Archive | October, 2008

The Jackass Quotient….why it matters more now than ever

23 Oct
Teams are staying together longer. Make sure you like the people you work with.

Start-up teams are staying together longer. Make sure you like the people you work with.

Look no further than the current US presidential campaigns and you will see how the power of personal or business ‘associations’ can be leveraged, fairly or unfairly, to boost or damage a person’s career prospects or a company’s fortunes. A Barack Obama, for example, might be able to rattle off a litany of well-respected names to boost his candidacy, but he will also have his William Ayers’ and Reverend Wrights to contend with. A John McCain might be able to offer a similarly impressive list of supporters, but he will have to shoulder the burden of his Charles Keatings and Phil Gramms as well. I will leave it to the political pundits to determine the wisdom of pursuing an opponent’s associations as a political strategy, but the weight of associations and the decisions around who you surround yourself with in business and in life does have impact; more so now than ever.

In the start-up and venture capital world, there is the well-worn maxim that “A-list people hire other A-list people, while B-level people hire C-level people.” The idea is that truly exceptional people are not threatened by others of high analytical horsepower and competency and want to be surrounded by people of such caliber, while mediocre managers are more prone to be nervous about maintaining their station and, as such, don’t want to be challenged or threatened for their jobs. Hence, they ostensibly hire beneath them to preserve their position and authority.

To be sure, the issue of high caliber and competency within an organization’s ranks should be paramount regardless of market environment. In the current market swoon and anxiety that that brings, however, it bears even closer examination and discussion.

As I alluded to in an earlier post, the laws of good business practices were certainly not repealed in the somewhat frothy market we are just now leaving; it just seemed that way some of the time. To be sure, there were a lot of excesses that now bear serious re-examination.  As we are painfully coming to realize across our economy, easy credit and cheap, readily available capital can pervert incentives and can blur what should be clear lines between good, fiscal discipline and fast-and-loose management practices. In a frothy environment, however, strategic mistakes can be easily covered up and bad employees have places to hide. Not so in the market we now inhabit.

With few exceptions, venture-backed companies are becoming leaner. Those companies who were not fortunate enough to have raised their venture rounds before the financial crisis took center stage will now have to contend with lower valuations, less competition for their deals, and with venture investors more distracted with challenges in their current portfolio and less apt to dive into new deals as they were just a few short months ago. Yes, deals are getting done, but they are taking longer to do and are coming in at much lower valuations.

Whenever there is a downturn of any magnitude affecting the start-up environment, all venture investors begin re-thinking how they are evaluating new and existing opportunities. What items that were once “let’s see what develops” are now mission-critical? What questions that we could wait on for an answer do we now need real clarity on before proceeding with a new or follow-on investment? In short, what is acceptable risk and what, in the current marketplace, is no longer acceptable?

Arguably, the top item on anyone’s list of “fundability measurements” and criteria is going to be the team. Furthermore, I would venture a guess that team dynamics, competency, experience, integrity and demeanor has only increased in importance as a factor in determining for venture investors what deals get done and which companies fall by the wayside. In a heated market, more investors are willing to ‘wing it’ with a less seasoned CEO or VP Engineering hoping that once the company gains traction with its product or service and hits certain milestones, the exercise of bringing on a more seasoned pro will be a formality; not so today. In a tough environment, experienced CEOs who have actually navigated a company through a downturn are worth their weight in gold. Moreover, every investor wants one for his or her companies. This, ironically enough, also occurs at a time when experienced CEOs are more reluctant than ever to leave the relative calm and security of their current roles as Sr. VPs, CEOs, or heir-apparents elsewhere to take on the challenge of a venture-backed company in the midst of a market swoon.

