Rapid Advance - Mergers & Acquisitions, Partnerships, Restructurings, Turnarounds

Rapid Advance

Mergers & Acquisitions, Partnerships, Restructurings, Turnaroundsand Divestitures in High Technology

David J. Litwiller

Copyright © 2008 by David J. Litwiller.All rights reserved. Except as permitted under the U.S. Copyright Act of 1976,

no part of this publication may be reproduced, distributed or transmitted inany form or by any means without prior written permission of the author.

Library of Congress Cataloging-in-Publication Data

For Cynthia, Kyla and Heather

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Contents

Strategic Partnerships 1Small-Large Business Pairing 8Minority Equity Ownership 9Earn-Outs 11Joint Ventures 13

Exit Provisions 15Mergers and Acquisitions 18

Operational Success 21Catalytic Technology Overlap 29R&D Team Concerns 30Early-Stage Acquisitions 31

Conflict Management 32

Staffing and Culture 35Quickly Turning Newcomers into Productive Employees 35

Executive On-boarding 36Keeping New Employees Aligned 37

Market Targeting 39Maxim 39Segmentation 39Market Assessment 41Promoting Novel Technology 44

Pace of Technology Adoption 46Improving Market Entry Decisions with Comparison Case Analysis 48Growth Strategies 50Attacking Established Markets 53

Adoption Thresholds 54Trading-Off Among Development Time, Cost and Performance 55Breaking Juggernauts 57Expanding Share within Established Markets 59

Pursuing Emerging Applications 60Addressing Fragmented Markets 61

Navigating Dynamic Markets 65Using Market Volatility to Build Share 65

Leading Indicators of Slowing Demand 71Push Marketing 73

Sustaining Push Marketing of Advanced Technology in Maturity 74Marketing Metrics 75

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Ecosystem Relationships 79Recruiting Partners 79Setting Interoperability Standards 80Industry Associations 90

Growing Sales 91Success Formula 91

Variation 93First Customers 93Learn Quickly 93Staffing 94Diagnosing Trouble 94Scaling-Up 96Indirect Channel Sales 97Cross Selling 97Performance Metrics 100OEM Customers 100Customer Funded Development 101Good Practice 103Other Comments 103

Restructuring 105

Turnarounds 109

Divesting 121Decision to Dispose 122Objectives 125Process 126Preparation 126Sale Method 133Creating Competitive Auction Bidding 136Marketing and Appraisal 139Audience 139Collateral Documents 139Due Diligence 142Negotiating 143Signing to Closing 143Separation 144Timeline 145Communication 146Challenges and Advice 147Advisors 148

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Bibliography 151

About the Author 155

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Introduction

The speed and complexity of change in high technology’s businesslandscape requires rapid evolution. To enduringly thrive developing,producing and supporting technology-driven products and services, abusiness has to quickly advance. Capabilities and managerial focusconstantly adapt, sometimes tectonically.

Mergers, Acquisitions, Partnerships, Restructurings, Turnarounds andDivestitures are essential tools for transforming a technology-basedenterprise with requisite speed and agility. The author presents acondensed guide to devising and implementing major businesschanges.

Chapters also address strategic marketing, sales and ecosystemrelationships. New products, services and processes are the foundationof most partnerships and other types of business reconfigurations. Astrong grounding in marketing, sales and strategic linkages sets thestage for augmenting or refining a business. Moreover, significantexecutive ego and achievement pressures influence large businessmoves. Customer and partner rationale can be stretched to cementauthority for change. A back to basics view of the most influentialmarketing strategy, sales and external business network factors putsthe soundest footing under new business configurations.

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Strategic Partnerships

The principle objective of strategic alliances is access tocomplementary markets and technologies, much faster or with lowerrisk than otherwise possible. Greatest impetus to form affiliationsusually comes if development costs are rising quickly, particularlywhere they’re faster than the company’s rate of growth, and, productlife cycles are contracting.

The benefits of strategic relationships include speeding developmenttime, reducing marketing and technical risk, attaining costcompetitiveness, acquiring individuals of rare talent or other valuableassets, and blocking competitors. Inexorable technology and marketchange makes strategic partnerships such as outsourcing, alliances,joint ventures and acquisitions increasingly important. Responding toa changing environment, partnerships can rapidly improve or defend tosustain and advance competitiveness.

The complexity of strategic partnerships increases with the rate ofgrowth, heightening the importance of honouring conventionalwisdom about these unions. Links in the chain of success include:

Mutual respect Shared goals and vision Strong mutual commitment Joint pragmatism Vigorous ability to innovate Trust A single integrated team Fairly shared risk

Fulfilling these simultaneous elements of a productive linking requiresextensive relationship surveying and engineering.

Partners see in each other the ability to access strategically vitalcapabilities in a harmonious manner that is not readily availableelsewhere. These rare capabilities need to provide mutual contribution

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that will be sustainable over the long-term. Joint dependence sets thestage for the other elements of a successful partnership. Bothorganizations need to feel that they have picked winner partners, andmutually work to make each other and the combination successful.

The boundaries of partnership must be well defined, such as whether itis for a technology, product group, application sector or geographicmarket. Articulating limits for the relationship is usually crucial toachieving buy-in on both sides, and at several management levels.Defined boundaries also reduce the likelihood of migration intocompetitive positions.

Partners must have similar objectives, shared vision and strategy, aswell as compatible cultures, values and personalities. These are thefoundation of success. They are fundamental to a workable pairing oftwo entities, yet also among the most difficult aspects of prospectivepartnerships to assess. Vision and culture embody many things, andone can never have complete information about another. Even when apartnership seems harmonious at one point in time, the subtleties ofdifferent history and personalities, as well as unforeseen future eventsmeans that there are many forces that can separate objectives.Communication, shared vision and common strategy keep outlooksaligned.

Compatibility of culture, personality and values, as well as trust enabletwo other aspects of the pathway to success: a willingness to changethat engenders adaptability; and, open access to each others’ strategies,which abets effective planning.

At the same time, the strong mutual commitment at the core of anysuccessful, sustainable relationship must be cemented in ways so thatwhen things get tough, neither party can easily walk away. Thisbegins with unwavering support at the outset from senior managementat both firms. Commitment paves the way for measures such asinvesting in each other, sharing development costs, and contractuallycommitting to supply and purchase terms. Prospective partners musthave comparable stakes in the success of the venture. Otherwise, amore traditional superior-subordinate relationship will arise from thedifferent importance each party places on the relationship, which will

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undermine effectiveness. Cross-commitment should not go so farhowever as to become a suicide pact. Some mutual barriers to exitfrom the relationship are necessary, but if conditions deteriorate badly,both parties should strive to preserve a survivable way out.

Strategic alliances in turbulent technology-driven environments havethe greatest chance for success if both parties are adaptable andinnovative in technology, products, markets, and business processes.Creating and then managing new products, services and processes isultimately what linking is about. Thus, innovation and flexibility areat the root of both companies’ abilities to make the relationship work.Organizations that innovate naturally, in both technology andprocesses, have improved chances of pairing, particularly as the degreeof departure from the familiar, the amount of co-operation, and levelof interaction all climb.

Prospective partners must be pragmatic about the likely duration oftheir alliance based upon the rate of change of the underlyingtechnology and environmental conditions. If the rate of change is slow,association can typically last much longer than if the rate of change israpid. The overriding consideration is that the union can only be viableas long as the joint effort maintains leadership in technology, quality,and market access.

Furthermore, partners need to trust each other. Reliance should besafeguarded through comprehensive mutual intellectual propertyagreements. An intellectual property protection framework allowsboth parties to be forthcoming with each other, delivering full andunencumbered disclosure about technology, markets, and othersensitive matters. Trust is the cornerstone of communication.

Communication comes when the relationship is carried out with asingle team, carefully structured with players from both parties. Thecrux is to understand who the key people are, and how they fit into theresulting joint organization so that they can continue doing what they dowell. Take measures to ensure that the pivotal people remain with theintegrated team. Don’t just talk to the top people. Get to know thesecond level people as well.

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The skill is to figure out who are the most connected experts. They areoften not in the most prominent positions on a traditional organizationalchart. They are identified by asking a wide range of people whichcolleagues they consult most frequently, who they turn to for help, andwho boost their energy levels. This is how to get a sense of how workreally gets done among a group, to help identify talent, and nurture themost in-the-know employees. A single team of the brightest and bestamong the two groups is then more easily built.

The unifying force of a single and consistent team, as well as channelsfor regular and open communication among them contribute to asuccessful co-operation. High bandwidth, low overheadcommunication channels vitally foster adaptability to prevail in achanging environment.

Partners must also fairly share risk. Cross investment is onedimension, in both money and sweat equity. Partner firms need todevelop cross-functional capabilities, and be committed on both sidesto understanding each other’s processes, systems, workflows,organizational structure, priorities, and reward systems. The two sidescan’t just get familiar with each others’ products and technology.Knowing the way each other functions helps work get done acrossorganizational boundaries. Partners can then better make mutualobligations to specific business, technology, competitiveness, andquality milestones. Formal performance yard sticks help to signal forcorrective action as combined effort progresses. Up frontunderstandings and obligations diminish the likelihood for partners tosubjectively criticise each other, and maintains focus of both oncritical objectives.

Among the most important characteristics of strategic partnerships isto deliver the whole product necessary to win market leadership. Whyis this so important? The reason is the largest and most profitablerevenue streams flow to market leaders, creating longevity of anattractive market position to retain priority attention from the coterie.Furthermore, with market leadership and the whole product, successbecomes more likely. This is because the fate of the initiative is thenlargely within the collaborators’ control, rather than a disproportionatedependence on outsiders who may be difficult to influence. Partners


need to construct a relationship with market leadership and the wholeproduct as prime objectives.

When formulating and operating a joint effort, partners sustain successby making required compromises in equal measure at the same time.Trade-offs by one should not be made in exchange for unspecifiedfuture considerations from the other. This leads to disappointedexpectations, and can undermine an otherwise sound co-operation.Investments by both partners throughout the alliance should bespecific and mutually agreed upon.

Regardless of planning and efforts to make exchanges in real-time,disputes will arise. A conflict resolution process gives each party adefined avenue of redress for unforeseen issues that come up. Adissention work-out mechanism should be part of the up-frontpartnership agreement. After difficulty strikes, agreeing upon aresolution vehicle becomes significantly more difficult.

Firms seeking competitive advantage through joint efforts can pursuedifferent levels of involvement. Strategic partnerships cover aspectrum from low to high co-operation and interaction:

Purchase agreement, where even this basic level of partnership canbe complicated for strategically critical elements because ofexclusivity and mutual obligations

Patent or technology license Franchise Cross-license R&D consortium Co-production Product or market exclusivity Minority equity participation Joint venture Merger Acquisition

Considering this spectrum, lower co-operation and interactionalliances can often come together more quickly, as well as disband

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more easily when the basis for the alliance changes. Less involvedstructures also provide an easier environment in which to bring inmultiple partners. Higher co-operation and interaction alliancesshould be used as the scale of investment and cost of failure climb.

Whatever legal form, and sharing of risk and reward, partnershipsbetween companies are like any other where the greater the interactionand co-operation, the more particular each company should be. Manypossibilities for joint ventures, mergers and acquisitions should beevaluated, but only a minority completed. The right ingredients andtiming are rare. Businesses must be particular when contemplatingprospective partnerships, especially as the relationship becomes moreinvolved.

Characterizing a prospective partnership requires detailed duediligence. It is a significant part of obtaining reliable informationabout the quality of the assets on the other side. However, unlike theperceptions of some, the purpose of due diligence isn’t so one can findissues in order to negotiate better. Some jockeying goes on, butarming for negotiation is not the lasting value of due diligence. Thelarger and ongoing benefit that endures after the partnership goes intooperation is to identify issues so the relationship can be bettermanaged.

To fully assess opportunity and risk factors, due diligence inevaluating potential partners should include:

Technology Products, including products under development Markets Sales, service and support Marketing Customers, especially customer satisfaction Operations, including production and sourcing Legal and regulatory circumstances Management Employees Culture


Financial considerations should also be part of investigations forstrategic partnerships. However, a trait of relationships offering rareopportunity for dramatic growth is typically that financial profiles ofcurrent circumstances are of lesser importance than other due diligenceitems. 1 This is because non-financial matters dominate jointinnovation capability and the capacity of joined organizations to createcompetitive advantage and sustained long-term increases inshareholder value.

Nevertheless, financial due diligence should cover:

Return on investment Earnings per share contribution Discounted cash flow: estimated future cash flows discounted back

to present value Residual (terminal) value Free cash flow: earnings plus non-cash charges, less the capital

investment needed to maintain the business Economic value added: a combination of net profit and rate of

return, in a single statistic; net operating profit after tax, minus theweighted average cost of capital

Most of the preceding partnership discussion has been about formationand operation. However, cessation must also be considered. Sometake the view that cessation of a consociation is a sign of failure, as itis in marriage. But, in changing technology and market circumstances,an end is often a natural outcome, even with a short life span. Partnercompanies’ failure to plan for termination is more often the avoidableshortcoming. Greater time typically is invested in formative decisionsthan cessation. Management of partnering firms should consider how

1 The most common exception to a secondary role for near-term financialcircumstances is in acquisitions where the firm to be acquired is comparable in sizeor larger than the acquirer. In such cases, the acquirer may not have the financialresources to carry the target, should significant difficulties within the target businessarise post-transaction. If so, financial due diligence, particularly regarding margins,cash flow and net income becomes a chief due diligence and decision matter.

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to terminate the united effort, including buyout provisions, and theeffect on each of the parent companies.

Small-Large Business Pairing

There are special considerations for small firms. A common issue fora small organization seeking strategic partnership is that theprospective partner is much larger and better established. Thisincongruity presents some interesting challenges. Regardless of size,the bottom line remains that both see in each other the ability to accessstrategically vital capabilities in a harmonious manner which is notreadily available elsewhere, and a mutual significant ongoingcontribution. But, timing is significant, particularly for the largerpartner.

Sizeable prospective partners generally are best approached in slowtimes. Overtures to larger partners during quieter times are importantwhen the initial business volume prospects from the collaboration arelow, as often happens while technology, product and marketdevelopment take place. Larger potential partners need to be solicitedwhen they will be more receptive to speculative ventures to fuelgrowth. This is when they have the best chance to see the need forsignificant innovation to propel future expansion and most likely totake an open-minded look at the potential of the smaller player’stechnology and capabilities.

Partnerships of disproportionately sized companies also need tocontemplate an instability effect when considering interaction short ofmerger or acquisition. If the little company ends up being important tothe big one, the big company often cannot risk not owning the littleone. On the other hand, if the little company ends up beingunimportant to the big one, it will be cast-off, often badly wounded.The smaller company frequently needs to be willing to be absorbed orbe cast-off, as one of the costs of the partnership. Exclusivity andtake-over provisions are common requirements of a larger partner thatcan lead to the instability effect. Stable long-term co-existence fordisproportionately sized partners, who haven’t merged, is unusual.


