Category Archives: Strategy

Why You Don’t Want to Be Acquired

All founders dream of building everlasting public companies that will live on long after they are gone. However, after a few years of struggling and working for free the idea of being acquired for a nice payday can seem very attractive. In fact, if you read TechCrunch too much, you might believe that an easy way to get rich is to start a company and sell it for $100M in two years.

While getting acquired is a great exit for any company, planning for it is a very bad idea. Even worse, starting a company with the goal of being acquired will set you up for failure before you even begin. To understand why, let’s think about how potential acquiring companies look at acquisition targets.

Goals for Acquisitions

Large companies acquire smaller companies to gain assets they don’t have access to any cheaper way. Acquisitions, even small ones, are expensive ways to gain assets so acquirers are highly motivated by what is necessary to improve their own business.

While you might think about your company as a living, growing organism with many dimensions and nuances, acquiring companies will look at it like a butcher looks at a cow. Your company is made up of one or more assets and those are what they consider acquiring. Those assets may include:

  • People. All of the employees, including the founders, and the expertise they have developed working at your company. If everyone works together extremely well, that teamwork chemistry can also be considered an asset by acquirers looking for productive teams.
  • Product. The product(s) you have built, whether or not they have been released to customers yet or not.
  • Technology. Any unique algorithms, mathematical models or processes you have developed even if they aren’t patented.
  • Customers. Everyone using your products, whether or not they are paying you for them or not. In some cases, you may only have one customer but that customer is a very large customer who pays you a lot of money over a long term.
  • Profit. If your business is profitable, that positive cash flow is a huge asset since it produces a return for whoever owns the business. The same can be true of having a lot of liquid assets as the result of being profitable.

Not all of the assets are created equal. Below is an illustrative example of the comparative values of assets based on the acquisitions I have been involved with (both as the acquirer and the acquired companies).

Example of how corporate assets compare in terms of value to acquirer. Technology is 10 times more valuable than people or products, while customers are 100 times more valuable. Profit can be infinitely more valuable, depending on how much of it you have. Note that these are just illustrative.

Why are assets valued so differently? For the simple reason that the value of your assets are entirely dependent on how they apply to the acquirer’s business. For example, the value an acquirer assigns to your technology is not the value they would get from selling it themselves on the open market, but how much value it will add to their business. It is not enough that your technology is new and ground breaking, it needs to help the acquiring company make money.

It’s not a coincidence that the assets that have the highest value are developed later in the life of a company (customers, profit, etc.). Those assets are the hardest to build and therefor will carry the most value. That is one of the many reasons that companies become more valuable the longer they exist and why it’s so rare to see a big acquisition of a young company.

The Exception Proves the Rule

It is almost impossible to make generalizations about acquisitions because each acquisition depends so much on the companies involved. One acquirer may value your company at $5M while another values it at $20M, because the second company believes they can use your assets to increase their own profits by $40M. So, remember that the previous example is only illustrative.

But that is exactly the reason you should never focus on being acquired! You have no way to control how potential acquirers will value the assets you are creating. Successful acquisitions require the right acquirer to value your company at the right price, at a point where you would consider selling. That combination of factors is rare and definitely not something you can plan.

So what does that mean? The best strategy, in fact your only strategy, is to focus on building a successful and highly profitable business. As long as you do that, you will control your own destiny and decide if and when you get acquired on terms you decide.

Or, maybe you’ll go public! Then you can buy some companies yourself.

The Art of Being Unreasonable

Starting a business from nothing requires you to Impossible_cube_illusion_angle.svgconstantly overcome unreasonable problems. You have no resources, no time and an infinite list of tasks to complete. In pursuing your goals, you are asking both yourself and your team to do unreasonable things.

However, there is a fine line between being unreasonable and being unrealistic. If you lose sight of that line, you will fail.

Learned Helplessness vs Self Confidence

One of the most depressing psychological principles that you will ever encounter is called learned helplessness. It is a mental state where the subject is trapped and subjected to adverse stimuli (pain, abuse) from which they cannot escape. Eventually, the subject learns that there is no escape from the adverse stimuli and, even when given the chance to escape, fails to even try. They have learned to be helpless.

