Oz Analytics

Bootstrapping Versus External Financing - Part 2 of 2

In my last post I talked about the influence of external financing on time to market, control and stress. It wasn't exactly a glowing endorsement of venture capital. This week I'd like to focus on some of the beneficial aspects of venture capital and round off the discussion with a look at ramping-up, risk, and market access.

Ramping-up

By ramping-up, I mean either grabbing market share and/or generating profits sufficient to achieving the aims you had when starting the company.

I see two clear paths for a start-up consumer software company trying to get noticed in today's market. The first is to have a social media strategy that takes your product viral. It's a nice thought and I think that big data analytics can definitely help this process. How? By delivering insights into customer behaviour and identifying segments of the market most likely to want to purchase/use your product.

It's a nice theory.

Viral is easy to see when is happens but is fiendishly difficult to intentionally start.  Does anyone know of an example of a product engineered to go viral? Not just an ad campaign. I know plenty of products that have gone viral but only as a result of having a brilliant product launched at the right time. Maybe they were just lucky?

In any event I'm pretty sure the people that have had this happen to them are either a lot luckier or smarter than myself.

So the second path is to ramp-up every aspect of the company as fast as you can. Product development, marketing, sales, operations, support. Everything. The first step in ramping-up is to get more people on board and nine times out of ten, the only way to do this fast is to spend money.

It may be that you know people in every area of expertise, and you can offer then enough equity to leave what they are currently doing to join your venture. I don't. I tapped-out my own network attracting the current team of 5 and 2 further advisers.

I do know other people I would like to be involved but that would take more money than I am willing to invest at this stage.

The right external financing not only gives you the money you need but (if you do it right) also gives you access to a network of people with the expertise you need to bring into the company.

De-risking

External financing de-risks a venture when the financing is done on reasonable terms and at the right time.

Reasonable terms are ones where everyone is rewarded fairly for what they bring to the venture and where the potential rewards of future efforts will be fairly shared.

The right time for software companies to take external financing is that point where two or more of the following exists:

• The product is working
• Traction has been won in the market
• The right team is in place

If you have achieved at least two of these then you have a chance to raise funds on reasonable terms.

Market Access

As I mention above, good external financing delivers a network of new contacts. They can also bring you customers. This is not guaranteed but it can working the B2B market or a specialist VC with contacts in exactly your market niche. In my case our B2C product is going to need widespread market distribution. I believe that only the likes of Google, Yahoo!, etc. can do this in our case.

 So my advice is to look at the contacts that come with a potential investor. They could be worth a lot more than the money they invest. I have heard enough stories from successful founders who have taken lower valuations because the investors brought more to the party than cash.

A Final Judgement Call

Today, Six degrees of Data is on the cusp of launching our first product. I know Bridger works because it does what I designed it to do - and that's a pretty amazing feeling to have!

The challenge now is to test it in the market. That's what we will do in October and November 2013.

So these most recent posts about financing need to be seen from my perspective.

I believe that Bridger is a new category of software. One that lets our documents link intricately into the world wide web - very much like a road map shows you how to get around a city.

Bridger's semantic links create the maps of meaning that you need to reach the full potential of the web.

Well, if you're going to dream, you might as well dream big.

Bootstrapping Versus External Financing - Part 1 of 2

I have been lucky enough to have started a number of companies over the last 15 years. 3 were bootstrapped using the founder's resources and 2 also accessed capital from professional investors. All have been successful although no single deal has delivered all the f***-you money I've needed. No complaints, plenty of emotional scars and happy memories, and anyway I still don't know what I would do if I really got f***-you money. Probably die of boredom. I digress, but you get the picture - I'm a typical serial entrepreneur with a poor work/life balance.

My current venture is now approaching its second anniversary as a bootstrapped start-up. We are also about to launch our first product and this is a massive milestone in the history of any venture.

Financial pressure is a constant reality checker as we turn our plans into actions and I have a few thoughts about the differences between bootstrapping and taking external financing. Perhaps this is interesting to others considering a start-up. Feel free to violently disagree as well.

I will use the terms external financing and venture capital (VC) interchangeably to mean taking money from any third party who is not family or a founder.

Speed To Market

Accepted wisdom is that the number one difference between bootstrapping and VC backing is an apparent no-brainer. More money means faster to market, right? Well I'm not so sure in our case.

My latest venture is software and 'making' software has never been easier. This is because of the state of the industry, the tools and talent available and the easy access to customers via digital channels like the internet.

To my mind, a specialist software product like ours is not suitable for a big development team. The skills we need are held by a few people: advanced statistics, natural language processing algorithm development and the like.

On the other hand, our current small team all have day jobs and - if we had the money - we would perhaps be working full-time on our venture.

So, on-balance, I believe that we could benefit by going full time and adding at most 4 more developers at this stage. Total money we could potentially use is about $1 - 2 million.

But that is not the whole picture and this leads me to my second point.

Control

If we were to take a million or 2 of VC money, we would probably be selling 40% or more of the company. The VC would also demand effective control of all major company decisions and if anything bad happens, the founders will definitely be second in line after the VC.

My research into the local VC market in Sydney has also identified incubators that will take 40% in exchange for desk space and access to their network. No cash changes hands. I'd have to be pretty desperate or inexperienced to accept a deal like that. Good luck if the model works for them but deal me out.

Under either scenario, this means that this founder would lose majority control. I enjoy having majority control.

So my judgement is that the VC money is just too expensive at this stage (pre-launch).

The founders have agreed to re-visit this decision once we have traction in the market. The implicit hope is that customers = increased valuation from any VC. All founders are always hopeful of rapid valuation growth, even as they whittle their holdings into single figures. Yes, yes, I would also rather have 1% of Google than 100% of Six Degrees Of Data - but you get my point.