Partnerships of dissimilarly sized business also can undergo increasedrisk of “hold-up” compared to like-sized collaborating entities.Typically, one firm or the other makes investments specific to theparticular co-operative project, where those assets have limited valuein other uses. The gravity of sole-purpose investments is often muchgreater for the smaller firm. The mismatch of dependency and sunkcosts for the partners creates the possibility that the other firm willdelay, in terms of payment or other corresponding forms ofparticipation, in order to gain advantage, perpetuate the status quo, orrenegotiate the terms of the deal.2

Managers need to assess hold-up hazards, and the effort necessary tomonitor and avert opportunistic behaviour. Determining risk, and theamount of work to avoid difficulty, requires a clear understanding ofrelationship-specific asset investments. Where the risk of hold-upwould otherwise be considerable, equity ownership by one firm inanother is often a vehicle for bringing alignment of interests,especially between disparately sized firms.

Minority Equity Ownership

Short of complete ownership, partial equity participation by one firmin a (typically) smaller partner is one of the significant influence-orsthat partners have to help align objectives and incentives. The waypartial equity ownership helps is by giving the entity buying-in realskin in the game of the target’s business. It works best when thebuying-in party delivers a major piece of the puzzle that the investeecompany is missing, and when there is joint desire to work togetherrather than a forced marriage.

Building on these elements of success, the degree of equity ownershipof one firm in another can be used to provide:

Exclusivity and control

2 “Choosing Equity Stakes in Technology Sourcing Relationships,” Kale andPuranam, California Management Review, Spring 2004

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Alignment of interests

Inter-organizational co-ordination, including linking or regroupingactivities across organizational boundaries to share knowledge andcontrol

At the same time, the cost for one firm taking an equity stake inanother, especially a smaller firm, can be summarized as:

Reduced entrepreneurial motivation for the staff and managementof the target, due to changed incentives and work conditions

Commitment cost to a particular technology, in an environment ofuncertain viability for the technology

Commitment cost to a particular marketplace approach when thereis volatility about the structure of the industry, the targetmarketplace, or demand for the technology

Equity ownership plays an important role accessing valuable resources,ensuring they remain unique and difficult to imitate. The benefits andcosts of equity participation for both sides can be assessed using theabove framework.

As the benefits of equity ownership grow, and the costs decline, thedegree of equity ownership of one partnering business in anothershould increase.

Where the benefits and costs do not point to a clear conclusion aboutequity participation, creative deal-structuring and post-transactionbusiness unit incentives are one way of reducing complexity.However, an unclear cost-benefit assessment of equity participation ismore often a signal that the partnership with an equity stake may notbe a good bet.


Earn-Outs

Equity participation often is suitable, but there is a valuation gapbetween buyer and seller. To bridge the separation, a contingentpayment is the typical contractual mechanism. This is a variablepayment tied to future performance of the acquired business. Itaddresses future business risk when exchanging significant ownership.

In the technology arena earn-outs are common. Many companies aretargeted for equity investment or acquisition after they have createdvaluable technology, but before time has proven out that value in themarketplace through revenues and profits. The advantage of an earn-out is to create incentive within the acquired business for futureperformance. It is a way for the seller to obtain a higher price, as theyprove the market value in the future. As well, contingent paymentlowers the purchaser’s risk of overpaying, lessens the impact ofdifferences in information and outlook between purchaser and seller atthe time of the transaction, and provides credibility from the sellerabout the asset’s worth.

At the same time, earn-outs carry challenges and unintendedconsequences. They can strain the new working relationship ifstructured improperly. One difficulty can be the incentive for thetarget’s management to maximize the payout formula at a definedmoment in time, which can be at odds with the better long-terminterest of the business. To create a more balanced view betweenshort- and long-range, graduated payments staged over the term of thevariable payment are usually better than one-time payment schemes.

Another consideration with contingent payments in equity transactionsis if structural integration with the acquirer is necessary for co-ordinated operation. After amalgamation, it often becomes difficult toevaluate or even measure the acquired unit’s stand-alone performance.Linking the contingent payout to actions beyond the targetmanagement’s control introduces significant complexity whenoperational integration is foreseeable. Earn-outs are most successfulwhen the operating entity continues to be largely independent after theinvestment or acquisition. In particular, the budgets for marketing anddevelopment as well as distribution channel access should be

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definitive. This way, both sides of the earn-out agreement havegreater assurance that the target entity will have the resources todeliver its potential.

A further piece of the earn-out puzzle is management retention.Where extensive integration and control of the acquired entity is likely,but it is still desirable to retain the unit’s incoming management forcontinuity or leadership, it can be better to replace the contingentpayment with a flat retention package. This is a fixed monetary sumthe target’s management receives for staying a certain period of timepost-transaction. To provide flexibility and buyer protection, the staticstay-pay incentive should include the option at the purchaser’sconvenience to pay out and part ways with the target’s management.

A fixed fee mechanism gives the acquirer the latitude it needs to makestructural and management changes to achieve integration. Sometimes,the acquired management cannot break themselves of the habits ofindependence, and rebuff integration efforts. The difficulties mayeven be partly due to overreaching commitments of the acquirer duringsale negotiations about post-transaction independence. Howeverintegration friction arises, a flat retention incentive with a unilateralpay-out option for the acquirer reduces the risk of acquiring inexorablemanagement liabilities that impair co-ordination. In particular, a flatsum buy-out clause curtails the possibility of the acquirer being heldhostage by the target’s management about changes that ultimatelyinhibit the ability to make the equity partnership work.

The pragmatic implication of these factors for an earn-out is that thetime frame should typically be no more than three years. Integrationbecomes more difficult to avoid the further into the future thecontingency term extends. At some point, operations will beintegrated, or set aside, and it will make sense to eliminate the troubleof earn-out calculations.

Contingent payments are a constructive tool in equity purchase dealstructuring to align purchase value and incentives, but that utility haslimits. As a practical matter, they are best used when an acquirer andtarget have an incoming valuation for the acquired business that iswithin a factor of five of each other. If the valuation spread is larger,


typically even an earn-out will not provide enough of a bridge in time,information and value to reach an agreement. At the other end ofvaluation difference, when the gap is small and valuations bypurchaser and target are within 20% of each other, usually it is betterto continue negotiating and arrive at a single monetary figure. Whenvaluations are this close, the negotiations and post-transaction controlrisk around a contingent payment mechanism can introduce morecomplexity than it eliminates. With a small valuation gap, it is usuallybetter for both sides to transact at a single final valuation withoutresorting to an earn-out.

When earn-outs are used, they can be based on revenues, operatingincome, development goals or other factors. Definition andinterpretation issues can complicate earn-outs, so measurements andmilestones should be picked that are well defined and subject to littleinterpretation. Subjective or complex formulae muddy the waters.

It is also important to uncover as much as possible about each side’srisk preference and motivations during negotiation, in order tostructure an earn-out that meets both parties’ objectives. Unspokenambitions behind equity participation or sale will complicate thecontingent payment, as well as the partnership.

Earn-outs can be a good way to bridge a price gap between buyer andseller, when they cannot arrive at a single figure. But life is simpler ifthe transaction can be structured without a contingent payment. Everyavenue should be explored to reach a meeting of minds for valuationand future incentives without an earn-out, before entering into one.Nevertheless, under the right conditions of valuation gap, managerialcontrol, measurability and access to resources post-transaction, earn-outs can play a role aligning incentives and valuation.

Joint Ventures

Among the range of partnership mechanisms, joint venture (JV)deserves special mention. As a definition, a JV is a company fundedby two or more partners, who then jointly share in its profits, losses,and management.

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Joint ventures are typically used where:

1. An opportunity is strategically imperative for the partners, but thecost or risk for either company to go it alone is prohibitive. Also,access to some foreign markets can mandate engaging a localpartner in a JV.

2. Informational differences exist among prospective partners,especially major mismatches that depend on deep and often tacitknowledge which do not tend to be revealed well during duediligence. These forms of private information can arise frommarket knowledge, technology, or business processes. Operationof the JV provides a mechanism for assimilating information anddeveloping a shared outlook.

3. The cost of collaboration over the near term is relatively small, anduncertainties or information transfer will be resolved over themedium term.

Under these circumstances, JVs tend to align incentives withmanageable unintended consequences to form effective partnershipmechanisms. As time goes on, JV’s can often be sequentialinvestments, leading to future investments and outright buyout, asuncertainties diminish.

In some ways, JV’s are even more complex than acquisitions. JV’scan bring in issues that never need to be addressed in an outrightbusiness purchase. In an acquisition, after the close there is a singleowner with full decision authority. JV’s in contrast generate ongoingissues to be resolved among two or more parent companies regardingoperations, management and governance. JV’s are also complex tonegotiate and operate because in many ways they are an unnaturalbusiness form: JV’s require sharing, and most business strategy isabout capturing.

JV’s typically require a series of contracts to implement,contemplating many contingencies and conflicts that may arise, and amechanism to deal with them. As a result, JV’s commonly take twice


as long as acquisitions to negotiate. Whereas acquisitions typicallytake three to six months to complete, six to twelve months can elapseinitiating a JV. The time commitment to enter a JV can come as ashock since some people envision a JV as a smaller deal than anacquisition. People are usually mistaken who expect comparativelyfaster deal structuring and implementation for JV’s than M&A.

Considering operation, splits of ownership and control have a strongimpact on downstream roles and responsibilities for JV partneringcompanies:

50%/50% provides equal influence over management, operationsand governance, but at the price of perpetual negotiation amongparents.

Asymmetrical ownership requires that the minority partner cedealmost all managerial and operational control. The test for aprospective minority partner is whether they’re ready to step aside.

There are jurisdiction-specific thresholds of ownership and votingcontrol that dictate whether the owner companies need to report theperformance of the JV in their consolidated financial statements.Especially if significant operating losses are expected from a JV,financial reporting obligations can shape ownership split preference.

Exit Provisions

Much of the discussion about JV’s deals with formation, buttermination also needs attention. Joint ventures are usually transitorystructures, lasting six years as a broad average. With a relatively shortlife span, partners need clear agreement at the outset about how theend of the venture will be handled. A JV can come to an end when ithas achieved both parents’ objectives. It can also come to aconclusion because of poor performance or parent deadlock. Theparties to a joint effort need to consider termination during theformation of the venture.

By way of motivation to consider completion of the JV during front-end negotiations, consider that about 85% of JV’s end in acquisition

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by one of the partners. To boot, there is even an operational andsuccess probability dividend for the JV from defining exit conditionsduring formation. It arises because absent an adequate separationagreement, the strains of operating the partnership with no viable wayout encourages each partner to appropriate as much value as possiblefrom the alliance. Aggressive partner behaviour sours relations andprovokes animosity. Under such dysfunction, performance diminishesand can even tip the JV into demise. Documented exit conditions fromthe outset reduce strain in the relationship of the JV and help it tosucceed.

To put exit provisions in place, both sides need to express conditionsunder which it makes sense to divest their interest, or to terminate theventure, and the manner in which those outcomes will be carried out.Master exit conditions usually include four components:

1) Exit triggers, defining the point of disengagement

2) Each party’s rights in a separation to assets, products, employeesand third party relationships such as suppliers, customers andpartners

3) Articulation of the disengagement process, including strategicoptions, guidelines for creating the disengagement team, andtimelines

4) Communication plan, embracing customers, employees, suppliers,partners, financial markets and other relevant constituencies

Considering the first item, exit triggers, typical circumstances toprovoke the end of the JV include the inability of the alliance to meetcertain milestones, performance metrics or service levels. Otherdissolution conditions commonly used are breaches of contract terms,and, insolvency, change of control, or strategic re-direction of one ofthe partners. Completion of the JV’s objectives, or, sharply changedcompetitive circumstances can also signal that it is time to disband.

Next among exit elements are separation entitlements for the partners,covering the post-JV period:


Inventory of products, materials, equipment, IP, land, and facilities

Revenue sharing, royalties, licensing, and options to buy or sellproducts and services in the future that were created within the JV

Rights and obligations to fulfil contractual commitments from theJV, including to customers, suppliers, service providers, employeesand finance entities

These separation privileges should also aim to reach closure onliabilities for disengaging partners. Delineating entitlements andliabilities sets the stage to detail the process of disengagement,including:

Rights of first refusal regarding separation claims

Mandatory unwind period, to give each partner enough time toimplement its exit plan, as well as giving the JV the time it needs tomeet its obligations and stay competitive if it is to remain a goingconcern

Formation of the core disengagement team. The team usuallyincludes members from the JV, as well as each corporate parent.Best disjoining results often come from assigning new personnelfrom the parent companies, apart from those that oversaw the JV, topromote impartiality in the separation team through the process

Timeline

These items represent the broad elements of defining exit conditionsfor a JV that respects its likely transitory nature, as well as operationalbenefits of having clearly defined exit provisions.

Since partner buyout is a common outcome, as a minimum endgameJV partners can use a nominal cost put option. It gives each party theright to sell their part of the business after an initial term for a nominalsum, so that they have a clear way out from a JV that isn’t working.

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The put option may also include a penalty clause for invoking the putprior to the expiration date of the initial term of the JV.

For a structured buyout under stronger JV performance, there is oftenalso a call option in the form of a shotgun clause. This is where bothparties offer a price at which they will buy the whole business. Theparent that proposes the higher valuation tender wins. The other sidegets a payment for being bought-out that they should considerreasonable. As an alternative to a shotgun, especially when there arestrong ownership or parent resource disparities, each side can alsoarrange a fair market valuation, with a negotiated sale price, and anoption to go to arbitration to break negotiation deadlock.

Detailing disengagement terms adds value to a JV. However, thecomplexity of separation scenarios highlights that joint ventures are acomplex tool for managing risks and rewards in a competitivelandscape. They are a powerful way to achieve business objectives.There are many situations where JVs are appropriate. But, the timeand difficulty initiating and operating a JV means that there should beample exploration of whether there is an alternative contractual way toget the same result, before deciding to enter into a JV.

Mergers and Acquisitions

Companies that sustain rapid growth generally achieve much of itorganically, but often augment internal activities with the highest form ofpartnership: mergers and acquisitions (M&A). M&A acumen isfrequently a key skill for high growth, technology-driven enterprises.


The M&A motivation is that in a fast changing, technology drivenindustry, it is nearly impossible for an established company to fullydevelop and experiment with all of the technologies and business modelsthat will potentially affect the competitive landscape. Even if the moneycan be found to finance so much activity, the war for talent makes itpractically impossible to find enough skilled people. Externaltechnology development, business formation and Darwinian forces needto have room to play out. The winners can then be acquired.

The need to rely in part on external means to achieve world-classproducts grows with increasing product complexity. M&A also becomesmore important with increasing specialization among industry players, ordecreasing product life cycles.