Many venture investors will undoubtedly agree with the Darwinian sentiment that market downturns tend to force a somewhat healthy attrition upon the start-up landscape. Weaker companies find themselves unable to raise follow-on capital and quietly (or not so quietly) shut their doors, leaving more breathing room for their more able competitors to achieve their destiny and become eventual market leaders. Dilettante angel investors stop investing and retreat to the shopping mall or tanning salon businesses from whence their fortunes came, thereby pulling capital from the market and bringing deal competition and valuations back to a more healthy equilibrium. And, finally, inexperienced entrepreneurs who wanted to take a swag at a mediocre start-up idea decide to table their dreams in favor of holding onto their day jobs, hence leaving the highways and byways of I-280 and Rte 128 to more serious, purposeful entrepreneurial teams. And, thank goodness for that….especially now.

Therefore, some points to keep in mind:

Teams will need to be intact longer:If there is one thing I am detecting among colleagues at other funds it is the sense that a start-up team is going to need to be intact longer than in the recent past. The notion of swapping out key players later in the game has fallen out of vogue to an extent as the reality of how difficult it will be to find top-notch management available, interested, and affordable down the road is sinking in. This puts added pressure on start-up CEOs to button down their senior management teams now. Make sure you have as complete a team as possible before seeking funding.

Tie up the right people, and pay up if you have to:Take a hard look at your team and do the right things now. If the CEO is being too stingy with comp and options packages, correct that now by making sure the top guys (and gals) are properly incented to stick around and build the company through this tough cycle. Don’t expect to be able to get the rock star VPs later on. Pay up if you have to, but do it now.

Have a State-Of-The-Union type conversation about what to expect: Make sure everyone on the senior team has got religion about what is expected, what is required, and what is coming. People sleep-walking around the office waiting for options to vest might have been OK when venture rounds were easy to raise and no one was sweating their jobs (really), but it is not permissible anymore. That guy that everyone likes, tells good jokes at the office beer bashes, but no one really knows what it is he does? You know, that guy? Fire him.

Don’t Pre-Hire:On the other hand, don’t overhire or pre-hire. In other words, be conscious that everyone’s talents are leverageable now, not at some point down the road when the organization is much further along. It might never get there. Some CEOs make the mistake of hiring a perceived hot talent before that person can actually do their magic on the mistaken belief that it’s more important to have them on the team now before they can really do anything to help the company – like a talented CFO when a Controller would suffice, or a VP Sales that only knows how to manage large sales teams and can’t be scrappy. Everyone has to have a clear function and everyone’s talents need to be leverageable now.

Practice good Investor management relations:It’s too often said that CEOs need to manage their boards more effectively and that their venture investors are really long-term partners. This is no longer stuff on the VC firm’s website you can ignore: it’s the new new reality. So, expect that if everything goes in your favor, you will be a venture-backed company for the next 4-7 years and you will be meeting with (and occasionally arguing with) your investors at least every month for the next 4-7 years. This is not a process you can wing; it needs to be managed properly. Build good relationships now with all your investors, board members, and significant stakeholders. This is a big topic not suitable to getting into in great detail in this post, so do some homework. There are tons of good resources on best practices for managing BoDs and other matters, particularly the white papers by Pascal Levensohn , his venture firm, LVP, and/or some of the stuff I have written on the subject over the years, available widely online. Make them your new mantra. You’ll be glad you did, because tense board meetings when bad news has not been communicated properly will make your worst and most awkward family Thanksgiving dinner look like a day in the park. Ask me how I know.

The ‘grim reapers’ Get Some Comeuppance

15 Oct
The 'Don't Panic' wing counter-punches

The 'Don't Panic' wing counter-punches

As sure as the sun will rise tomorrow morning (and, given the market’s recent collapse, word has it there is a line going in Vegas against the sun rising, but I’m not taking that action) those ‘sky is falling’ prognostications of last week by all manner of tech observers, investors and — yes — even some entrepreneurs has been met with a ferocious retort. This is a great thing; not so much because I conveniently find myself in the ‘buckle up, but don’t panic’ camp (see here, here and here) but because this is a very healthy–some might say cathartic–debate and it’s been a long time coming.