While I am sure you will never abuse your team, subjecting them to unrealistic goals which they can never achieve can have a similar effect. Eventually, after being subjected continuously to nothing but unattainable goals, people begin to disassociate from such goals and will fail to treat them seriously. People will give up before they even start.

On the other hand, there is a clear tie between motivation and setting ambitious goals. Self efficacy is a psychological term for the confidence a person has in their ability to achieve a goal. Research has shown that optimal performance is reached when a person’s self efficacy is slightly above their actual ability, meaning that they are in a little over their heads.

So, how do you set goals that are just beyond reach but not so far as to make the goal meaningless?

Unreasonable vs. Unrealistic

As with anything in your new company, finding the balance between aggressive goals (unreasonable) and impossible goals (unrealistic) will require testing. In the early days of decision making, you will set some unrealistic goals which backfire and some unreasonable goals which will drive your team to do amazing things. The more goals you set, the easier it will be to tell the difference.

It will be hard to tell the difference if you lack faith in your team, as you will question whether your goals are unrealistic or if your team is not pushing themselves hard enough. This is yet another reason why you should never compromise on the quality of your team, especially in the early days. You should never waste time wondering if your team is working as hard as possible.

Don’t fear setting unrealistic goals, it is part of building a company, but beware setting too many of them. Instead, you should strive to be unreasonable.

Image made available via Creative Commons by Wikipedia user 4C. 

Reverse Pitching

Recently, I have been helping  a lot of companies by pitching their 7184240743_a9fc6fbaca_zbusiness back to them in a process I call Reverse Pitching. I put together a investment or sales presentation of the company, from scratch, and present it to the founding team of the company. They act as the customer and I act as the company, trying to sell them on the vision and the business.

Wait, why would I want you to pitch me my own company?

Well, before I explain why it’s useful let’s cover what Reverse Pitching is not:

  1. It is not trying to show the company how to pitch themselves. I could never recreate the passion and vision that drive the founders to build the business from the ground up. If you are pitching your company, it should come from your heart in your own voice.
  2. It is not an attempt to convince the company they should change their business. It would be amazing arrogant to assume that I know their business better than they do and hence can improve their business through a simple pitch.
  3. It is not practice for raising investment. If you want to get ready to raise investment, you should practice your own pitch on a test audience as much as possible. Having me pitch your company back to you will not help.

Okay, so then what is the point of Reverse Pitching?

The goal of having someone else pitch your company back to you is to hear about the business from a fresh perspective. I am never as familiar with the industry as the team, nor do I understand the nuance of how the business operates. However, that naiveté means that the pitch they hear from me is very different than the pitch they would present themselves. It gets the team thinking in new ways about how to move forward.

Reverse Pitching is a great antidote for developing tunnel vision, which is common during the product development stage of your company. Nothing shocks a team out of their comfort zone more than hearing someone else talk about what they are doing in a new way. It opens their eyes and introduces new ideas, even if they disagree with everything in the Reverse Pitch.

I find that Reverse Pitching becomes useful whenever a company is preparing to make some large strategic decisions. Those decisions might be fundraising, product launches, rebranding efforts or new growth efforts. At those points it can be useful to ensure that you are not just making decisions based on momentum, but that you have thought about how your strategy is viewed by others.

If you are currently building a company, I encourage you to ask one of your advisors or investors to do a Reverse Pitch. If they aren’t willing to, drop me a note as I’d love to help.

Image courtesy of Erik Anestad on Flickr, made available via Creative Commons.

Location, Location, Location

 

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It amazes me how many people cling to the romantic notion of starting a new business in their garage. Garages are typically full of stuff (including your car), poorly lit, and cold due to a lack of insulation. Your garage is also attached to your home which means you’ve chosen a location for your business based on where you live right now.

That a dangerous mistake.

Even if you are not starting a retail store or a restaurant, location is an important factor in the success of your business. It might not seem so at first when it is just you, your laptop and a phone working from a coffee shop. However, if you are successful and need to grow then you want to make sure you are in a city that facilitates your growth. Just like natural resources fuel economic growth, your company will need business resources to grow.

Three common business resources that depend on your location are: Employees, Financing and Customers.

Location Based Employees

Assuming your business takes off, you will want to grow your team quickly. This might mean hiring engineers, artists, sales people or simple manual labor. Whatever kinds of employees your business calls for, you want to make sure you have a ready supply of candidates in your area to fill those positions.