M&A succeeds through innovation in technology, products andbusiness processes. But, the speed of innovation and adaptation isvastly different between organic development and M&A. Thedifference in speed, and the underlying power of change, is a crucialdistinction. In a technology-centric business, the time to moveorganically from idea, through product development, launch andmarketplace ramp-up to a point of significant positive top-line andbottom-line financial impact is typically three to six years. The timecan be a bit faster in some asset-light businesses, and stretchconsiderably longer in asset-intensive businesses such as large-scalecapital equipment and biotechnology. But, three to six years from ideato significant positive financial impact is the norm. The organicallygrowing business usually has three to six years to fully adapt andevolve for major initiatives.

Contrast this with M&A. In M&A, integration needs to happen inthree to six months – remarkably faster. Some aspects of integrationtake longer, but substantial portions of activities need to merge thisquickly. The scope of interaction goes far beyond establishing astandardized accounting or enterprise resource planning system.Technology M&A usually has one to two quarters to developcollaborative programs. Unified projects span R&D, strategicmarketing, operations and management processes. M&A needsadaptation to happen across the business an order of magnitude fasterthan organic change. One can think of M&A like adding a high

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combustion substance such as nitrous oxide to the fuel stream of apiston engine. A suitably adaptable, conditioned system canconstructively harness the increased power from the higher energyinput, unlike a poorly designed or unprepared system that will rebel.

The shock wave of innovation in M&A propagates through businessprocesses, products, and the culture of a company. M&A can makethe company move much faster, and productively so, but only with theright opportunities, attitudes, capabilities, and execution. Years oforganic technology and marketplace development can compress intojust a few months through M&A, but the force necessary to achievethis velocity of change deserves a lot of respect.

The harsh reality of M&A is that by objective measures, a significantproportion fails to meet up-front expectations, even with the bestintentions and apparent fit of the partnering businesses at the outset.External and internal events in technology, markets, preferences, andkey personnel can present barriers to success. Management mustunderstand the typical sources of difficulty, and design the relationshipto counteract detrimental forces.

First off, the core business of the acquirer has to be sound. If theacquirer gets into trouble during integration, the internal crisis distractsfrom making the acquisition work. Deals built on strength are farmore likely to succeed than ones not.

Even with a healthy acquirer, the challenges in M&A are significant.So must be the opportunity. An exact quantification of the probabilityof M&A success is difficult to define, in part because of differentmeasures of success.3 A magnitude estimate is that only 30%- 50% ofmergers and acquisitions will create any net shareholder value for theacquiring company, let alone the competitive advantage expected atthe outset. Management faithfulness to the principles of soundstrategic alliances and attention to detail in execution can improve the

3 Value improvement measures for M&A transactions vary. Parameters thatcontribute to variation of valuation include short-run or long-term stockperformance; accounting measures of profit or efficiency; bidder and targetvaluation; market valuation, and others.


odds considerably. The 30%-50% success check is the acid test whencontemplating partnership: The decision about entering into thearrangement needs to be based on the down-side scenario that it hasonly a 30%-50% chance of creating net value. Is the potentialstrategic benefit of the deal persuasive enough to go forward in theface of such risk, knowing the up-front and opportunity cost?

The question of opportunity and risk pulls into focus the imperative forstrategic unions: They cannot just provide a framework for modestgrowth or cost savings. They must enable sustained, dramatic,compounding growth and strategic influence for both partners,significantly above the level that would otherwise be achieved. This isusually the only way that the potential payback can be justified againstsignificant risks. Moreover, addressable opportunities for superiorgrowth and industry influence in M&A are the wellspring ofstimulating activities and emotional resolve within staff to successfullyoperational-ize M&A.

Operational Success

The best way to create energy and enthusiasm for M&A is toimmediately form a new product, service and process roadmap for thecombined business, leveraging the assets of both enterprises. Theroadmap needs to be formed without bias or prejudice. Pre-transactionnotions of how each business competed and differentiated need to bechecked at the door coming in. The post-transaction roadmap forproducts and services should be evaluated only for its impact foremployees, customers and shareholders. A compelling post-M&Aroadmap creates unique, new assets which draw heavily on the highestvalue, and most strategic capabilities of the incoming units. When thetwo business work to create compelling new product offerings in thisway, there is a lot for stakeholders to be excited about, making it easierto get behind the transaction and operational-ize its potential.

Implementation capability comes down to the availability of resources.It is relatively easy to qualitatively describe the areas of positiveinteraction in a business combination. The general plan for how togain advantage needs to be matched with a path to integration withmainstream operations. This is the way to give intentions force, by

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describing who is doing what and by when, as well as coming to termswith what other activities will assume lower priority to make room forthe high impact opportunities in the merger or acquisition. As thepeople and assets increase that can be readily re-deployed to takeadvantage of the opportunities in the transaction, the likelihood ofsuccess grows. Resource freedom gives executives the power toliberate latent value in the merger or acquisition post-transaction.

A test of conviction and ability to exploit the highest impactopportunities in a transaction is the 20% rule. It says that in thehighest leverage area of integration, the acquirer needs to be able toliberate 20% of the target’s capacity to pursue high impact post-transaction opportunities. The key leverage areas are usually sales,technology, product development or operational efficiency. Generally,the liberated 20% of the target’s capacity is matched with at least thesame absolute level of resources from the acquirer, to collaborate withsufficient depth on both sides of the effort, and assimilate.

The 20% rule is demanding. Few companies have 20% of any keyfunction underutilized. This degree of collaboration commitment testsmanagement’s conviction to making the deal work, and findingopportunities in the combination worthy of setting aside pre-transaction plans.

As the level of liberate-able resources falls below 20%, the speed andimpact of a positive contribution diminishes. Delayed impact callsinto question the merit of the deal. Slow roll-out decreases thelikelihood of success, because change left until later is much harder toinitiate than change at the outset of the combination. Peopleacclimatise to an expectation of little rewiring that is usuallyunrealistic. Furthermore, the risk of delayed impact is compounded byincreased chance of unfavourable shifts in the competitive landscapeas the collaboration timeline extends. The 20% rule, and the impliedurgency and magnitude of integration, is one of many measures to helpassess M&A, and implement successfully.

The challenges in M&A mean that not only must one observe thepreviously discussed considerations for strategic partnerships. Thereare a number of elements especially important in M&A:


Value Levers Know and agree upon the value drivers in the mergeror acquisition. Rank them, and focus resources on the priorities.Don’t get bogged down in low value activities.

Feedback Systematically monitor performance achieving statedobjectives in the highest value areas, and apply corrective feedback.Execution in the areas of highest competitive impact is everything.

Method of Operation The method of operation for the combinedorganization must be articulated in detail during negotiation and duediligence. It is not a detail of implementation to be worked out afterthe deal closes. Decide which senior executives and key staff will bein which roles, including back-up choices for people who leave orturn down new assignments.

Bandwidth Matching Match the inbound and outbound bandwidthfor communication and material flow through the two organizationsas quickly as possible. For example, the customer service responsecapacity for the target company whose products will be quicklymarketed through the acquirer’s larger distribution channel have tobe brought into synchronisation. Bandwidth mismatches create longresponse times, slowing integration and raising apprehensions aboutthe acquisition’s merit.

Integrate Quickly Integrate in 90 days. Drawing integration outintroduces more complexity than it overcomes. Leaving an acquiredbusiness alone keeps people happy for six months at most. Agradual transition may seem like the way to avoid rocking the boat,but it only prolongs inevitable integration issues that become moredifficult when left until later. Few executives ever look back at amerger or acquisition and wish they had integrated slower.Integration should be driven with the same intensity as if thecompany were failing. The need for rapid integration means culturaldue diligence is a must, to ensure compatibility and the ability tocombine quickly.

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Cultural Due Diligence Complete cultural due diligenceimmediately after the legal closing date. Cultural investigationusually competes with the need for confidentiality during pre-transaction due diligence. Often, only limited data points of culturaldiscovery are available until after the deal is announced. Even if aportion of cultural investigation with staff and partners must waituntil after the deal is unveiled, there should be prompt post-transaction investigation at multiple organizational levels andfunctions of similarity and differences:

Centralized vs. decentralized decision making Speed in making decisions (slow vs. quick) Time horizon for decisions (short-term vs. long-term) Level of teamwork How conflict is managed (degree of openness and confrontation) Entrepreneurial behaviour and risk acceptance Process vs. results orientation How performance is measured and valued Focus on responsibility and accountability Degree of horizontal co-operation (across functions, business

units and product lines) Level of politics Emphasis on rules, procedures, and policies Nature of communication (openness and honesty; speed; medium

- voice, e-mail, face-to-face, documents, on-line) Willingness to change

Compatibility Acknowledge the consistency of cultures andexecutive egos of the two separate entities. As they diverge, thecomplexity, duration, and risk of integrating the two businesses growexponentially. The further apart they are, the tougher the earlydecisions become to quickly overcome differences in strategy andculture. Increasing size of the acquisition target also drivesintegration complexity up geometrically, similarly calling for earlystrong actions.

Dedicated Team Plan for distraction of senior management duringthe merge. The intensive period of integration for a substantialmerger partner lasts six months or longer. To minimize the


unproductive disruption to each business, there must be a dedicatedintegration team led by someone who is primarily focused on theintegration. The integration team needs to act quickly to smothercentrifugal forces among competing elements of the twoorganizations. The team also must rapidly establish organization-wide investment and operating policies, performance requirements,compensation structures, employment terms, and career developmentpaths for executives and other key employees.

Early Win Create at least one early win from the acquisition.Examples of early wins include hitting a near-term revenue target,strategic account win, or margin increase. Best of all is achieving abusiness objective that neither business would have achieved alone.An early win provides a clear signal to all stakeholders of the meritof the acquisition. It also quells residual elements of discord downthe organizations that inevitably exists. An early win begins avirtuous cycle supporting the merger or acquisition, as peopleincreasingly believe in the merit of the transaction.

Leader Selection When choosing executives to run the acquiredbusiness, balance the desire for organizational familiarity with theimportance of cultural consistency. One school of thought is that theexecutives running the acquired business should be those with longtenures in the target business. The argument is their familiarity andnetworks will overcome all else. The other school says that long-running executives of the acquired business will stick to old ways.This train of thought argues that newer people are more likely tohave the right outlook for change, and a new culture. Both ideashave merit. The best executives for an acquired business are thosewho strike the best available balance. On one side of the judgementis knowledge of the acquired organization, its industry, andemotional capital with the employees of the acquired business toinspire them to achieve objectives. The other side is respect for theacquirer, willingness to change, and enthusiasm to adopt the newculture. There is no one best extreme choice between an incumbentand a parachuted-in head for an acquired business. The decision isbased on the factors of organizational familiarity and culturalconsistency to guide the best selection for executives to run the targetbusiness.

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Retention Incentives Develop a strategy for retaining keyexecutives and staff. This often includes a financial retention bonus,“stay pay,” for sticking through the merger period. This helpsemployees to look beyond the intense stress during integration. Theexpertise of these people is much more valuable than the technology,products, or market access that they’ve developed. Generally, anacquisition will struggle to succeed if they leave.

Cultural Translation Create fluid communication and cohesion ofstrategies and cultures. Modern communication technology helpswith e-mail, videoconferencing, common electronic work surfaces,and low-cost telecommunications. But, there is no substitute forface-to-face contact. Early in the integration process an individual isneeded who can serve as a Rosetta Stone – someone to translate thetwo businesses’ processes and terminology. In smaller acquisitions,the interpreter can be a single person with deep history and expertisein the capabilities of the acquirer, who can act as an on-the-groundpresence at the target. In larger acquisitions, the Rosetta Stone needsto be a multi-person team with extensive knowledge of the cultureand competitively significant advantages of both the acquirer and thetarget. Whether an individual or a group, the interpreter body shouldcommence a development program to create the most rapidcommunication between businesses, and cohesion of strategies. Aninteractive development project early in the integration processforces people to work together, understand each other, and providesthe opportunity to draw upon each others’ strengths. Because of theintensity and complexity of communication carrying outcollaborative development programs, sustained meeting of minds ismore easily achieved with a local partner than a remote one.

Audit Concerns Regularly audit the concerns of stakeholders.Communication is frequently a silent victim in M&A. Limitedcommunication conceals problems until it is too late. The concernsof stakeholders, especially customers, must be uncovered and actedupon.

Customer satisfaction in the post-merger period is often one of themost telling leading indicators of long-term M&A success.


Customer dissatisfaction manifests itself in higher customer carecosts, pricing and profit pressure, and even revenue losses fromdefections. Any of these setbacks can undermine the efficiencies andopportunities upon which the merger was based. Tracking customersatisfaction, maintaining a running dialog with large customersduring the post-acquisition period, and acting early upon causes ofany deterioration in customer satisfaction, all help to give thetransaction the best chances for success.

Communicate Establish regular communication with stakeholders,especially customers and employees. They are usually tense when amerger or acquisition is unfolding. They all want to know what itmeans for them, and how the merger or acquisition alters theirprevious relationship. Start talking with stakeholders immediatelyafter announcing the acquisition, and repeat key messages frequentlythroughout the integration process. People need to be constantlyreminded and reassured of the big picture as they face moments ofintense localised stress during periods of transformation. Weeklyupdates are appropriate to communicate status, progress, and majordecisions.

Customers Keep customers, especially key accounts, at the centre ofattention. Inform customers about how the combined organization isprotecting customers’ interests through the integration. Regularlyand consistently communicate plans and any changes in products,service and delivery. This includes availability, ordering processes,support, and, future collateral material. Also, make sure to get themessage out about the strategic direction for the new combinedorganization so customers can share the sense of excitement andopportunity in the transaction.

Recognition Be generous with public recognition of those whoexemplify desired behaviour, to reinforce the strengths of thetransaction. In particular, pay attention to high output team players.At the same time, come to terms with renegades and under-performers that are a particular drag on M&A success.

Best-of-Breed Practices An acquirer should adopt practices of theacquired firm that are superior, especially if the businesses are

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comparable in size. A best-of-breed approach retains accumulatedknowledge, which is a priority in M&A. It also shows respect forthe acquired firm. Adopting superior practices of the target helpsmorale among the employees of the acquired firm. It encouragesthe combined entity to adopt best practices. Furthermore, it makesit easier for people from the two businesses to work together downthe road.

In the case where the target company bet one way on an issue, andthe acquirer another, management must handle matters carefully.Not-Invented-Here syndrome is alive and well in technologycompanies. The acquirer must make it part of the company’sculture to assume that the acquired firm may have superiorapproaches.

Common Financial Metrics Similar measures of financial andoperational performance are a boundary condition to success, sothat strength and difficulty is viewed and communicated the sameway. Common terminology, formulae and timing of measurementas well as reporting all contribute to unifying financial evaluation.

The bottom line in sustainable value creation is to keep objectives infocus, and to not lose track of them in the distraction of the day-to-dayissues that can otherwise consume a merger or acquisition.