So, if you have not already done so, take a moment and review some of the superb contributions of others on this subject, not the least of which are Brad Feld’s OK Entrepreneurs, Time to Step Up, Fred Wilson’s Capital Efficiency Finds Its Moment, Alan Patricof’s Memo, John Borthwick’s Don’t Panic, Profit letter and, finally, Dave McClure’s brilliant and profane blogpost on the crippling nature of fear. Sure, you might still need that martini pictured at the end of Sequoia’s RIP presentation, but perhaps do without the Colt .45 chaser.

More later.

Another take on Sequoia’s R.I.P. presentation

13 Oct
Hold off on desperate measures for now...

Hold off on desperate measures for now...

In perhaps one of the venture community’s worst kept secrets in quite some time, seminal venture capital firm, Sequoia Capital, recently convened its portfolio companies for a State of The Union-type conversation about the current market environment for venture-backed companies. The PowerPoint deck that was presented at that meeting, which has since been passed around like an hors d’oeuvres tray by the venture community at large in the days since, (and available here for the two of you who have yet to see it) was, to put it mildly, apocalyptic. Indeed, the final slide in the deck is a photo of a white jacketed bartender doing the long pour on what can only be imagined is a very strong vodka martini — stirred, I suspect, and very, very shaken if current market gyrations are any indication.

Sequoia Capital is a great venture firm, for a reason. The presentation, as a work product, is impressive. Chock full of relevant, startling, and overwhelming data on the current environment, how we got here, and what the future likely holds for venture-backed companies, it drives to one unequivocal conclusion if you are a portfolio company CEO – buckle up: this is going to be a rough ride. Predictably, for a firm of Sequoia’s stature, almost identical sentiments were issued by other members of the community in short order. Within days, if not hours, Benchmark Capital, Norwest Venture Partners, renowned angel investor Ron Conway, and a host of other firms and their principals began issuing pronouncements (or previously confidential letters) of their own saying many of the same things articulated in the Sequoia presentation. [Whether these opinions were issued directly from the firms themselves or subsequently leaked by some other method is unknown and I am not suggesting I have any better info on this than anyone else.]

Now, these are all eminent names in the business, by any standard. The smart money might say to just echo these sentiments and find a shelter for the coming storm. That said, let me offer a different perspective on this if I may. But first, it might help to stop, take a breath, make a stiff drink if that’s your thing, and calm down. We’re going to be here a while.

First, Sequoia, NVP and the rest make excellent points. Many of these points are valid even in flush times – being disciplined over costs, focusing on your core market, etc. Second, it’s pointless arguing with the supporting data because it is available elsewhere and can be quickly corroborated. What is open to debate, however, is how to interpret that data and what decisions should be made going forward as a start-up CEO and as a venture investor.

For the CEOs of venture-backed companies, this will be a challenging environment, but not an impossible one. As I have posited in recent posts (here and here) while there are obvious drawbacks to launching and growing a new enterprise in a rough economic cycle, there are also clear advantages that the rest of the economy generally cannot enjoy in quite the same way — i.e. less competition for talent, more flexible terms on leases and equipment, more time to develop your product without worrying constantly about new competitors entering your space, and so on and so forth. As I learned during the tech slump earlier this decade, fortunes are made and lost during times of transition. While many companies (and more than a few venture firms) will undoubtedly shutter their doors in the next 12-24 months as we work through this market cycle, other companies and investors will see their growth and their financial fortunes explode. In short, you want to be in the latter category and, yes, it is still possible.

Warren Buffett has been attributed many quotes that are bandied about frequently but perhaps the most cited over the past two weeks has been his pronouncement years ago that the secret to his success was that he “tended to be fearful while others were greedy, and tended to be greedy while others were fearful.” This somewhat contrarian view has certainly served Buffett well and may even save some of us, if we approach it pragmatically and without undue emotion.

First, this is the time to take stock of where you are. The concept of sound, conservative business management practices have been around decades. They are not, and shouldn’t be, new concepts for venture-backed company CEOs. If they are, then a lot of people (from the investors to the managers) have not been doing their jobs. A company CEO should always be concerned with capital efficiency, containing costs, hiring slowly and firing quickly, and so forth. This market downtown or correction or whatever-you-want-to-call-it-this-week is going to drive this point home like nothing else because everyone will be focused on it now. This does not mean that it is a new phenomenon — just that now you do not have the luxury of playing with the idea: you need to push it down into the very being of your organization. There is no place to hide now.