It is not a coincidence that you find many companies in the same industry gravitating to the same city. Companies in the same industry hire the same kinds of people, and often away from each other. This creates a liquid workforce where you can quickly scale up when you are successful by drawing from employees at larger companies in the same industry.

The major drawback to being in close vicinity to many other companies in the same industry is that your employees are more likely to be poached by those companies. Ideally, you want to find somewhere with enough density to make hiring easy but not so dense that employees will switch jobs every six months.

Location Based Financing

At some point your company will require outside capital to continue to grow. Despite the global nature of business these days, most early ventures are initially funded by local investors. There is so much risk in early ventures that investors focus on the people more than the business and to do that they need to meet you in person. Of course, to be funded by locals there need to be locals that invest in your kind of business. While there may be investors in your city, if they don’t typically invest in your kind of business you will have an uphill battle to raise money.

Put simply, you want to be in a business that your city is in already. It’s easiest to raise money for a high tech company in San Francisco and for a new hedge fund in New York City but if you need to finance a new farm both places will prove difficult.

You want to be in a business that your city is in already.

The good news is that if you’ve already chosen a place with a large pool of potential employees, chances are that they work for competitors and those competitors have raised financing already. That means you might already have an educated investor community.

Location Based Customers

While you can reach customers by email, phone and even video these days there is no replacement for meeting your customers in person. Sales is still a very human activity and your ability to sit down with potential customers and understand their needs will be critical to your success. While you can’t work in the same city as all of your customers, you want to be close to enough of them to fuel your early sales and product development.

Another added benefit of being close to your customers is that other companies who service the same customers will be there as well. This means you will have more opportunities to develop partnerships (and potentially be acquired).

Moving On

The reality is that any location you choose will never be perfect. Whether to move your business, or even your home, somewhere new is a decision that you will need to make after weighing the facts. It is possible that the potential of easier financing is outweighed by your desire to be near your family, which is a very logical decision. However, realizing that limitation up front means that you can plan ahead and work harder to overcome it.

Thanks to Evan Cooke for inspiring this post. He promised me a job cleaning his yacht in exchange for covering the topic. 

Photo made available via Creative Commons by Jim Trodel on Flickr

That’s Just a Feature

Stop me if you’ve heard this before:

It’s just a feature, not a product.

It is a popular refrain from skeptics who want to sound intelligent about a new innovation, product or company. On the surface it sounds insightful because it draws a line between a product that stands on its own (“product”) and something that solves a small problem and cannot stand on its own (“feature”). It is hard to refute as it is a subjective statement and easy to justify.

It is also meaningless.

Dismissing something new as a “feature” ignores the fact that every product starts by solving a small problem. When you are starting from scratch, you don’t have the time or the resources to build a perfect product that solves a big problem so you carve out a small part of that problem to solve. Whether you follow the Lean methodology and build a Minimum Viable Product or simply suffer from the resource scarcity that follows starting a company, your initial product will be simple and basic. That is a good thing.

Many successful companies follow a common progression during their growth:

Feature -> Product -> Platform

If your business has potential (see Are You Solving a Problem), you should be able to prove it by starting with a feature. From that feature you can build a complete product which, if also successful, will form the basis for a platform on which additional products can be built. Companies like Facebook, Google and Sony have all been built this way.

So if you find a skeptic that dismisses your idea as a feature instead of a product, don’t let that get you down. Instead, explain to that person the bigger problem you are tackling. If they still don’t understand, then I suggest ignoring their opinion. Life is too short.

sapling-154734_640

 

Illustration made available via Public Domain

Not All Customers Are Created Equal

You have finished the first version of your product. Congratulations! Now it’s time to start selling to customers and generating all important revenue. At this stage you are probably eager for any and all customers that are interested in your product.

Before you start selling, it is important to understand what kinds of customers you want to pursue. While any paying customer can be considered a good customer, you don’t yet have the resources to sell everyone on everything that you do. Focus is critical and to focus, you need to segment your potential customers.