While most of the foregoing applies to all businesses, technology-driven or not, there is an additional success factor in high-technologyM&A. In high technology, one is often acquiring pivotal technologiesin an early form – the seeds of great things yet to come, rather than thefinal form. A core capability for an acquirer’s R&D becomesqualifying, assimilating, extending and refining new technologies.This is the way to realize burgeoning potential. The outlook ofongoing R&D shifts towards making things better, rather than as muchattention on breakthrough innovation. This is because some of thebreakthroughs will be brought in from outside, but all technologiesmust be effectively assimilated and product-ized to deliver the value oftechnology M&A.


Catalytic Technology Overlap

Where technology is to be assimilated through M&A, the degree ofinnovation sought from the business combination post-transaction is amajor consideration. Technology may not be the motivator, even intechnology-based businesses. Examples of non-technical driversinclude gains in market share, market consolidation, sales forceefficiency, financial engineering, or financial opportunism. In suchcases, little new post-transaction technology is expected beyond whatthe two organizations would have achieved independently. Other dealsare about breaking into entirely new markets, with target technology oflittle overlap with the acquirer’s. These situations may also haveinconsequential need for technology collaboration post-transaction.

Where partial technology overlap exists, the opportunities grow forincreased technical innovation from the marriage. Where generatingincreased post-transaction innovation is at a premium, the optimaldegree of overlap of the two businesses’ technologies is usually in therange between 15% and 40%.4

Greater commonality isn’t necessarily better. Similar knowledgebeyond this range usually delivers few technology benefits. Withtechnology overlap greater than 40%, there is often too littledifferentiation of the R&D groups for them to respect the uniquetalents and perspectives of the other. The relationship frequentlybecomes overly competitive, with Not-Invented-Here syndrome andrestricted information flow as the R&D groups struggle to retainseparate identities and spirits of invention. Technologicalcollaboration becomes stifled where overlay of capabilities is too high.Even obvious efficiency gain opportunities through eliminating R&Dredundancy can prove difficult to realize because of territorialism in ahigh imbricate scenario. Moreover, with extensive technology overlap,even if people want to collaborate, they can’t effectively challengeeach other because their capabilities are so similar.

At the other end of the technology commonality range, white spacedeals are difficult to make work. Weakly related technologies are

4 “Shopping for R&D,” Mary Kwak, MIT Sloan Management Review, Winter 2002

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often not easy to absorb. The R&D domain knowledge, language,tools, and challenges are too different to effectively build upon eachother. Without a reasonable amount of technology overlap, peoplecan’t communicate well enough or understand each other’s issues insufficient depth to develop world class capabilities. A moderatedegree of common ground, usually 15% to 40% of pre-transactionskills and activities, provides optimal innovation stimulation whengrafting technologies in M&A.

R&D Team Concerns

Another technology-specific consideration in M&A is the concerns ofthe R&D groups. These groups need special attention as the life-bloodof the combined entity. During an acquisition, the acquirer’s R&Dgroup can be distressed that the decision was made to invest in anoutside company, rather than investing in their own R&D to developsimilar capabilities or grow into the same markets. At the same time,the target’s R&D group can be concerned about restrictions orobligations regarding their future activities. Both concerns should beexplicitly answered.

For the acquirer’s R&D team, management should undertake a frankdialogue to address concerns. The discussion should articulate theneed to build a market position quickly, and also include any biases ofcapital markets or investors favouring acquisitions, IP issues,imperatives about overcoming competitive barriers, and other factorsencouraging acquisitions. The discourse should continue throughoutthe integration process. Management must explain and reinforce whyacquisition was a preferred and necessary route even if some elementsare uncomfortable for the acquirer’s R&D team.

To intercept apprehensions among the target’s R&D group, the scopeof future R&D activities should be clearly spelled out during theintegration process. If changes in R&D activities are going to takeplace, it is better to get these out in the open. Better still is to discussthe positives, such as capabilities and reach of the combined businessthat the target business could not have attained as quickly. Whilesome R&D staff in the target may leave, uncertainty is worse. Clearexpectations communicated to everyone in the target’s R&D group


reduce consternation. Transparent communication creates a positivefirst impression that the acquirer is honest and forthright, for lastingbenefit.

Early-Stage Acquisitions

An M&A situation that arises frequently in high technology is amature business acquires an early-stage one. There are three specialconsiderations with this disparity that both businesses need to plan for,in order to make the transaction a success:5

The first is the thinness of management in most early-stage firms.A larger corporate purchaser can end up dismayed by the amountof resources that need to go into overdue managerial support. Start-ups are often for sale because the present management does nothave the depth to sustain-ably grow the business to satisfyinvestors.

Second is whether the start-up is truly a business or just an excitingtechnology. Businesses have a clear path to profitability, self-sufficiency, and self-perpetuation. An interesting technology isnot enough.

The third concern when acquiring early-stage companies is torespect the soul of a start-up. Early stage companies have culturesof intense spirit. Retaining core employees usually depends uponpreserving a similar culture. Starving the flame of passion andexpression is risky. Once the flame is gone, it is virtuallyimpossible to rekindle, and the value of the new enterprise cansharply decline.

Acquisition success with early-stage companies increases when alarger acquirer is fully aware of a start-up’s management depth, itsstage of development along the road to becoming a true business, andthe culture and flexibility the start-up needs to retain to succeed atwhat it does and keep pivotal employees.

5 “High Tech Start Up,” John Nesheim, The Free Press, NY, 2000

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Conflict Management

In any strategic partnership, there will be conflict. The more involvedthe relationship, the greater the potential for complex disagreements.A fast-changing technology and competitive landscape adds fuel to thefire. As the degree of interaction in a partnership climbs, and the paceof environmental change increases, the more defined the conflictmanagement process should become.

All conflict resolution has to be based on a shared decision framework,called the reference framework. This joint frame of referencedescribes how success will be measured together, the metrics to use,and the optimizing criteria for trade-offs when tensions or exclusivechoices arise.

Certain types of conflict are to be avoided and suppressed, such asterritorialism, political gaming, and other manoeuvres not grounded inthe agreed-upon reference. Outright mistrust of a key player in thecollaboration is also something to promptly repair. However, not alldissidence is bad.

Some rivalry in a joint effort is desirable and healthy, where the strain:

Arises from new technologies, products, customer service deliverymethods, and business processes

Takes advantage of the combined capabilities of both partneringbusinesses, in valuable and market-focused ways

Comes from stretching the areas of interaction in ways difficult todo as independent companies

Conflict fitting this description is to be discovered, created andembraced. Side-stepping such encounters are missed opportunities togain significant competitive advantage in a partnership.

The way to put effort into healthy tensions, while dispatchingunproductive ones, is to have a defined conflict management process.


There are two parts to conflict resolution: 1) managing flare-ups at thepoint of occurrence, and, 2) managing escalation. It is important tohave a process for addressing conflict at source, and governingescalation. Otherwise, a vicious cycle can take hold of ever-smallerissues being summarily referred further and further up the chain ofcommand of each partnering organization, undermining trust, creatinggrudges, and harming execution speed.

To deal with friction at its source, have a transparent, widely-knownway that all players will deal with dissidence, and, force the discussionto centre on statistically significant data sets, and direct experiences,rather than anecdotes and second hand information. A method forhandling disagreements at source, as well as using facts and data, willbe much more effective than some common tonics like teamworktraining sessions, re-jigging incentive systems, or relying largely onchanging reporting lines. These measures of training, incentives andreporting can help to deal with collaboration discord to a degree, butthey are supporting elements rather than primary success factors ofmanaging conflict at its origin in a partnership. A protocol forhandling disputes at source is the most important way of productivelychannelling the energy of a disagreement.

Have those at the conflict source apply a common set of trade-offcriteria to the decision at hand. Often, disagreements arise because ofdifferent priorities and interpretations of events by team players.Productivity will slide if people debate endlessly back and forth acrossthe table about preferred, competing outcomes. Rather, the samepeople need to have common criteria linked to the referenceframework, and apply it to the decision matter on the table. This way,people are using the same measure of success, in the same way, andcan better invest effort in designing a creative solution to the disputethat keeps it from being a zero sum game.

Even with common criteria for decisions in place and combined effortto find solutions, some disagreements need to be escalated to moresenior management. When escalation happens, there should be jointadvance up the management chains in both partnering organizations.

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Firstly, team players from both sides present disagreement together totheir bosses. A single voice helps team members clarify differences inperspective, language, information access, and strategic objectives.Forcing unified explanation of a mismatch often resolves difficulty onthe spot. Moreover, joint communication at escalation avoidssuspicion, surprises, and damaged personal relationships. Thesenegative outcomes are associated with unilateral communication andtransmission up one partnering business’ management chain, whendifferent messages are going up the other side’s hierarchy.

Secondly, insist that a manager in one business resolves escalatedconflicts directly with her management counterpart in the otherbusiness. Sometimes a manager on one side or the other, receiving aconflict from subordinates, will attempt to resolve the situation quicklyand decisively by herself. Unilateral managerial responses like thiscarry significant downstream costs in a complex, interactingpartnership. Disputes need to be resolved bi-laterally, despite theimplied communication overhead.

Pair-wise management interaction across partnering organizationalboundaries can feel cumbersome. But, collaborative resolution bymanagers overseeing a joint effort that has come under dispute is moreproductive over the long-term. Bi-lateral conflict elevation andresolution minimizes any sense that one side lost resolving an issue,keeping trust high, preventing turf battles, and preserving a healthierenvironment for future collaboration.

A defined conflict management method increases the likelihood oflong-term success in a strategic partnership. What sometimes gets lostin the dynamic of making a partnership work is the disagreementsfrom differences in perspective, competencies, access to informationand strategic focus generate much of the value that can come fromcollaboration across business boundaries. The quest for too muchharmony can obstruct teamwork and competitive advantage. Whendifferent competencies and perspectives tackle a problem together, itgreatly increases the chances for a truly innovation solution to generateindustry-leading capabilities. Conflict is to be managed according toarticulated and communicated rules, but differences are not to beavoided altogether.

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Staffing and Culture

Quickly Turning Newcomers into Productive Employees

Rapid growth and internal change pushes managers to assimilate a lot ofnew employees. Roles and relationships evolve quickly when a businesstransitions. During periods of fast expansion, restructuring or turnover, itis not uncommon to have 30% or more of staff as newcomers each year.With long learning curves for new hires, especially highly skilledprofessional and executive positions, the productivity impact of rapidintegration is considerable.

The most important aspect of rapid on-boarding in technology-drivenbusiness is to get people connected with, and contributing to, the rightinterpersonal networks. These are the communication pathways thatwill give people ongoing access to technical know-how, politicalinsight and cultural sensitivity. Make it plain to new staffers that theyare to ask questions with first projects, rather than letting pride orindependence get in the way. Recent additions should also beencouraged to undertake exploratory conversations with colleagues, tounderstand the assets and experience around them.

The importance of environmental discovery: Without awareness andaccess to the assets around them, employees can be reluctant to exhibitignorance, and will forego asking questions. Employees can then re-invent solutions that already exist. Employees in a vacuum ofpersonal contacts may ask counsel of the first person they happened tomeet, when that person may only know a small part of the business.

The goal of introductory activities is to wire people into interpersonalnetworks that build awareness of others’ skills and knowledge. Thosestrengths can then be tapped when new activities demand newinformation and perspectives. Initial tasks should be designed to getpeople interacting with those who have the cultural awareness, politicalacumen, and technical experience to help the recent addition makeefficient choices. New staff can then become rapidly productive, andable to take on more difficult tasks.

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At the same time, first assignments should be challenging. Some wouldprefer first tasks be simple and quickly achievable to build momentumwith success. However, experience often shows a challenging firstproject to be better for integration. A demonstrably demanding first taskhelps establish the right work habits and expectations. More importantlythough, the newcomer desire to prove oneself during a demanding firstproject helps to build respect among colleagues, creating regard for thenew person’s capabilities and embedding them in the communicationfabric of the business. Especially when a new team member bringssignificant incoming experience, expertise and industry contacts, the newideas and perspectives help make the business more innovative andcompetitive. Building a newcomers’ reputation creates a currency forthe individual that can be leveraged in future projects.

Taking a relational approach to bringing new people on board is an effort,but it does not usually require a greater investment of managerial timethan traditional approaches to training and personnel integration. Whena new employee develops the right set of co-worker relationships, theyquickly have less need to approach management for advice andinformation.

Executive On-boarding

Helping a new executive successfully climb on board requires areas ofspecial emphasis, and some additional considerations, compared withstaff and junior management roles. Executives need a detailed plan forgetting up to speed, forging effective relationships, and accomplishingwhat is expected in their sphere of influence. It is best if this plan isformed prior to commencing employment. It also helps to have acommunication strategy and business plan in place on the first day.

An incoming senior manager needs to work out which relationshipsmatter, both those whom she most needs to work with and impress, aswell as those who could undermine her. These relationships shouldcover not just the formal organizational chart and board of directors, butalso the power broker subset with outsized influence among those groups.

Hostility to the incomer among existing management should beidentified, particularly among those passed over for the job that the new

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executive is filling. People who were passed over that do not quicklydemonstrate enthusiasm and loyalty for the new leadership in the firstfew months need to be removed. New executives often move too slowlypruning insubordinates, and there is no time in most executive landingsfor distraction from disaffected staff.

Turning to relationships, they should be fostered starting with initialmeetings and a schedule for follow-up sessions, as well as teamformation.

Team coalescence, accomplishment and momentum for success areadvanced with a set of concrete projects. The programs should havespecific, achievable milestones, and the ability to achieve someunarguable victories. Projects with urgency and near-term measurabilitycreate on-going contact and collaboration for relationships and teams.Furthermore, achievement early on helps greatly to advance thecredibility of the new executive and motivation of her team.

Keeping New Employees Aligned

It is great sport to scoff at the afflictions of large companies. But, rapidlygrowing businesses can quickly get big, especially when an increasinglylarge number and proportion of the employee base are new to theirpositions. A fast expanding business can start to bog down from cultureatrophy when there aren’t sufficient reference points to guide newcomersabout acceptable behaviour.

Culture is the only way to bring harmonization to the thousands of smalldecisions that staff and managers make every day. A rapidly growingbusiness needs to work to impart the right culture lessons to rookies.New hire and new manager orientation needs to include lectures onproducts, markets, customers and operations. There should also behistory lessons from old-timers about the pivotal events and experiencesthat made the business what it is today. There should be seminars aboutthe company’s goals and its technology. A shared sense of history andmethod of competition help newcomers to be productive, and keep aquickly growing company on the right trajectory.

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Market Targeting

The essence of marketing is to drive the business to commandingpositions in customer sectors where the achievement of corporateobjectives is likely. Those who enjoy sustained success have acommanding presence in specific segments. The primary differencebetween large and small companies is the size of those niches.Growing, successful companies are not just minor players in largemarkets; they are dominant players in specific sectors. Marketing’srole is to create a strong image of the organization’s prominence toidentified markets, and lead the company to those segments. Thisincludes bringing present and future requirements of customers intothe business.