Second, don’t be seduced by the idea that you can just cut down expenses to the core, retract your head back into your shell like a frightened turtle until the storm passes, and simply re-emerge once things calm down. The only real issue I take with Sequoia’s deck has to do with slide 46 which features a linear spectrum with Preserve Capital on the left side and, opposite on the right side, Gain Share. The slide infers that the two concepts are in opposition to one another and, hence, are incompatible and cannot be pursued simultaneously. I reject that notion. Indeed, I can scarcely think of any technology sub-sector where one can ‘wait it out’ by focusing on controlling costs and simply expect to re-establish itself in the market later on as if it were a chess game that all players decided to suspend for a bit for the purposes of a pee break and would simply resume at the same point where they left off. Tech markets move too quickly, even in a downdraft. Simply put, if you are an early stage company with a commercial product and you are not gaining share, you are losing share. Your competitors will be the ones gaining share– in good markets or bad. Like the theory of capital flows, market share is neither lost nor gained; it is merely transferred. As such, the only viable strategy is focusing on costs but continuing to gain share; perhaps not at the same rate or with the same intensity, but one most always be focused on gaining share.

Finally, returning to the subject of pithy quotes applicable to this market crisis, being a weekend auto racer, I am reminded of a quote from the 1966 James Garner film, Grand Prix, in which the antagonist, a fiercely competitive driver played by Yves Montand, is asked for the secret to his success on the track. He replies, “when I come up upon an accident – a really horrific accident – I put my foot down HARD….because I know everyone else is lifting theirs.”

Opportunities abound, regardless of the market. As I write this, on Monday, October 13, 12:30 PM Pacific time, the Dow is up a record 956 points. This follows the worst week in Wall Street history. Go figure. Some of these gains may very well be given back tomorrow, but volatility will clearly be with us for a while. Those companies that will emerge from this cycle in pole position for the rebound will be those that not only survived through prudent cost controls but prospered by using this market cycle while their competitors were scared and distracted to build their businesses and lock up customers that will ensure their longevity once markets return to a healthier equilibrium.

Don’t Hit On 19…(and other thoughts on incrementalism)

9 Oct
At first aunch, sometime good enough needs to be

Upon launch, sometimes good enough needs to be

Incrementalism has gotten a bad rap. I am not sure where this all began. I suspect the blame can be spread fairly broadly across academia, business book publishers (often one and the same), and the mainstream business press. This comes from the notion that ‘Go Big or Go Home’ is not simply a hackneyed bumper sticker slogan but an actual business philosophy that drives a lot of the decision-making by countless CEOs and founding teams.

That age-old ‘strive for excellence, not perfection’ axiom has been turned around (literally) to the point where perfection can often be the only thing that leaders and their teams are interested in striving for. Like so many things, this is a powerfully romantic notion — swing-for-the-fences, go it alone, and all that.  Sounds great. Has a certain puffy-shirt-wearing Errol Flynn-swinging-on a rope-saber-in-mouth je ne sais quoi, right? Problem is, too often this is disastrous as a business strategy if you want your company to still be around two or more years from now and actually become one of the technology juggernauts. This is especially the case in the current market environment where caution, capital efficiency, and cost controls are the order of the day for start-ups.

First, let’s set some ground rules. Context is critical in this discussion, as is semantics. It might be easier to explain what it is I am getting at by first explaining what it is I am NOT saying. This is not a treatise on eschewing innovation…or large markets…or big, hairy, audacious goals (BHAGs to those in the know). No, pursuing those things is a matter of survival in any market, but most especially in the market we are in currently and in the one to follow which will almost assuredly be a recessionary one. Not being innovative? Not pursuing a big enough market? Not willing to challenge long-held assumptions about the market you inhabit and how it functions? Thanks, but good luck getting a meeting with any venture investor worth his or her salt. These are givens. I am not seeking to challenge the laws of physics here, people. Small, interesting business ideas abound but they usually make for lousy venture investments.