A simple way to segment your customers is as follows:

Customer Segments

In this simplistic customer segmentation, we have three types of customers: Big, Medium and Small. Note that while the potential revenue for a Big customer is much higher than Small customers, there are many more Small customers than Big customers. The labels Big, Medium and Small will have different meaning depending on your business. Big might refer to the size of the company (large enterprise) or complexity of the customer needs (custom solutions). The important factor in this segmentation is the inverse relationship between potential customer value and number of potential customers.

While you might be able to pursue Small, Medium or Big customers, you are probably not capable of pursuing all at the same time. The sales strategy for each segment will be different:

  • Big Customers require large amounts of time in sales and account management by dedicated salespeople. The sales cycle (total time to close the sale) may be measured in quarters.
  • Small Customers require self service products and strong marketing. Since revenue per customer is low you cannot afford to have a salesperson talk to all of them. So, you need to rely on customers finding you and signing up entirely on their own.
  • Medium Customers require a combination of an outbound sales force and strong marketing to reach them cost effectively.

Your target customer segment will dictate your sales strategy and hence your business strategy for the near term. It is important that you choose your segment wisely since it is easy to fall into some common traps:

  • The Over-Reach: You focus on Fortune 500 customers because you want brand name reference customers for your company, but you only have 6-9 months of runway. That’s not long enough to both complete the sale to companies of that size and raise additional funding, since the sales cycle for large enterprises can be 12-18 months.
  • Going Too Big: You focus on consumers but you have a complex product that they can’t understand without someone explaining it to them. You spend a lot on marketing in hopes of reaching tens of millions of consumers but can’t convert any of them, burning through all your capital.
  • Too Much TLC: You focus on a small customer segment with the goal of providing perfect customer service and spend a lot of time with each customer. Unfortunately, the segment isn’t large enough to support your business model and your deep customer service prevents you from growing your customer base fast enough.

Remember that the example customer segmentation here is simplistic and you should decide on the appropriate segmentation for your potential customers. Whatever you choose, make sure the segmentation reflects the market data you have available and not just your gut instinct. There is nothing worse than choosing to pursue Big customers, only to find out they don’t exist.

It may feel like you are giving up a big opportunity when you segment potential customers and only focus on some of them. That is only true in the short term, while your resources are limited. If you are successful with your first few customer segments, you can eventually grow to tackling all potential customers.

 

 

 

The Only Thing That Matters

When you are building a company, it is easy to be overwhelmed by the number of things that have to be done just to keep your company running. Between accounting, paying bills, signing contracts, financial planning and payroll you might find yourself spending half of your time just on operations. If you have never done these kinds of things before you might spend all of your time learning and doing them until you get proficient. It can be fun to learn and makes your new business seem like a real business.

The problem is that none of it matters.

At all.

Not even a little.

No company has ever been acquired because it paid all its bills on time, had flawlessly accounting ledger, perfect financial planning or impeccable contracts. Those are just the table stakes to play the game.

Absolutely the only thing that matters to your new company is whatever makes you different. That difference is what separates you from the competition and makes you stand out as a better solution. That difference makes you better. It is your competitive advantage (See Never Play Fair) and it underlies everything from your sales pitch to your strategy. If you do raise investment or get acquired, it will be because of that difference.

You should spend 100% of your time investing in your differentiation. Make it better. Make it obvious how you are different. Think of it like a wedge that you are using to split the market wide open and keep hitting it. Be relentless and focused on winning through your differentiation.

This extends to “feature parity” as well. If you look across all your competition and create a feature comparison matrix (See Only the Paranoid Survive), there will be a lot of features everyone else has that you lack. You could spend your time adding those features to get even with the competition, but what does that get you? If you look exactly like them why would anyone choose you? You should understand those gaps but invest in your differentiation.

What about all those operations that your company needs to run? Outsource. Pay people to do them for you. Don’t think of it as a cost, think of it as an investment. Every hour you pay for them to review contracts, pay your bills or run payrolls is an hour you can invest in your company’s differentiation. You are buying time, which is a rare commodity for start up companies, and investing it in the only thing that matters.

If you succeed, your differentiation will be so clear that it will be easy to create marketing materials, sales pitches and investor presentations. That differentiation will be how you recruit employees, close partnerships and build value. The message of your company will be told through your differentiation because that will be the story of why you are the best in the market.

Even if you pay your bills late.