Maxim

Focus on specific markets – application, geography and customerpurchase behaviour. Failure to target squanders limited resources.Succeeding takes longer and is more complex than just about anyoneimagines at the outset. It is better to attend to one sector than it is tofragment effort trying to find the perfect market across many sectors.Concentrating resources provides greater cohesion of activity, betterapplication understanding, faster learning, closer customerrelationships, and a more secure position. In other words, it is toughfor a generalist to compete with a specialist. When one market hasbeen successfully attacked, then branch out to others.

Segmentation

Following from the importance of concentrating resources, nothingcan be managed if it is too big. Markets should be segmented into thelargest units of homogeneous key needs, decision processes, andbuying criteria, and, separated by heterogeneous ones. To be mostuseful, segments should be easily reached and served, sizeable enoughto justify a unique strategy, and distinctive in response profile.Segmentation improves executive attention, aiding recognition of

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opportunities and threats. It pushes management closer to customers,facilitating greater understanding of buyers’ needs. Engagementaccesses information critical to strategy formulation, and allowssmaller firms to compete with larger and better-established players.

A less formal way of looking at this: Really understand what segmentwill be owned. An insurgent vendor needs to be best of breed in thatniche so that people will think of it when they buy. The size of the sectorhas to be large enough to provide sufficient market, but not so big thatcompetitors that can’t be handled will retain the upper hand.

However, segments should never be viewed as intransigent. A beliefin static segments belies the nature of changing technology andmarkets, creating a false sense of security. Segmentation evolves withcompetitive conditions. The biggest threat is usually convergence ofpreviously distinct market segments, broken down by advancing cost-performance from technological advance.

The best defence is offence. Always look for the rich part of themarket, mapping revenue and profit vs. performance by segment. Aimto provide performance from aggressive application of the latesttechnology that meets the needs of the majority of the market, at a costaffordable to most. An interesting perspective can be gained by askingwhat it would take to win the majority of buyers even withoutpromotional activities.

The principal front to be wary of is the low end of the marketplace. Itis a frequent source of segment transgression. The pattern of the low-end is to regularly add features and performance of the high-end, yetmaintain traditional low price. There are few segments at thecommodity end of the market. Investment thresholds are much greaterthan in the high-end. The business model of the low-end is difficult toreplicate when those competitors leapfrog a higher-cost player. Thereason is momentum is difficult to re-build with a sizeableorganization and a higher-cost operating structure. It is best toroutinely purge assumptions based on segment history. Doing soconsiders segment definitions based upon the optimal performance ofavailable technology, customer preferences, and migration of bothtechnological and market factors.

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For many companies in the premium performance space, segmentrenewal can be counterintuitive. They often started in high-end sectorswhere greater bootstrapping from high profit margins is possible.Success can seem to reinforce the merit of a high-end position, with littlefurther critical analysis. Whatever the historical reason for a premiumperformance position though, intense day-to-day activity of thoseimmersed in the high-end can occlude low-end forces.

Market Assessment

Market assessment looks at the company’s ability to createdifferentiation that offers buyers a clear and meaningful advantage,and also provides adequate return-on-investment (ROI).

Market appraisal typically addresses:

Fit with corporate strategy Segment-ability of the market to identifiable groups with similar

requirements Market maturity, and the need for innovation Market size and growth rate Accessibility of market chains and webs for supply and

distribution Leverage potential of infrastructure, both internal and external Key market choice and rejection influences Economic climate and volatility Human and capital resource requirements and availability Cultural fit Achievability of required technology performance Adaptability to required operational performance in technology,

product (features, quality, reliability), brand, sales, promotions,and support

Attainable revenue, and profit How success in the market will transform the company

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The outset assessment is followed by a Porter analysis of current andanticipated future competitive forces within the industry:

Bargaining power of suppliers, based upon the number of suppliers,switching costs, threat of supplier forward integration, and thesignificance of the subject industry to that supplier group

Negotiating power of customers: size and market share ofcustomers, switching costs between competitive products, and,threat of backward integration

Likelihood of new entrants, which grow as product differentiation,capital requirements, and barriers to distribution access alldiminish

Risk of substitute technologies creating radically different businessconditions

Degree of rivalry among current competitors, which becomeshigher as the number of players increases, products becomeundifferentiated, industry growth decreases, and fixed costs rise

Influence of complementary players and potential partners

The evolution of the above factors over time, and whethercompetitive forces are moving toward or away from the company

Perspective on the last point, how the competitive landscape maychange over time, can be aided by locating where a market is in theindustrial innovation cycle. The process typically takes the followingform:

A significant innovation starts the cycle, which isfollowed by a period of agitation where neithermanufacturers nor customers are sure what the productshould be. Standards are few, and both the old andvarious incarnations of the new compete. New entrantsabound, and competition increases. Incumbent players of

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previous technology may have to unlearn what madethem successful in the past to continue competing.

The fluid phase closes when a dominant design emerges.Competition becomes more intense. Product innovationyields to production and support process innovation.Capital investments increase to reduce costs and refineperformance. Consolidation takes place; the strongbecome stronger. An oligopoly emerges. If openstandards are adopted, then brand names, distribution andservice become critical.

Subsequent discontinuous innovation will usually causeone of two outcomes. Small innovations, requiring mostof the capabilities of the preceding state of the industrytend to extend the state of oligopoly. Major departureson the other hand require the dominant players of thepreceding state to unlearn much of what they know.Former strengths can become burdens. Under the majordeparture condition, the innovation cycle begins again.

Consideration for the state of the innovation cycle, as well as Porteranalysis, provides the foundation for a systematic assessment of theenterprise’s strengths, weaknesses, opportunities and threats in amarket. This looks at the present and into the future, to evaluatemarket attractiveness for entry. The life cycle framework helps todesign and execute strategy for exploiting innovation. Ultimately, thevalue of this effort is to help find one or two highly significant thingsin the competitive landscape that can be changed to favorably alter theenvironment.

Market analysis thus forms the basis for it’s descendent of marketingstrategy. Marketing strategy in turn spawns plans in products, pricing,distribution, promotion and support, which themselves have lateralrelationships with other elements of corporate strategy fromtechnology, to operations and finance. A sound survey of availablemarket information, and analysis, builds strategy upon the strongestfooting possible to improve the probability of success.

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What does this all mean? In plain cautionary language, it means solvea generic problem, and really move with the technology. Don’t justreact to isolated hot buttons. And, don’t fall in love with a technicalsolution concept isolated from a wider range of system technologyforces that may otherwise alter the identified opportunity before it canbe capitalized upon.

Promoting Novel Technology

Novel technology takes customers beyond their experiences andtraditional usage models. Marketing it holds several unique and subtlechallenges. Promoting novel technology is about describing itsbenefits in terms customers will understand, and then removing orminimizing real and perceived risks. This paves the way for rapidadoption.

Innovation adoption rates and penetration are affected by fivecharacteristics that describe customer implications for the technology:

1. Complexity of adoption2. Trial-ability3. Compatibility with buyers’ values4. Relative quality advantage5. Communicability of benefits

Generally, innovation will only be adopted as fast and far as theweakest link allows. Marketing innovation requires the supplier tounderstand customer impacts of the technology, to build uponadvantages and overcome weaknesses.

Above all else, customers do not want to make mistakes. They want tobe knowledgeable in their decisions, and proud of them. The noveltechnology promoter must help customers reach a state of confidentunderstanding.

Customers move toward self-assured awareness in three distinctphases: education, confidence building, and finally sustained demandin the presence of mimicking products from competitors. The

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sequence may iterate with different levels of management when theproduct is being sold to commercial or industrial customers, dependingon the scope of the change that the new technology introduces for theuser, and the size of the customer organization.

Preparation to promote fresh technology begins by gaining knowledgeabout the customer’s entire usage process, both upstream anddownstream from the intended insertion point of the new product. Incomplex processes and systems, there may be many technical,operational, human, and marketing effects to understand and embracebefore marketing efforts can begin in earnest.

After understanding customer implications, promotion goes intomotion with education. The objective should be to create ademonstration of capabilities that has a lot of intuitive and emotionalappeal, sometimes known as a “wow-factor” - a striking look or apreviously unattainable experience. A novel technology should notrely entirely on specifications.

Teaching begins by filling in whatever gaps in customers’ experienceslimit appreciating the value of the new in their applications.Customers must be educated so that they can analyze the situation forthemselves and make an informed decision about adoption. Theyshould get to know the underlying science, capabilities, and limitations.Their goal is to understand how the product enables new capabilitiesand overcomes dominant issues with current technology, as well as thetradeoffs. A caution though is that a customer’s decision processneeds to be driven by the articulation of reality, rather than theexhortation of fear. Fear plays to the incumbent. By addressingopportunity and educating customers, they can then becomecomfortable with choosing to adopt the new.

Where the value proposition is radically different from the familiarpast, education may additionally entail the understanding andacknowledgement of new metrics of performance. Potential buyerscan then come to appreciate for themselves the value of the new.

Radically different technology may also require educating thecustomer’s customers, if they are a significant piece of the puzzle to

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create demand for the new technology. Passively waiting for trickledown learning and feedback through a multi-link market chain retardswidespread adoption. Technology promoters undertake multi-pathdialog to understand the dynamic of the technology throughout themarket chain and evolve the product concept.

After education, the ensuing step is to build confidence in thetechnology and its evolving maturity. Assurance is bolstered bydemonstrating customer satisfaction in all regards, and adoption orrecommendation by opinion leaders. The technology must be shownto equal or exceed established expectations from predecessortechnologies in critical respects. This step removes reasons why thecustomer would not want to adopt the new technology. Cost,reliability, ease of use, ease of interface, security of supply and safetyare all pivotal confidence concerns for customers contemplatingwidespread adoption.

The final piece promoting novel technology takes place when themarket crowds with competitive offerings that mimic the performanceof the new. Specmanship and aggressive sales pitches by competitorsconfuse and frustrate users. Advocacy efforts should then focus onend-users of the technology, with a goal to rise above the confusingfuror in the eyes of customers to create market pull.

Pace of Technology Adoption

One of the difficult questions with marketing novel technology isprojecting the pace of adoption. As the time frame varies, the speed ofinvestment and the degree to which supporting infrastructure can bedeveloped both change considerably. A faster pace of marketpenetration calls for aggressive early investments, and increasingutilization of established infrastructure for production, support anddistribution. A slower pace of market penetration suggests a morecautious roll-out of investments while the technology is refined tomeet the needs of mainstream customers.

Keeping a realistic expectation about the time scale of success helpsthe business to focus, and make better strategic and tactical plans.Decisions in step with the timing of implementation help to deploy

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resources effectively. Where the time frame is longer, there are moreoptions to hold off on some commitments until later, when the marketand the industry will be more settled. Investments can be bettertargeted and less risky. Where the time frame is shorter, resourceshave to deploy more rapidly in order to secure competitive footing.Making sound investment decisions, including being comfortable withwhen to be aggressive and when to be more conservative, relies uponan understanding of the timing and forces governing adoption.

There are two leading influences over the pace of technology adoption.One is access to supporting industry infrastructure, including agreeableuser behaviour. The other major issue governing speed of take-up is thematurity of the incumbent functional satisfaction that the noveltechnology is intended to displace. Both of these factors have adisproportionately large contribution to the speed with which atechnology can move to significant market penetration.

Once a technology begins to push existing infrastructure or channels tomarket in directions they’re not inclined to go, the time scale of adoptioncan easily stretch out by years. Or, if a technology requires changes inusers’ behaviour or attitudes toward acceptance that are untested andpotentially controversial, the time scale of success in marketing noveltechnologies can similarly expand.

Rapid acceptance of novel technology generally comes about only inwell-developed industries with leverage of in-place infrastructure,business models and customer behaviour. Promoters of noveltechnologies should look for ways to transform their intended approachin order to make greater use of the industry assets already in place. Ittakes discipline to invest the intellectual energy into making most of theexisting ecosystem better. Confidence in the new technology leadsmanagers to think they can extensively re-write the existing basis ofcompetition more often than they should.

Nevertheless, purveyors of new paradigms may need to go it alone.Where re-use of existing industry assets is not practical, then promotersof novel technology usually do well to consider that the time scale ofsuccess will likely stretch out. Significant new capabilities and attitudestake years to develop. Investment choices and management approaches

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improve with a healthier sense of the time-scale of technologymaturation, infrastructure development and market adoption.

Improving Market Entry Decisions with Comparison CaseAnalysis

“Our situation is unique,” can be one of the most expensive assertions inbusiness. When mulling market ingress, there are several biases that cancolour market entry decisions. Emotionally appealing arguments, selectanecdotes that appear confirmatory, individuals’ bias, and group decisionimpairments are the usual contributors.

All told, there are numerous issues in information gathering, filtering anddecision-making. Important information that is observable or inferablecan go missing from the discussion, be understated or evenmisrepresented. The end result is that often an entry decision is cloudedby overly optimistic expectations for the time to develop a market, thecost of doing so, ultimately achievable market share, and long-runefficiency.

To put up-front ingress choices on more solid footing, one of the mostpowerful tools is the use of reference case analysis. Precedent exampleslook at several past supplier experiences coming to the same or similarmarketplace with an analogous product. Using comparisons is anadmission that there have been other smart people who had their fairshare of opportunity and problems in representative circumstances. Bylooking at a number of cases, the favourable track records of thesuccessful are counterbalanced by those who faced greater adversity. Amore level view then emerges of adoption time, cost and other factors tobetter inform the market entry decision. Moreover, because it is externaldata that forms reference cases, much of the human bias and managerialdecision impairments are suppressed compared with anecdotal, emotion-driven mechanisms.

One reason reference cases are powerful is that each instance contains allof the information relevant to a suppliers’ past trajectory building aposition, including both external and internal factors. It impounds theexternal investments required to change customer behaviour and

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purchase decisions, develop suitable sales and support, and create oradapt complementary infrastructure. Precedents also highlight issuespast suppliers overcame with internal obstacles scaling up: training staff,getting quality and service levels up, and, refining the enablingtechnology.

Reference case analysis is most effective using multiple cases. One ortwo references are usually not enough. Too few examples can present anoverly optimistic or negative picture. Generally, five to six cases givesenough variation to provide a good decision compass. More cases aredesirable in concept, but there are diminishing returns to the extra effort.Five or six well selected cases tend to reveal the range of experiencespast entrants had for time and cost to build a market position, attainablemarket share, as well as other outcome factors.

