entrepreneurs rarely think about the execution risks they will face after they’ve “made the business”; and the fact that there are likely to be future “make or break” moments where they will also have to avoid breaking. For me, ”make or break” is a fallacy. You can absolutely break a business in a singular moment, but rarely can you make a business that way. The only way to truly “make” a business is to exit it, in which case, future execution risk and future “make or break” moments become irrelevant.

Perhaps we should rename ”make or break”. Lets call it a “don’t break” moment. ”Don’t break” moments comes with the recognition that by not breaking, you create opportunity to execute well in the future so that you can see future “make or break” moments where you must also “not break”. If you make it through the gauntlet of multiple “don’t break” moments, you might just have the opportunity to exit the business for a monumental value at some point in the future.

How would you rename the “make or break” moment?

Filed under: Lessons Learned, Venture Capital, , ,

December 21, 2009 • 5:59 pm 3

What we have here is a failure to plan

Well, it’s that time of year; the end of the year that is. Time for holiday cheer, budgets and for a rare few, strategic planning. I say for a few because I’m frequently surprised at how little I hear from the VC community and VC-backed CEOs about strategic planning. When I do hear about planning, it is usually an entrepreneur or VC trying to explain to me why it is not necessary. The rationalizations go something like this:

Planning is for big companies.

Our space moves too fast to plan; if we define a strategy we’ll just have to change it in a couple of months.

We’re small, nimble and well-coordinated so we don’t need to plan.

Everyone in my company already knows what they should be working on.

Sorry to be Scroogy, but to those rationalizations I say hogwash! Go ask five of your employees to define the single most important thing the company needs to accomplish next year. Better yet, go ask your executive team; they should know, right? If you get more than one flavor of answer, you need a strategic plan.

Lets be honest, when you cut to the chase, the real reason entrepreneurs and VC’s object to planning is that it takes time, effort and concerted thought. Planning also implies goal setting and goal-setting implies there are objectives you can measure results against, and that implies accountability. Time, effort, concerted thought and accountability; who wants that hassle?

Planning doesn’t have to be complicated or burdensome. For me, planning is like creating a mental map.

Where am I, where am I going and how to I get there?

The process starts with an honest assessment of where you are. Unfortunately, in our reality-bound world, you don’t get to navigate from where you want to be; you can only navigate from where you are. When you are climbing a mountain, you don’t get to start 100 feet from the summit (that is unless you’ve driven to the top of Mt. Evans, in which case you are cheating in my opinion). Planning forces you to come to grips with where you are on a strategy map.

Planning also forces you to define your destination. If you can’t define where you are going, you are wandering aimlessly in the woods.  The rationalization that your space moves too fast to define the destination is not acceptable. At minimum, you should be able to create a directionally correct picture of the future that you are striving to create (ie. Our destination is to the west). The destination you articulate should be worthwhile and aspirational, yet realistic. Don’t worry if the destination changes in a future planning session; that is natural in an emerging market space. But the notion that the destination may change is a lame excuse for not planning at all.

Finally, planning forces you to create an execution path that closes the gap between where you are and where you want to be. If you can’t define the execution focus that will help you to close the gap between where you are and where you want to be, how can you expect your employees know how to close the gap? Tactically focused, execution oriented people you find in most companies need to know how to get from point A to point B in oder to be effective. It is your job to give them the map and show them how their job fits in.

Planning 101: Keep it simple

Planning doesn’t have to be complicated. To really boil it down, we can dispense with the “soft fuzzy stuff”; mission, vision, strategic intent, etc; although I’m a believer that those pieces of strategy have merit. For an emerging growth company, planning should be about two categories of issues:

  1. The things that you can accomplish that will make you wildly successful and;
  2. The things that you can do to yourself or that can happen to you that will kill your business if you do not prevent them from happening.

My Partners and I at Meritage call these the “Critical Issues”. There should be no more than five to seven of them. If you have ten or more critical issues, you probably don’t have the time, knowledge, resources or capital to execute your plan. Embedded in the critical issues is where you are, and where you need to go (point A and point B on a map). With those points in mind, the next step is to determine the route you are going to take.

For our companies, we like a set of three to five initiatives lined up against each of the critical issues. The initiatives provide tactical guidance regarding what you can to get from point A to B. Initiatives must be within your control; saying that your market must grow 50% next year is not an initiative. Initiatives must also not be prescriptive. “Sell better” is not an initiative, whereas “implement sales training program” clearly is.