So far, we have kept ownership limited to the small team and this has benefits that are harder to quantify but just as valuable:

Stress

You can also think about the flip-side of stress: enjoyment. You can also call it satisfaction, quality of life, pleasure, etc.

I think that taking external capital means more stress and less enjoyment - at least for the period before you exit the company. Taking other peoples money is a serious step for me and one I don't take lightly. I feel obligated. Deeply. OPM will make me worry more than I currently do and again, on balance, I can do without this extra concern at this stage.

Also, although I don't think I'm a control freak, I know some others will disagree.

Bootstrapping sidesteps much of this as my partners and I are all investing sweat to earn equity and I don't mind backing this up with my own dollars that I can afford to invest. Sharing sweat is also an excellent team builder and I am positive that we are closer as a team than we would otherwise be.

I've never been in a venture where team cohesion has not been the most important factor. It's also the only thing that makes the group strong enough to resist the inevitable pressures that constantly threaten to blow the whole enterprise apart.

If we don't have a shared vision and a strong trust in each other at this stage - then the venture is already lost.

 

In a week or so I will conclude with my thoughts on bootstrapping versus external funding in terms of de-risking ventures, gaining market access and exit strategies.

Analytics at Work

Hot off the presses jumps Analytics at Work: Smarter Decisions, Better Results, the new book by Thomas Davenport, Jeanne G. Harris (both of Competing On Analytics fame) and Robert Morison. This book is very much the sequel to Competing On Analytics and this is not a bad thing. CIO Insight magazine named Competing on Analytics one of the all-time “Top 15 Most Groundbreaking Management Books”.

What I like about the book is that it is going after the big picture where better decisions drive outstanding performance, improve competitiveness and help organisations differentiate themselves from the competition.

This time the authors have completed new research on companies in the US and Europe. They include Humana, Tesco, Air France/KLM, Best Buy, Progressive Insurance, and Hotels.com. Using these organisations as illustrations the book is intended to be an implementation-focused guide that describes a five-step model for deploying and succeeding with analytical initiatives.

In the first half of the book five factors are presented as being necessary if an organisation is to succeed at 'doing analytics'. The authors group use the acronym DELTA (the Greek letter that signifies “change” in an equation):

• D for accessible, high-quality data
• E for an enterprise orientation
• L for analytical leadership
• T for strategic targets
• A for analytical talent

This all makes sense to me and then in the second half of the book the five-step model is explained. I will not spoil the authors work by discussing that here.

To me the book is presented as a primer for doing analytics. How well does it achieve this objective? The answer is both 'very well' and 'not really'. Let me explain:

• If you are a C* level executive trying to understand why you need analytics, and you want a high-level understanding of how to achieve this, then the book delivers - and delivers well.
• If you are a Senior Manager directly responsible for making analytics happen, the book is less successful. Not through any fault of the authors. I am one of these managers and I know that analytics is hard. Even a 1,000 page tome and a dozen CD's would not be enough for that.

So I hope that the book will inspire C* level executives that are interested enough to read a 200-or-so page book on the subject. If they only read one book on the subject then this is the one I would give them. For those that can't be bothered, then I can sit waiting for the next crisis to hit and the inevitable change of management to occur!

To the author's credit, I notice scattered throughout the book discussions (on pages 14-15 for example) and insight on how the Financial Industry got risk analytics so wrong - contributing to the financial crisis of 2007. Finance's use of analytics was featured as one of the successes in Competing On Analytics.

Although a Harvard Business Press title, the book is 'tied-in' to Accenture (Harris works for them and Davenport is an Accenture Fellow) and the company has a microsite within their Institute for High Performance consulting practice. Here's a nice brochure from Accenture on Analytics At Work.

A Timely Reminder

I spend a lot of my time developing knowledge management and analytic capabilities for organisations and I have just read a paper that gave me a timely reminder that a lot of the business world still operates in spreadland.

Spreadland is the country where decision makers rely on Microsoft Excel. The paper I read is 'The Importance and Criticality of Spreadsheets in the City of London' by Grenville J. Croll. You can read the paper here but the title is a good description of the contents. Grenville runs Spreadsheet Engineering Ltd, a 'spreadsheet risk & remediation specialist' consultancy and he should know what he is talking about as a former employee of Lotus in Europe who worked on re-engineering the Lotus 1-2-3 spreadsheet software for the European marketplace in the mid 1980's.

Originally published in 2005, the subsequent global financial crisis may have distracted a lot of us for a time but I believe that we should now return some of our attention to addressing the risks of spreadsheets. The risks the author describes are real and apply just as much today in Sydney and Auckland as they do in London.

As the author notes:

““two interviewees each disclosed without prompting ... a current and recent instance of where material spreadsheet error directly involving or concerning them had led to adverse events involving ““many tens of millions of pounds””.”

The thesis is straightforward with the author arguing that the City of London is presently exposed to "significant reputational risk through the continued uncontrolled use of critical spreadsheets in the financial markets”.

Here are some other notable quotes included in the paper:

““Put simply and succinctly, despite the higher operational risk, Excel is everywhere - it is the primary front-line tool of analysis in the financial business. Most traders price deals in spreadsheets and enter them in large-scale deal capture systems afterwards””

““Excel is utterly pervasive. Nothing large (good or bad) happens without it passing at some time though Excel””

““.. if a customer wants to do a bespoke trade that cannot be handled in our designated booking system then we have to book it in a spreadsheet and add a few bips to cover operational risk capital charge (and additional maintenance). How many bips to add is subjective””

““Spreadsheets are integral to the function and operation of the global financial system””.

Give it a read, at the very least it will give you a framework for thinking about the use of Excel in your organisation.