To make the most of past ingress examples, they should be adapted topresent circumstances. Changes arise from industry growth, maturityand evolving structure of the competitive environment. There areseveral predictors of success in market entry that help to condition pastexamples to present circumstances:

Size of entry, relative to the minimum efficient scale at the time ofjumping in

Relatedness of market entered, compared to the supplier’s incomingbusiness

Complementary assets on-hand, particularly marketing anddistribution, but also technology and operations. Alternatively,looking at whether the product is a first or later generation one fromthe supplier infers much about the complementary assets on hand

Order of entry. Initiators benefit from green field customerexpectations, but lack supporting infrastructure. Later entrants need tobattle incumbents, but have the benefit of riding the coattails ofsupporting infrastructure and customer behaviour created by earlierincomers

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Industry life-cycle, whether the industry is closer to the formativestages when entry is easier, or consolidation when it is more difficult

Degree of innovation and foment in the target industry

Regulatory barriers to adoption and any regulatory changes

Not only do reference cases reduce bias and emotion, they cut down onpoliticking. They are especially helpful in multiple business unitcompany settings. In multi-business line enterprises, there can be severalunits competing for resources. The basis of investment comparison canbe quite different among them, as competitive and operationalcircumstances vary. One of the easiest dimensions of business planningto overstate, to angle for better resource allocation, is revenue and marketshare targets for new development programmes. External precedentscarefully translated to current conditions tend to better inform the likelyspeed of building a market position. Employing reference cases beforecommitting resources to major market entry decisions is a potent way tocounter politics and territorialism. This technique can prevent distortionwhen multiple players are competing for development resources.

Growth Strategies

There are three growth variables: technology, applications and customers(T, A, C). Each ranges continuously from old to new (0 to 1). The threedimensions define the space for expanding.

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0,0,0 Generate the natural growth possible with traditional technology,applications and customers. The market space, technology, and applicationcriticality need a satisfactory trajectory.

0,0,1 Win new customers by taking market share from competitors. With oldtechnology though, it is difficult without devolving to a price war, wheremargins for all competitors decline, yet often market shares do not changesignificantly as competitors match moves with the initiator.

0,1,0 Deliver a greater range of products and services to existing customers,leveraging relationships. It is most easily achieved with commodities. Thechallenge of this strategy in technologically differentiated spaces is to deliversolutions that are cohesive across a range of customers to retain operatingleverage. Often this strategy requires extensive customisation of solutions foreach customer.

0,1,1 Build a market for old technology in new applications, with newcustomers. It combines the challenges of the previous two strategies, and isusually demanding to execute.

1,0,0 Sell new technology to traditional customers and applications. Itgenerally depends upon building customer acceptance for recurring technologyreplacement or complementary technologies. The supplier has to deliver asteady stream of new, desirable features and benefits.

1,0,1 Deliver new technology to new users, but in traditional applications. Thisis usually the way to build market share without descending into anundifferentiated price war.

1,1,0 Expand the range of technologies and application solutions supplied toexisting customers. In markets where customer relationships take a long time towin, but are usually sustained for a similarly long time, leveraging customerrelationships with new products and services is a common growth model.

1,1,1 A long shot. It admits that almost everything about the traditionalbusiness has to significantly change in order to grow. It abandons much ofwhat has made the firm successful, and takes it into uncharted waters. This isrisky and volatile. It is generally the domain of start-ups. The closest thatestablished firms usually come is to reduce one dimension from entirely new, toan extension of traditional technology, customers or applications, to retain moreof the existing strengths of the business as assets.

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By tailoring strategy to achieve the right balance of leverage, growth,challenge and risk, the optimal point on the continuum between old andnew for each variable can be achieved.

Risk is often the most difficult to objectively assess. Managerialintuition can be a poor predictor of success when an enterprise reachesoutside of its traditional power zone. To gauge the probability of success,defined as generating returns above the cost of invested capital, there aretwo main variables: 1) strength of the business in its core market, and, 2)distance of the new line of business from the core.

A clear market-share leader in its core market has about a 50% chance ofsuccess entering an immediately adjacent space. As the adjacency dropsoff, the success rate falls. There is roughly a 10% step-down as thetechnology goes from familiar to remote, 10% for applications, and 10%for customers. The outcome: Even a business with tremendous strengthand scale in its core market needs to contemplate a probability of successof about 20% venturing into largely new territory on all three dimensions.

Businesses with second-tier status in core markets are more challengedin outreach efforts. They do not have as much surplus capital,management bandwidth and resources in R&D, operations and marketdevelopment to divert to new efforts. Secondary players in one markethave about a 25% probability of success entering adjacent markets. Thesuccess likelihood drops by 5% steps as technology, applications andcustomers get more remote. At the outer extent, secondary players’chance of success is about 10% venturing into entirely new areas.

However, there is a prominent exception to these rates of achievement:dramatic cost reductions. This is where technology can be re-designed tosustain-ably reduce selling price by 3* to 10* versus alternatives. Ifsubstantial price compression can be achieved for a technology of provenutility, new applications and customer demand usually arise of sufficientstrength to overcome competitive resistance. The probability of successreaching out to new applications and customers roughly doubles in thedramatic cost reduction instance compared to what it would otherwise be.

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Attacking Established Markets

Going after established markets with replacement technology imposesspecific performance demands which vary with circumstances.

As a candidate selling environment, a replacement market offersproven demand, developed and demonstrated by predecessortechnology. Especially when faced with high investment stakes, therisk of going after a latent market, or the time to develop it, is oftenunacceptable to stakeholders. Replacement markets are most importantto target when the investment is large to make a technologycommercially viable. Technology that is successfully chosen as areplacement can build large sales volume quickly.

There are both opportunities and challenges distinctive to replacementmarkets. They both stem from the norms established by the incumbent.On the positive side, the ecosystem is known. The realm of certaintyincludes competition, customers, and user expectations. Thus, productdefinition for a replacement market can comprehensively definecustomer needs, specifications and optimal trade-offs. It is thenrelatively straightforward to be aggressive in the areas of a product thatwill give most impact.

On the coin’s other side, the difficulty of replacement markets is themany established expectations in cost and performance of previoustechnologies, and conservatism among mainstream customers. Humannature is to be cautious of change when much is at stake. Thecustomer does not easily give things up when moving from old to newtechnology. The status quo can be the biggest competitor. Often thereare at least minor tradeoffs that the customer needs to make to adoptmore advanced technology. There is some pain for customers makingthe shift, even if just the tradeoff that the new technology is not provenlike the old.

The hurdle of established expectations and patterns of behavior fromthe previous technology slows adoption of the insurgent. To maximizethe probability of adoption and overcome the user risk premium, asuccessor technology should have evolved to provide convenience and

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beneficial attributes of the older technology, at the same time asdelivering significant new benefits.

Adoption Thresholds

There are two adoption thresholds affecting replacement markets. Onearises where a new technology provides a marginal performanceadvance. The other occurs if the technology provides an order ofmagnitude breakthrough. The requirements to trigger market uptakeare different in these situations.

Under the scenario of marginal performance advance, a reliablysustainable performance boost of at least 50% compared to apredecessor technology in at least one attribute of primary importanceis usually required to provoke serious consideration of conversion. Alesser increment is usually deemed too small for users to justifyincurring the cost and risk of utilizing something unproven.Furthermore, the 50% minimum boost must be coupled with at leastsome improvements in other primary attributes, virtually nodegradation in primary attributes, and only minimal negatives, if any,in secondary characteristics. If related costs and inconvenience areminimally different from the incumbent technology, a 50%performance advance in a primary parameter from a new technology isusually sufficient to trigger adoption.

The second selection situation requires a larger performance increment.It is where the customer will experience significant tradeoffs usingnew technology compared to the incumbent. An order-of-magnitudeenhancement in at least one primary product attribute is typicallyrequired to achieve significant uptake. The dimensions of cost andconvenience that can impose the trade-off include: price, performance,service, security of supply, and ease-of-use. The test of foreseeablesuccess within this performance profile is whether the breakthrough issufficient to create or carve-out a new usage model segment, despiteshortcomings on some traditional measures. Anything less than astunning breakthrough in one area that creates new ways of using theproduct, in the face of significant shortcomings in other attributes,usually leaves the bulk of the market with enough reason to avoid thenew.

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Reluctance toward novel technology that imposes some set-backs canbe deceptive at the outset. Prospective customers often expressenthusiasm for innovation that offers advantages when asked at anearly conversational stage. They may do so despite acknowledgedweaknesses, since there is little tangible cost. Most people want tostimulate the availability of alternatives when they incur little expense.Early users may even jump on board, despite performance shortfalls,further building ill-fated belief in large-scale future selection.Adoption can stall with mainstream users because of shortfalls againstthe incumbent. Even with early encouraging signs of usage, thecriteria for longer-term and larger success is to deliver benefits intocustomer hands that are game-changing positive in at least one majorrespect. This is the most reliable way to achieve significant, sustainedadoption of breakthrough technology.

Trading-Off Among Development Time, Cost and Performance

Whether looking at the breakthrough or incremental advance conditionwhen approaching a replacement market, both profiles of adoptionsuccess have a strong influence on R&D and product developmentchoices. Exchanges between schedule, budget and performancefluctuate, adapting to new information during development.Sometimes R&D gets cut short and product ushered out to market.Often, development is hurried to the point performance declinesappreciably compared with initial targets. When this happens, theproduct can be left in an infant state, short of the capability profileneeded to unlock targeted user volumes.

When development needs to be curtailed, it is better to narrow theinitial application focus with a reduced configuration of product thatstill resoundingly meets the needs of a more select initial user base. Inother words, under budgetary or schedule pressures, revisit thequestion, “What is the minimum complexity product and service thatwe can productively sell that embodies our core technology andsustainable competitive differentiation?”

After accommodating performance as an onset condition of success inreplacement markets, a second development issue is time. An agent of

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a new paradigm needs the will and the means to wait a considerablelength of time for the market to start to transition, particularly if theproduct has appreciable shortcomings compared to establishedexpectations. The issues for users and complementors associated withmoving to a new technology, whether they are technical or business innature, dampen the adoption rate of the successor. Frequently,transition times for new technologies are forecast aggressively, only tobe extended as a conservative market waits to climb on board andcompetitors tune up their wares in response to the interlocutor.Customer and complementor thinking also mature during a gradualramp-up period, potentially requiring newcomer product configurationiteration, if not enabling technology refinement.

To crack the code to pull in the mainstream of targeted users, two tothree full product development generations can be required.Significant adoption cannot be relied upon unless developmentcapacity for three product iterations is available to achieve requiredlevels of performance, and alignment of complementary products andservices. The company offering replacement technology must havethe ability to wait out a protracting delay, and keep up with evolvingrequirements to achieve sufficient product performance. A sputteringadoption pattern cannot be reliably overcome otherwise because ofmarketplace evolution.

Another reason for hesitating early adoption of product and service isthe impossibility of fully predicting people’s reactions whendiscussing the hypothetical. Even presenting a product that fullymeets described requirements from earlier discussions with targetusers, deployment in a full range of real-world conditions exposescomplexities that are difficult to identify beforehand. It takes time anddevelopment bandwidth to accommodate new findings. Without theresources to sustain a two to three generation development, the effortput into attempting to capture a market with new technology can beirretrievably lost - much work wasted for lack of will or means to domore.

To get the best perspective on the delicate early days going to areplacement market with new technology, it is advisable to locateexpertise on selling to the same market or a similar one with

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replacement technology. Experience illuminates surprise requirementsand dynamics from past forays. The wisdom forged in priorparticipation highlights likely investments and navigation skills at adepth beyond what can be extracted or discerned from conversationwith potential customers and partners. Every industry has its own setof norms and biases. There is always more to the requirements for theproduct and its support than are first evident. This is particularly truefor mission critical and liability sensitive industries that have a bigdown side if the new technology fails to meet requirements. Aseasoned inside view of going into the same market is valuable.

Breaking Juggernauts

The most difficult replacement challenge is displacing a juggernauttechnology. It is one of such broad appeal to pervasively hold targetmarkets. Dominant technologies have proven appeal for thepreponderance of their audience.

Many times, markets presently controlled by a limited number ofsuppliers or technological solutions are especially enticing totechnology-centric new entrants. A commanding market position ofpresent suppliers often means incumbents get by advancing thetechnology they offer to customers at a slower rate than wouldotherwise be the case. Over time, the technology gap grows betweenthe level of performance and quality that is possible, and what isreadily available to buyers.

A technology-based new vendor to the application identifies theopportunity to exploit the gap, delivering more advanced technologyto carve out a market position. While the entrepreneurial opening andend-customer impact may be real from a technological perspective,there are other acute forces to weigh in a balanced market entrydecision. Distribution is often a powerful point of control, especiallywith physical products or ones intensive in hands-on service. Brandequity, customer relationships and other legacy assets can also berobust sustaining assets of a hegemony incumbent or oligopoly for anupstart to overcome.

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A strong majority of market power concentrated in one technology,product, supplier, or oligopoly usually means that the majority of userneeds are economically met with existing products and technology.Left unsatisfied, there would be more fragmentation of suppliers anddiffering technological approaches to serving customers.

The net result is that replacement market challenges for a newcomerare amplified under the juggernaut incumbency condition, because theneeds of such a large swath of the target user base are beingsufficiently met with a narrow range of product and services. For aprospective entrant, the bottom line is that virtually no performance orother product attribute compromises can be tolerated when anincumbent technology has such powerful advantages as to achieve70% or greater market share. Basically, all benefits of the old must bepreserved, and the market’s significant concerns or costs with the oldsubstantially improved.

Such a stiff adoption threshold can come as a shock to companies frombeginnings in niche markets. In more fragmented markets, a fewsignificant benefits are often enough to develop sales volume, evenwith marginal tradeoffs compared to the technologies used inmainstream markets. The dissonance between niche experience andmainstream reality arises from growth of the business. The need forlarger target markets to sustain growth at increased size bringscompanies with a legacy of supplying niche sectors face-to-face withthe dynamics of breaking the hammer lock of a pervasive incumbent ina bigger, more homogeneous selling environment. Past experience inniche markets can be misguided to the success drivers in a larger,cohesive target industry.

The goal of replacing a pervasive technology has particularly stronginfluence on product development program choices. The conventionalpursuit of fast time-to-market is often wrong in the case of upstaging ajuggernaut. Expedited development is especially dangerous if as aresult product capability falls below that of the incumbent in somerespects. The performance of challenger technology has to be withoutperformance compromises compared to the incumbent, especiallywhen the challenger technology requires rapid adoption.Shortcomings play to the incumbent. Deficiencies allow traditional

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suppliers to sow fear, uncertainty and doubt about the new player inthe minds of customers and partners. Unlike more competitivelydiverse situations, time-to-market comes a more distant second as adevelopment priority compared to performance when entering marketsunder the pervasive hold of an incumbent or oligopoly.

Upstaging a stranglehold demands uncompromising performancecompared to the incumbent and significant new benefits. Thechallenger can leave little reason for the market to retain theincumbent. The incumbent has the momentum of history, sufficientperformance, and an arsenal of non-technological assets to influencethe majority of the user base to maintain its position if there is anyweakness or indecision about the successor candidate.

Expanding Share within Established Markets

There are a few ways to size up the risk and reward of a potentialopportunity for expansion into proven, mature markets. Theseaugment traditional strategic and marketing analysis:

1. The financing heuristic is: to gain a dollar of annual revenue in anestablished market requires investing one dollar in start-up, unlessthe attacker has significant leverage from incoming technology,market access, or operational skill, to reduce the scale ofinvestment.