Finally, now that you’ve defined the initiatives you are going to execute against, we have our companies establish measurements that define their success against the initiatives. Measurements must be, well, measurable. In other words, use numbers and dates; 10 enterprise customers by year-end, 8.5+ on customer satisfaction survey, version x.x of the product released by June 30, 2009 and on budget. Again, keep it simple; three to five measurements per critical issue is sufficient in our experience.

Putting critical issues, initiatives and measurements into a three column table gets your entire strategy map on one piece of paper. That is remarkable because it provides a simple communication tool to use with employees, Boards and shareholders. Some of our companies use the three columns as the first page of their Board reports and add a red-yellow-green light next to each critical issue to reflect the CEO’s overall assessment of progress against the critical issues. This format makes for an effective visual representative of progress.

This may sound old school, but its my experience that management teams that are honest about where they are, who know where they are going and are able to outline the key steps to get there perform better than management teams that can’t commit these things to paper. If you don’t have the vision to anticipate where you should be by the end of next year, shorten the time-frame; do quarterly or semi-annual planning.

Choosing not plan at all is a massive failure of leadership. So get your management team in a room and hash it out; you will all be better off for it and so will your company’s performance.

Filed under: Uncategorized, Venture Capital, , ,

November 24, 2009 • 5:34 pm 5

So, you want to be a platform?

Everyone wants to be a platform these days. And they are popping up faster than I can keep track of them. Facebook became a platform, enabling application developers to develop on top of Facebook. Next came the iPhone. Salesforce.com offered Force.com as a platform. Twitter became a platform. A few weeks back PayPal became a platform. AmEx bought Revolution Money last week, based in part on the notion that Revolution Money would become a platform for application developers. Google Wave is a platform. This week, LinkedIn is a platform. To top it all off, today AlcaLu announced it wants to be a platform. I could go on; this is madness.

This trend is not the exclusive domain of established players. It seems two out of three new investment pitches I hear have a “platform” element to them. This caused me to send the following tweet last week:

Your desire to be a platform does not make you one. Only the ecosystem around you can make you a platform.

Clearly, this topic deserves many more than 140 characters; hence this blog post. So what is a platform? Most people, particularly technologists, default to a technology definition of platform. In layman’s terms, a technology platform is infrastructure (hardware and/or software) upon which other technologies and applications can be built. This is intuitive and easy to understand. An operating system is a technology platform. And in the web-world, all of the services above fit the “technology platform” definition, because they all allow application developers to develop applications on top of something.

 The much more interesting definition from my perspective is a business definition. I favor the definition forwarded by David Evans and his co-author Richard Schmalensee in the Catalyst Code, in which they define an “Economic Catalyst” (a synonym for platform in my world) as:

An entity that has (a) two or more groups of customers; (b) who need each other in some way; but (c) who can’t capture the value from their mutual attraction on their own; and (d) rely on the catalyst to facilitate value-creating reactions between them.

I won’t steal thunder from the book - if you are interested in this trend at all, you should read it and its prequel “Invisible Engines” - but what the business definition drives home is that there is much more to being a platform than building a technology and hoping an application developer builds something on top of it. You can’t just be a technology platform; you have to make an ecosystem around the technology. In addition, the platform must serve both each of your customer groups well and must be a means to an end; that end being “a value-creating interaction” between those two customer groups.

Most of the platform examples I cited above talk about only one customer group, the application developer. That is natural in some ways as the release of these platform technologies is marketed to application developers. But this is only half of the story. We talk way too infrequently about why are these application developers build something on Facebook, Twitter, the iPhone, etc. This is important, because it is notoriously difficult to charge application developers to build on top of a platform. As I’m writing this, I can’t think of any good examples of big businesses built by charging application developers for access to a technology platform; perhaps with a little more thought I could gin a few up. Microsoft doesn’t charge application developers to develop on top of its OS. Microsoft makes its money charging software licenses to businesses and consumers who choose a Microsoft OS because of the large community of applications that are available on it. Facebook, PayPal, etc.; they don’t charge the application developer; at least not in a scalable way. You can’t just aggregate a bunch of application developers and make money.