My point is that I have been sensing recently a pre-occupation on the part of founders and management teams with the notion of (1) holding out for perfection; and (2) to get noticed in the environment one needs to be bold in all things. This needs to stop.

That said, I get it. Look around at where the culture has gone in recent years — both the macro culture reflected by mainstream media and the micro-culture of where we work, live and interact — and you will find that little heed is paid to those people or companies that do excellent work quietly without flash, controversy or over-exposure. To be heard above the din, too often the common strategy is to say, do or propose something outrageous whether you can ever execute it or not. While the mainstream media can be (fairly) accused of over-weighting interest in things salacious and controversial, the business community (and their investors) can too often be pre-occupied with companies that offer a ‘great story’ rather than whether the company is addressing a key problem that may not be terribly sexy, or bold, or likely to be featured in the next issue of Wired.

This entire topic grew out of a heated series of discussions I had recently over the proposed business strategy of a company my fund was (briefly) interested in backing. The core elements were there: a solid team; a track record of previous success; a market ripe for a novel solution and a team uniquely positioned to deliver that solution; sleepy, entrenched competitors more concerned with preserving their cushy franchises than being innovative; fat and predictable margins; and on and on. Where talks broke down was around approach.  I found myself in the fairly uncommon position (at least for a venture capitalist) of advising a cautious, measured approach in how the first product should look, what functionality it should have, how it should be priced and marketed, how fast to ramp things up, etc. Much of this came from the knowledge that — in this particular market, anyway — there were too many unknowns. The team, for their part, clung assiduously to the notion that they could only be successful if they launched with their idealized version of their product, no expense spared, with a full (perfectly hand-selected) team in place, a sizable first institutional round (at a lofty valuation), a high-priced PR campaign, the boldest possible strategy and approach, and on and on. Granted, a venture investor expects (and often insists) that their entrepreneurs be driven, optimistic and self-assured. Where this can run into problems is around embracing the notion that every journey begins with a first step — often, a baby step — and that what assumptions a company has at launch rarely reconcile with market realities in the ‘fog of war’ of a given marketplace once competing in that marketplace. Additionally, many companies often end up two or three years down the road in an entirely different business with an entirely different product from what they originally intended or conceived — assuming, of course, that the company is lucky enough to still be around in two or three years after initial launch. Welcome to the jungle. 

This all plays, at least to my mind, directly to the belief that most great companies grow through an iterative process that often involves product and strategy mis-steps, course corrections, and management changes. Years ago, while seeking counsel as a first time CEO, I was told by an early mentor, “There are 100 ways a start-up company can fail, Jonathan; if you can think of 50 of them, you’re a genius.” He did not need to add the rejoinder that I was no genius, but I got his drift. No truer words on the subject of start-up failures have ever been uttered, to my mind.

Which brings me to title of this post. Sometimes good enough needs to be good enough — at least for now. Most great companies (just make a list; you’ll find it fairly accurate) were built not through blistering technology or innovation, but through execution. The clearest and oft cited example of this is Microsoft. For all its gifts and qualities, Microsoft will never be feasibly considered by many knowledgeable observers as a great technology company; but, on the matter of strategy and execution, there is none better.

Products (and services) need, first and foremost, to hit squarely on a market need in a market seeking to fill that need. A version 1.0 of anything is expected to have flaws and leave customers lacking — at least to a point. Having a great team in place may be a pipe dream at this stage. You don’t have a great CEO in place, but perhaps you have a decent biz dev guy that can pinch hit, knows his way around a P&L, and has done a partnership or two in his day? Great, that might be all we have to work with. You don’t have the resources to bring on all the salespeople you’d like on Day One? Well, you’ll need to figure it out; and, by the way, who better to sell your product or service that you, the CEO? Make it happen. The bottom line is that if you can execute on your most humble vision and actually prove that your business is viable and you have a clear path to profitability, you will have plenty of resources to execute on ‘bolder’ initiatives and have no problem recruiting almost anyone you want — and that includes venture investors.

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