2. Pick fights carefully, and be sure to have the resources to stay inthe fight until the end. To have to walk away part way throughusually results in virtually no gain, significant unrecoverable costs,and potentially large opportunity cost.

3. A conventional requirement is to be able to achieve 15% to 25%market share to be able to stay in the ring with larger players.Smaller share risks failing to achieve critical mass and sufficientecosystem influence. The goal should be to achieve #1 or a strong#2 position in any market. Profitability is the ultimate measure ofsuccess and staying power. Most industries exhibit the characteristicthat more than 75% of the total profit pool is captured by the top twoplayers.

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4. The IP barriers to entry for an established market may be unusuallyhigh, and must be assessed. IP barriers can rapidly undo anotherwise sound technology and marketing strategy for entering anestablished market.

Pursuing Emerging Applications

In contrast to a mature market, an emerging market has fewerexpectations. Embryonic applications can adopt technology andproducts in a less refined state - particularly moving away fromconsumer applications toward more specialized scientific andindustrial uses. Comparatively less consuming forays into emergingmarkets are possible than for an established one. Faster, lower costprobe-and-learn exercises can be carried out, allowing the supplier tomore nimbly track the characteristically turbulent requirements of anemerging market.

Formative environments favour the most agile businesses, which areusually the small ones. Furthermore, entering markets when they arenew is critical for those companies that do not have the financing,personnel and technology to attack more mature markets andcompetitors.

For the small firm, potential rewards in an emerging market are largeif the concept catches on. But, the risk is also significant becauserequirements and the total value proposition that will unfold forcustomers are not entirely discernible. Furthermore, a long marketmaturation time opens the possibility of alternate technology beingadopted, or underlying forces changing the emerging market as itdevelops, so that the potential opportunity can disappear or reform inan unexpected state.

To give the best chance of success, the canon of establishing a newmarket is to remove the dominant constraints on adoption and growth.These can be enabling prices, technical performance, interoperability,or other characteristics of sufficient compulsion to trigger widespreadadoption. Moreover, upstarts should focus as much as possible on

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system-level solutions, rather than components. Insurgents need tosolve as much of the problem as they can. Component innovations areless successful than breakthroughs in system architecture, althoughsystem architecture breakthroughs can be embodied or controlledthrough suitable component products.

Addressing Fragmented Markets

The most cohesive market to pursue is a large one that can utilize asingle product or a limited number of products. However, many hightechnology markets are fragmented, serving a range of applicationsand specifications.

Whether a diversified market is the basis for an entire business, or pathto extend an established business from a more consolidated historicalcore, there are several product- and technology-centric traits forwinning in fragmented markets. The success factors arise out ofrespecting the relatively limited market size in a given time period forindividual product offerings in a heterogeneous marketplace:

Long Product Life Cycles. When a product is unlikely to havelarge usage volume in the short-term, it needs longevity to recoupdevelopment and introduction costs. Durable products often serveas components, and interface with the exterior world of thesystems they’re embedded within. Taking the form of componentsenables deployment in many systems and usage models over time.Also, as boundary components they interact with physicalproperties and interfaces where throughput and accuracyrequirements do not change as rapidly as many types oftechnologies. This way, system architectures can be updated, evenif select enabling components do not need to advance as rapidly.Long-term relevance improves by defining capabilities with ascope of functionality and interfaces to allow re-use in multiplesystem platforms, applications, and product generations.

Capacity for Product Life Cycle Extensions. Perpetuation isenhanced when products are designed to adapt over time to providelife-cycle extensions with low incremental development cost.

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Extended relevance measures include: performance enhancingtweaks, cost-reduced versions (through reduced configuration orscreening); lower resource demands in the component’s operatingenvironment; and, greater flexibility and tolerance to operatingcircumstances.

Secure Long-Term Produce-ability. Long lived products’underlying technology and manufacturing platforms need securelong-term availability, and adaptability to likely changes inperformance or availability of contributing inputs.

Barriers to Entry. As part of assuring a long-term payback, awide ranging product portfolio is generally one needing significanttrade secrecy or rare and proprietary resources that contribute tothe enabling technology. The more imitation can be suppressedthrough trade secrecy protection of enabling IP and unique assets,the less competition develops with time, and the more likely thatpricing power and profitability can hold up to achieve a strongreturn on investment. Also, the more customers rely on a range ofparameters, rather than just one or a few, the less frequently aproduct can be upstaged on all fronts by competitors. A range offunctions, applications and specifications helps to limitcompatibility of alternative products, providing a competitivehurdle.

Design Complexity. A related barrier to entry that helps tominimize low-cost competition is devising design methods thatutilize a fair dose of art, and not just formula-driven science or analgorithm to reduce the functional concept to its finalimplementation. As design and implementation come to rely moreon human expertise, and are less dictated by the design tools orlibraries of standard contributing cells, the threat of low-costcompetition diminishes. Furthermore, deep applicationsknowledge of system-level performance issues, and insights aboutthe interfaces between the component and the system it contributesto, help lift the potential for innovation and defensibility.

Barriers to Exit. Customer reliance upon proprietarydevelopment or usage tools for a component technology helps lock

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them in. Particularly in fragmented markets, where new usagesituations arise regularly for components even with a singlecustomer, attachment to unique support tools helps create bindingpower to keep competitors at bay. Proprietary adoption toolsprovide a barrier to displacement, especially by challengers thatwould attempt a commodity dumping strategy.

Pricing Strength. Pricing and margins tend to hold up when thecontribution of component technologies correlates strongly withend-system performance and differentiation.

Low Cost Development and Production. To support theproliferation of designs, both development and production costsneed to be held in check. A leading factor for suppressing designand production cost is to try to use low cost or depreciated capitalassets. Also, significant platform commonality in design andproduction assist in rapid and cost-effective creation of derivativeproducts. In the case of manufactured goods, low cost productionusually also requires an ability to manufacture in a trailing-edgeenvironment. The desirable twist on the overall theme of laggingmanufacturing technology is to make a few selective areas oftechnology leadership from which to generate rare IP, defensibility,and product performance in the most leveraged and re-purpose-able areas. As low cost development and production is attained,the business can try out a wider diversity of approaches toservicing target markets. The result is easier learning andadaptation to technology and market conditions, even to theextreme of trial-and-error approaches.

Steadily Target New Applications. Efficient expansion of use,particularly to embryonic applications, starts with building blocks.When an application is new, it is difficult to know how customersare going to use a component or drive the volumes. A portfolio ofenabling building blocks gets customers on board as a startingpoint, offering a horizontal technology engine that can be tailoredto individual needs. IP and technological differentiation are thenimproved in specific areas most relevant to promising applications.Finally, more and more of the system concept is embodied in the

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component technology, consistent with the model for developmentand production cost to which the business adheres.

Longevity, defensibility, and cost-effectiveness of development andproduction all help create an environment to succeed in fragmentedmarketplaces. The other element of winning in diversified industriesis the financial monitoring and control one of cost accounting. With alarge number of products and customers, the cost of developing,maintaining and supporting each can vary considerably. As well, eachproduct’s cost can change significantly during its life-cycle because ofvolume, evolving usage modes, or changes in base technologies. Witha large number of products and long life-cycles, product-level costaccounting is an essential navigating tool. Financial reporting withheterogeneous product lines needs to be able to track current costsrealizing and sustaining each product, as well as supporting businessprocesses and IT infrastructure for product- and customer-level profitand loss monitoring.

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Navigating Dynamic Markets

Using Market Volatility to Build Share

The most opportune time to build market share is in a general industrydown cycle. During bad times, those that continue to invest inadvancing technology, solutions, and market share do so when mostcompetitors are in a predominantly defensive stance. Resistance islower, and share can be gained faster. Opportunistic positioninggenerates superior growth during the next upswing.

The dominant challenge of using market volatility to increase growthis structuring core capabilities and costs. The trick is to be able tosustain aggressive investments in the most leveraged anddifferentiating capabilities, even while the business is in a downswing.Consistency is important. It is very tough to build a technologycompany if every downdraft requires severe changes. The enterpriseneeds to be able to thrive through business cycles without setting asidethe most important strategies.

With suitably defined and managed core competencies, plus efficientoutsourcing of non-core activities, targeted investment can more easilycontinue through difficult conditions. In a technology-driven business,continuing investment areas always include research, development andproduct engineering. Additional differentiating activities may also beincluded as core during a downturn, depending on the competitivecharacter of the business.

Higher margins than competitors from a technology- and market-leadership position also contribute to preserving spending flexibility.So does a hyper-competitive outlook and unwavering enthusiasmabout the target market. These extinguish any sense of complacency,even when the near future looks rough, to keep up market- andtechnology-leadership.

Technology leadership plays a role in another way to sustaininvestments in a downswing. Old technology typically takes

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disproportionately large blows during a slow-down. Customerpurchases in times of trouble usually shift toward technology upgrades.Customers in difficult circumstances want to enhance positioningthrough improved performance and rapid payback with selecttechnology advances. They generally will not pursue capacityexpansions or other more brute force motivations in product or servicepurchases that might favour the old. During a downturn, technologyleaders are most likely to preserve revenue, and thus enjoy simpleroptions for sustaining competitiveness-enhancing investment.

The victors in downturns return to sound strategy, if they ever strayed.They rededicate themselves to the ways the company is unique, andhow it can offer a value package that is distinct and sustainable.Peripheral activities of low strategic significance, which may havegone unnoticed during better times when growth and enthusiasmmasked shortcomings, should be abandoned. A slowdown is when tomake changes that would be difficult during better times. Across theboard cuts are a sign of weak management and squandered opportunity.Cuts should be selective, removing the weak to protect thestrategically strong, and move the company toward a more competitive,differentiated, and enduring position.

As part of the return to strategic priorities, winners in downturns focuson core markets. Some would prefer to hedge bets in toughcircumstances with typical diversification – entering new businesseswith little chance of achieving market leadership and efficiency,hoping that winners will offset losers. But, this type of diversificationdilutes the company, and makes circumstances more volatile ratherthan less. Winners reinforce the primary business in downturns.

Downturn opportunists buttress the core through internal investment,as well as with external acquisitions. Conventional wisdom is toforego acquisitions during general industry down-cycles, on theargument that they are risky because companies that are available andaffordable are often in trouble, and could pull down an acquirer thatitself may be in a fragile state. However, acquisitions that strengthenthe main business (as opposed to ones that create inefficient,unfocused diversification) are an asset in a downturn. Downturn

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winners don’t stop spending on acquisitions in a down-cycle; theyspend on bargains to further reinforce the core business.

There are several additional tactical considerations to help managedownswings to exploit subsequent upswings:

Prepare Leading indicators of economic performance signalmonths ahead of time when it is becoming more likely that amarketplace will go soft. During the earliest stage when indicatorssignal potential trouble ahead, before a slowdown has materialized,is when much business damage often gets done. The usual formsof damage are misguided investments, hiring, ill-advised capitalexpenditures and inventory build-ups. These kinds of resourceallocations should come under closer attention and conservation aswarning signs suggest a softening outlook.

Covet cash Cash is king. A business cannot go under if it has cash.The more cash it has, the more options it has. During tough times,cash may be tough to raise through debt or equity. Raise capitalduring good times, and exploit the balance sheet during bad times.The balance sheet is a reservoir that can be wrung-out during adownswing to release cash, from places like inventory.

Attend to the balance sheet As the slowdown takes hold andtrouble deepens, the more important it becomes to focus on thebalance sheet. A cash flow driven turnaround is unlikely to workfast enough in circumstances so treacherous that the company’sviability is at risk. Realizing value from current assets is often thebest way to rescue the situation if difficulties become severe.

Retain the resources to respond to the upturn when it comesThis applies to people, physical assets and finances. The value ofenduring the downturn comes during the subsequent upturn. Thebusiness needs to both reach the upturn, and exploit it, to capturethe bounty of the downturn’s stress.

Anticipate the severity of the downturn Gauging the appropriateresources to retain in a slowdown depends on the degree to whichthe industry became overstretched during the up-cycle. Shedding

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too many resources loses knowledge and assets unnecessarily.Parting ways with too few consumes precious cash withinsufficient payback. Forecasting factors to consider about thelikely depth and duration of a down-stroke include:

Historical volatility and recovery time of end-markets

Degree of growth and duration of the preceding expansion.Longer and larger expansions typically introduce greaterintertwined excesses to work off before a consistent recoverycan get underway

The number of links in the market chain to ultimate customerdemand. Each link offers a cascading amplification factorcompared to real end demand that adds to the time for acorrection to fully settle out

The relative ease with which industry participants could accessinvestment capital during recently departed good times,compared with average times. Sources of capital to considerinclude vendor financing, the state of private- and public-capital markets, and cash generation of industry players. Themore readily capital was available, the more overblown thegood times likely were, and the longer things will take tounwind

Deepen relationships Take advantage of time moving a bit moreslowly in a downturn. Use this time wisely. A slowdown is anopportunity for salespeople and executives to spend more timewith the most active and promising customers and betterunderstand them. Instead of the frenzy of filling orders of theupswing, the downswing is a more natural time to build lastingrelationships. A similar argument applies to other supportingplayers in the eco-system, such as suppliers and complementors.

Recruit Use the improved availability of high quality talent on theemployment market in a slowdown to strengthen sales, engineeringand management. It is much harder to find and attract the bestexecutives, R&D staff, and salespeople when times are good. A


better skill level can be brought into the business, and usually moreeconomically, by bringing in key management and staff whentimes are slow.

Consider leapfrogging a generation of technology, to get aheadof the competition. Skipping a generation of technology may seemcounterintuitive. But, if the next generation of technology to bedeveloped is projected to come to market at a time when fewcustomers would be buying, skipping to the following generationcan save significantly on total R&D expense. A technologygeneration leapfrogging tactic during tough times can put abusiness ahead of its peers at the end of a downturn, by deliveringmore advanced products when the market is vibrant, and loweringtotal R&D investment.

Don’t accept a downturn as fait accomplit. New applicationsand approaches can still drive growth, even in a down market.

Look for incremental opportunities in products or technologywith a rapid return on investment for users. Customer investmentsin difficult times often shift to items with the greatest certainty offast payback. Instead of seeking disruptive technologies,especially those with untested usage models, customer priorities intough market conditions often come back to products and servicesthat quickly and clearly augment existing business models.

Communicate more, especially with employees. Someexecutives would rather clam up when times are tough. But, ifthings are bad, employees know. You’re not making things anyworse by going out and talking to them. A downturn is anopportunity to bond and create a sense of shared mission. Apositive, clear mission in times of distress is a major advantagewhen rivals may be wavering. It is an antidote to fears amongemployees and partners that instils confidence and keeps thebusiness moving forward. Sticking together in times of troublegalvanises the organization and makes it much stronger throughfuture good times and bad.