We need to redefine success for platforms. A successful platform isn’t the platform with most application developers. The money is made by creating a value creating exchange with the customer on the other side. Therefore, a successful platform is one that facilitaties the most value-creating interractions for the two or more customer groups it serves. On that measure, all of the platforms I’ve mentioned (besides Microsoft’s OS business) are nascent. No-one has figured out a truly scalable way to create value exchanging interactions on these platforms; at least not in a way that serves the application developers well. A piece in GigaOm about the long-tail of iPhone application developers is illuminating. Om calls it “extra-long”, which means there are a very small number of applications making all the money and the rest are left fighting over scraps. Most of the examples I’ve cited have a consumer on the other side of the platform. The easiest business model for monetizing application to consumer interactions is advertising, whether on the web or “in-app”. Twitter is heading in that direction now, although they are rapidly bringing back functionality that has historically been the domain of the application developer community as they roll out their monetization strategy. You can be sure that those two trends are linked. We’ll see how the advertising model serves application developers on all of these platforms; my guess is not very well.

When a consumer is on one side of the platform, it is easier to become a platform when you have an installed base of users. Facebook had a massive user base before it opened up its platform. The same goes for Twitter, the iPhone, etc. It is much harder; some might say impossible; to start a consumer facing platform. Consumer facing platform strategies emerge from large installed bases of consumers; it may not be possible to start one explicitely, although Google is trying with Wave.

If you are an application developer on a consumer-facing platform, be sure the platform you build upon has a clear business model for helping you monetize the relationship you develop with the consumer. If not, be wary; what you do may eventually be consumed back into the platform. You may be left with no strategy for monetizing the user base you help to create.

For startups with no installed base on either side of their nascent platform, getting an ecosystem started is a bit trickier. For most, the only way to be successful is if the attraction between the two customer groups is soooo strong that the ecosystem ”makes itself” around your technology platform. Some refer to this as the chicken and egg challenge of platforms. It is not mission impossible to crack the chicken and egg, but it is a challenge. This may be easier in B2B platforms than in B2C or C2C platforms. Perhaps more to come on that in future posts.

For now, on to another type of fowl; TURKEY!

Filed under: Platforms, Venture Capital, , , , , , , , , , ,

November 17, 2009 • 4:45 pm 1

Pitching a VC: Turn the VC into your straight-man

There is really no one “right” way to pitch a VC. Whatever approach gets the job done is “right”. Having said that, the pitches I would rate as most effective over the years are those that caused me to engage by asking the right questions at the right times. As an entrepreneur, this is exactly what you want; the VC playing straight-man. The alternatives (the wrong question or the right question at the wrong time) can totally disrupt the flow and logic of your pitch. It is a bad sign if the VC is asking questions that don’t make sense or seem out of place.

Getting the VC to ask the right question at the right time is all about the logical structure and layout of the pitch; what you say when. What follows is a generic logical flow that I think optimizes an entrepreneur’s chance of getting the VC to play straight-man.

  • Tell ‘em what you are going to tell ‘em: Pretty simple, really. Tell the VC the three to five conclusions they will take away from the visit if they are paying attention. End this with an introduction to your team. Keep the team description short, just high-level backgrounds and skill sets.
  • The market: Articulate the market that you have specifically assembled this team to attack. This is not the addressable market for your particular solution (we’ll get to that later), but rather the umbrella market under which you are operating. How big is it? How fast is it growing? Is it dominated by giants or fragmented? Is it profitable, efficient, etc. Provide whatever information is necessary get the VC thinking about what the problem might be with this market; the unserved or underserved need. You want the VC to start trying to figure out the problem you are solving in that market, before you tell them what you do.
  • The problem: What is the problem, the pain point you have identified. Why does the problem exist? How big is the problem? What pain does it cause. Can you quantify the $ value associated with solving the problem? Is this a problem that has been around for a long time or is it a new/emerging problem. I’m not looking for a solution yet; we’ll get to that later. By this point, you want the VC asking: “What is the solution to this problem?”
  • The solution: Don’t tell me about your solution yet. What I want to hear about are the requirements to solve the problem. What technology needs to be developed? What added layer of the value-chain needs to be inserted? I want to hear you say things like: “What is required to solve this problem is …” Is cracking this problem non-trivial? Why has it not been solved yet? What is new (technology, etc.) that finally enables this intractable problem to be solved. What are the rewards that accrue to the player that leads the market in solving this problem? By this point, you want the VC asking: “Tell me how your products align with the requirements of a world-beating solution.”
  • Your solution: Introduce me to your specific “version” of the solution. Show me how it aligns with the generic requirements that you outlined. What is unique and proprietary about how you have approached the problem and architected the solution? Why will others have difficulty replicating what you have done?
  • The economics: Tell me how you get paid and why customers are willing to pay that amount. Use the economics of your business to show the size of the addressable market for your solution. You can flash your financial projections, but don’t dwell on them.
  • Team: Return to the team and show how the team you have assembled is perfectly suited to executing against the opportunity you have articulated.
  • Tell ‘em what you told ‘em: Revisit the three to five key takeaways you want the VC to walk away from the visit with.

What I have found is that pitches that follow this logical flow make for engaging discussions with lots of participation from the VC. Remember, the goal is not to “prevent” the VC from asking questions; that is unavoidable. The goal is to get the VC to ask the right questions at the right time. Getting a VC to play straight-man to your pitch doesn’t guarantee they will invest; but it will make for more effective and productive meetings and will increase your chances of raising money.

Filed under: Venture Capital

November 16, 2009 • 5:29 pm 1

What is this “momentum” of which you speak?

A meeting with an entrepreneur last Friday reminded me of the most frustrating and overused feedback entrepreneurs receive from VCs:

Talk to me when you have “momentum”; or

I need to see some “traction” first.

With more and more VCs looking to make later stage investments, entrepreneurs are receiving this feedback more than ever. You can understand why an entrepreneur might find this feedback frustrating. If they had massive traction, they probably wouldn’t need VC money, or if they did, the deal should be priced at a much higher valuation. That said, the real issue with this feedback is that it triggers a conversation about the definition of momentum. Entrepreneurs complain (rightly so I might add) that the VC definition of momentum comes in the following forms: 1) VC defines momentum by saying; ”I know it when I see it”, 2) VC gives a milestone as a proxy for momentum that if achieved means that the entrepreneur will no longer need capital, or 3) VC gives a milestone but moves the goalposts once the milestone is achieved. Fundamentally, these are all non-answers and don’t serve the entrepreneur particularly well.

I’ve tried to take a different approach. I’m not smart enough to define momentum for every business, so I don’t bother trying. In-stead, I try to work with the entrepreneur to describe the value creation engine of the business; the mechanics through which value is created. With those mechanics defined, investors will get excited about just about any business for which the process of igniting that valuation creation engine is both replicable and scalable.  I lay it out as follows.

Identify the value creation engine for your business

Generically speaking, the value creation engine links the time, energy and capital you invest in the business to the measure of output that you think will be used to value the business at exit. The measure of output you choose depends on the type of business you are building. If your business is about aggregating eyeballs and monetizing them, then you will likely be valued based on unique visitors, users, user engagement, and the “potential” monetization of the audience. For more mundane businesses, your value creation engine may be revenue generation and eventually your ability to generate profits. If you can’t articulate the linkage between time, energy and capital and the value creating output of measure for your business, then you haven’t figured out your value creating engine. For example, wouldn’t it be great to say:

Based on experience thus far, a new account rep. will begin producing between $5k and $10 of incremental monthly recurring revenue within six months of their data of hire.

Make the value creation process replicable

Understanding your value creating engine implies that there is both a process in place to create value and a causal relationship between time, energy and capital and the desired measurable outcome. If there is causation, then the process for creating value is likely replicable; if I do X, then Y. If I do X again, then Y again.

When something is replicable, a measure of control is implied. For my part, I like businesses where the company is in control of X; more sales people, more marketing, more channels, etc. Businesses that rely on “viral” effects where the company has little control over the creation or velocity of the viral process are more difficult for me to get my head wrapped around. If I can’t control X, why should I believe X will continue to turn into Y?

Show that the process is scalable

Some value creation processes have rapidly diminishing productivity curves. The more input you give the process, the less productive the process is in generating output per unit of input. What I’m looking for is a value creation process where I can add a significant amount of additional time, effort and capital as raw material without diminishing the returns on investment; that is scalable. If I add five more sales people, I generate 5 times more leads, which turn into five times more sales, etc. You don’t have to prove this, but you should be able to make a compelling argument for why the process is scalable. A really big market with lots of customer prospects really helps. I’m more likely to believe your valuation creation engine scales in a big market than in a small one.

Entrepreneurs should not be deluded into thinking that there is some magic threshold number that once crossed will enable you to raise huge sums of money. Businesses that have a replicable and scalable value creation process make for attractive investments because additional capital is fuel on a fire that is already lit. In a market where investors are more risk averse than ever, these businesses are the ones most likely to capture the attention and imagination of investors.

Filed under: Lessons Learned, Markets, Venture Capital, , , ,

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