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Treat business partners and vendors as team mates, striving forproductivity gains. The conventional approach in a downturn is todemand price reductions from suppliers and partners. Yet, thevalue of a small price cut is often more than offset by reducedmorale, co-operation and productivity from those partners in thefuture. A more valuable and enduring approach is to work withthem in a down-cycle to gain efficiency, by eliminating duplicateoperations, improving cycle times, lowering inventories, andimproving forecasting, to generate costs savings that will be shared.

Resist price erosion Be cautious about giving in to pricereductions for bottom feeding customers. In weak conditions,some customers will increase the pressure on vendors to reduceprices. With an already weak order book, the financially pressedare most likely to succumb. However, reduced pricingexpectations in the marketplace may be difficult to reverse duringsubsequent upturns, causing lasting erosion of margins.

Re-focus on integrity in financial reporting and goals Upmarkets can cause companies to try to make good news appeareven better in order to stand out. This is often done with creativefinancial reporting. Financial goals become partially decoupledfrom fundamental business performance. To put things back ontrack, poor financial results in an overall landscape of weakfinancial performance are the best conditions to make adjustmentsin goals and reporting to increase their integrity. High qualityfinancial reporting and goals present a less distorted picture formanagers and investors in the future, to clear up the way thebusiness is viewed.

If outright misstatement of financial performance is suspected, themost frequent culprits are revenue recognition and overstatedassets. Typical revenue representation problems are premature orfictitious recognition. Asset overstatements often come fromcapitalizing items that should be expensed; overvaluing inventory,plant, equipment and other assets; and, under-representingallowances for receivables and warranty.


Ability to consistently and advantageously exploit general industrydownswings is a defining trait for companies that develop an enduringstakeholder image for being well managed. The aura of resiliency andopportunity becomes self-reinforcing as the company attracts strongerpartners, and gains greater tolerance to setbacks than peers through theloyalty of employees, suppliers, and customers. Together, inspiringconfidence in others along with flexibility to sustain competitivenessinvestments help exploit volatility to build market share and increasegrowth. For the strong, the worse the general market gets in the near-term, the better it becomes later.

The up cycle has its own challenges for executing properly, andmaximizing growth. Down cycles though are more about strategy,alignment, and evaluating performance of the business in key areas. Adown stroke is a time to plant the seeds of improvement. Areas toconsider getting ahead in when time is moving more slowly includethe product line, M&A, management and staff, business processes, andeven the business model itself.

The ultimate strategy for cyclical downturns is to use the downswingas the time to enter related, new markets. The down stroke is whenentry barriers are lowest. In comparison, a new marketplace entrantduring an upturn faces rising investment from competitors, risingproduction and R&D, human capital that is fully utilized andeffectively not available, as well as overall prosperity from establishedfirms. Despite the attraction of rising prices and demand during boomtimes, an upturn is the worst time to mount a challenge as aninterlocutor. Downturns are when resources in talent and technologycome available. General industry downdrafts provide the best resourceleverage opportunities for firms that have the preparation, means, andtiming to take advantage of them for entry.

Leading Indicators of Slowing Demand

For marketplaces that follow the broader economy, leading indicatorsof a coming slowdown include Treasury yield curve, oil prices, copperfutures, and the stock prices of bell weather companies in the sector.

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An inverted yield curve, where short-term maturity Treasurynotes bear higher yields than longer term ones (typicallycomparing two year vs. ten year), indicates an expectation ofinterest rate cuts to stimulate a slowing economy. Inversion is arare condition. Under normal circumstances for major central bankTreasuries long maturity notes should bear higher rates than shortterm ones because of higher risk inherent over a longer period.

Slackening oil prices frequently reflect in part an expectation of aslowing rate of growth in demand due to declining economicgrowth.

Copper future prices. Copper is sometimes called the “professormetal” as it is used proportionally in the major sectors of theeconomy. Copper is more reflective than other commodity metalsin this respect. Copper is used in residential, business, andgovernment construction. It is employed in consumer andindustrial products, both discretionary and capital equipment.Significant new supplies take years to develop. Major trends in theprices of copper futures tend to correlate with the outlook for theoverall economy.

Stock prices of bell weather companies tend to do a reasonablejob of looking ahead three to six months.

Additional leading guidance arises from GDP. With the majority ofGDP tied to consumer spending, measures of changing consumerspending are usually a vantage point for the broader economy’soutlook.

Another forecasting tool is extended periods of slowing growth.Significant marketplace deterioration often follows a prelude stagewith reduced rates of expansion, prior to more severe drops.


Push Marketing

A maturing technology-driven company needs a vehicle for customertesting of unproven, but potentially promising concepts. Thispreserves the ability to be creative in the marketplace, so that ideas arenot prematurely and detrimentally frozen. Without the capability toprospect, the ability to sense what is possible is lost. Lacking capacityto test dreams, chances for creating sustained, dramatic growthdiminish.

Prospecting by pushing products into the selling arena is the marketinganalogue of the long-term R&D function. It is where high-risk, oftendiscontinuous, technology, product or market concept trial balloonscan be dispatched. This is central to the ability to make hedge-bets onfuture tectonic shifts in the competitive environment, so that requiredchanges in company direction can be established sufficiently ahead oftime. When any technology, product or market concepts are radicallydifferent from established expectations, customer valuation of productcharacteristics cannot be entirely anticipated. The most meaningfulmarket feedback can only be obtained when potential customers havegotten their hands on a real embodiment of the product concept, toevaluate it for themselves in their own circumstances. Substantialinvestments in the development of discontinuous technologies requirea corresponding investment in advanced marketing activities. Thesespan scoping-out of prospective markets, through concept-productdefinition, to customer evaluation management, and include budgetingfor pricing, promotion, distribution, and service tests.

The import of pushing products to the marketplace means amechanism is required to stay in direct contact with the end market,even if this is not usually a prime consideration for day-to-dayoperations.

Protecting IP is often a major concern when doing missionarymarketing. In consumer markets, there may be little choice but toaccept information leakage risk as the price of gaining user feedbackbecause of the relatively large sample sizes required to gain ameaningful statistical sample. In industrial markets, smaller samplesizes afford greater opportunity to maintain confidentiality of

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advanced information. Provisions such as confidentiality agreementsshould be in place to provide some protection, but it is most importantto work with trustworthy customers who value this access to earlyinformation, and feel a sense of obligation.

Sustaining Push Marketing of Advanced Technology in Maturity

Promoting ultra-advanced technology, defined as technology farbeyond conventional usage, requires special considerations as themarket is composed only of early adopters. It is also typically highlyfragmented. Emerging marketplace customers will usually not haveyet evolved to consistent requirements. In some cases, they are noteven well considered. Performance needs, adoption patterns, salesvolumes and overall probabilities of success are almost impossible tomeaningfully predict.

Market feedback information in such a landscape helps to test instinctsand assumptions about the potential reward. This data about marketacceptance of advanced technology also helps to identify both risk andopportunity that may not have been evident from cursory consideration.However, the speculative circumstance of ultra-advanced technologywill almost always come down to a bold moment of vision, belief andcommitment. To continue to grow and prosper in high technology, onemust be able to accept such risks and move forward.

This is not easy in growing organizations that naturally tend towardformal operating processes, and ever-more conservative attitudes aboutrisk. A strictly analytical approach becomes debilitating. A risk-taking attitude must be actively championed to retain theorganizational mettle to bring advanced technologies to market in theface of significant risk. Analytical market assessment must bebalanced with market- and technology-savvy insight, and the ability toact on well-founded intuition.

The penultimate ingredient is to keep experiments efficient by beingquick, cheap and learning fast. The minimum saleable form of productshould go out to users as rapidly as possible, and evolve at highvelocity.


The ultimate success factor is to maintain discipline curtailing failures.Mainly, this comes down to steering ongoing investment away fromprojects that objectively are not gaining traction. Stop-loss thresholdsfrom the outset help keep emotion and bias out of decisions aboutwhether to continue investment in struggling efforts.

Instinctively, the marketing department is not the source of somereally innovative solution concepts. This is contrary to the structuredapproach to product definition and development that successfulcompanies evolve to for much of their development activity.Engineering needs a strong voice in creating the most radical andinnovative products, both product developers as well as manufacturingprocess people. Responding solely to customers diminishescompetitive advantage since competitors can source the sameinformation. Customers may be unwilling or unable to envisionradically better ways of doing things. As part of the long term recipefor success, the most aggressive technologies and solution conceptsbuild upon the discernable needs of the target market, as well asenthusiastic anticipation of future needs with technology push, toculminate in push marketing of ultra-advanced technology.

Marketing Metrics

Measures of marketing performance range from qualitative andsubjective for the start-up, to statistical and psychometric for theestablished firm. Regardless of the company’s state of development,there are several metrics that indicate marketing performance. These aredefined below. Also described are select unintended consequences, tohighlight typical concerns measuring marketing performance.

Market Orientation

Marketplace awareness is built into the business’ strategy andoperating processes when evidenced by systematic collection,analysis, dissemination, and use of market information.

Market Share

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Market share tends to correlate strongly with cash flow and profit.The unintended consequence is that overly competitive pursuit ofmarket share can be counter-productive to profitable decisionmaking.

If market share is changing, answer the following questions to helpguide marketing and overall strategic planning:

When we win share, why do we win? When we lose share, why do we lose?

Customer Satisfaction

Improved customer satisfaction generally leads to increased revenueand even larger profit expansion due to lowered marketing costs.Further benefit is usually due to high correlation between levels ofcustomer satisfaction, and financial performance indicators likereturn on assets and return on equity.

Satisfaction factors to survey typically include:

Ease of doing business Compatibility of terms and conditions of license or sale Knowledge and capability of the sales force Responsiveness, defined as the times required to fill a customer

request for quotation, order, or service Ease of implementation Functionality, utility, and performance of the product Confidence the vendor will provide sufficiently advanced

technology in the future Quality of the product, support (technical, commercial, logistical)

and documentation Price satisfaction Contentment with the vendor’s customer focus

Investigating these areas helps to understand what customers aredoing and thinking. In particular, responses highlight changes inmarketing strategy and tactics that will best drive revenue growthand profit. Organizing findings by customer size, customer position


in the market web, application market, geography, and otherdelineations help to sharpen focus on performance areas that aregoing well, and others that are candidates for improvement.

Surveys are part of assessing customer satisfaction, but rarely give allthe data to fully read the situation. Customer visits complete thepicture, and talking not just with customers in consistent or risingorder patterns, but declining or defecting ones too. Visits help tounderstand what can be done better, and above all, to get a sense ifeach customer would recommend to a friend the products or servicesthey are receiving. Willingness to refer to a friend is in many waysthe ultimate test of customer satisfaction.

An occasional issue with measuring customer satisfaction is the errorof including outlier customers that are not consistent with the firm’sstrategic outlook. In such cases, high satisfaction can be a sign ofimproperly invested resources. Customer satisfaction trackingshould be viewed in the context of changes in target markets, beforecommitting to actions aimed at improving satisfaction.

Customer Loyalty

Loyalty is usually monitored by tracking the following threemeasures:

1) Revenue generated in each time period2) Cost of servicing and retaining in each time period3) Length of retention

These inputs help identify the most desirable customers, how wellthey are being engaged, and what it takes to hold onto them.

Customer loyalty cost information in particular helps guide choicesabout increasing customer satisfaction. Cost awareness contributesto deciding if enhanced customer service standards will createenough switching or retention to justify higher expense.

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Brand Equity

Strong brands allow firms to: charge price premiums over unbrandedor poorly branded products; extend the company’s business moreeasily into other product categories; and, reduce perceived risk forcustomers and partners, as well as employees and investors.Measuring brand equity shows how well the company’s strategy,marketing activities and expenditures match awareness in themarketplace. Knowledge of brand strength and consistency helpsdetermine the right amount of spending on promotions, andinvestments in other parts of the business, to meet brand strengthobjectives.

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Ecosystem Relationships

Recruiting Partners

Insurgent purveyors of new technology need to recruit partners whichare integral to the market web of the old paradigm. Those players,who have large investments in the old standard, usually need to beconvinced to adopt the new before a sweeping shift can take place.Demonstrated willingness to change by those with so much at stake inthe old technology greatly facilitates market acceptance of the new. Itis an endorsement that carries a lot of weight.

Partners are best chosen that provide not only deployment know-howfor the new, but also the ability to visibly and strongly penetrate themarket. Lacking such influential partners, strong resistance to changecan be expected from the mainstream of the target market, as well asimpaired access to the more prominent distribution channels.

The pitfall securing partners from the status quo is if their agenda is tonominally embrace the new technology to gain restricted access, andthen nefariously use their position to hold it up to extend the previousstate of competitive structure. Relationships need to be structured sothat there are clear obligations and incentives to promote the newtechnology in a manner beneficial to both producer and the partnerrecruited from the old paradigm. With proper deal structuring, the riskand impact of hold-up can be minimized, to successfully engage withinfluential partners that come from the predecessor technology.

A complementary technique to reduce partner hold-up risk is to workwith the second or third place player from the old order. Theseparticipants have something to win by welcoming innovation to gainmarket share, where their achievements were limited in the previouscompetitive alignment. In contrast, the largest players have the mostto lose if industry structure or competitive strength alters because ofnew technology. Nevertheless, there are rare cases when the largestplayer from the old order as a prospective partner will see the potentialof the upcoming, embrace it and promote it. But, powerful vested

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interests often impair such a pure response from the market leaderfrom the previous era. A strong number two or number three playeroften has better natural motivation to promote the new, while stillhaving the competitive scale to be efficient and successful as a partner.

Attracting partners and customers becomes easier after thebreakthrough when influential lead users in the mainstreammarketplace have adopted the new technology. At the breakoutjuncture, market push shifts toward market pull, when the followersjump on the bandwagon.

Setting Interoperability Standards

Most technology-based products and services do not exist in isolation.A given offering will usually need to interact with several relatedtechnologies as part of contributing effectively to a larger system ornetwork. Interoperability standards help to manage complexity,communication, and technological change. 6 Defined interactionprotocols assist in creating stability in technology-driven environments,accelerating development of new products among contributing playersin an industry ecosystem.

Most importantly, interoperability standards among adjacent systemelements broaden the appeal of new technologies. Defined interactionprotocols increase the rate of development of new applications, createflexibility, and improve the industry’s ability to exploit price-performance benefits. In contrast, a lack of standards keepsinteroperability intensive in engineering resources, imposing highfixed costs. Defined interfaces and standards that createinteroperability not only accelerate the adoption of new technologies;they expand the market and increase the chances for smaller firms tosucceed. The importance of standards formation for accelerating andlowering the cost of deploying new technology makes it a significantissue for many high-tech companies, both small and large.

6 “What’s Next for Google,” Ferguson, MIT Technology Review, January 2005

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The challenge though for small companies in particular is they usuallycannot independently define standards for a broad industry.Sometimes standardization is achieved through non-proprietary effortsmanaged by governments, standards bodies, or industry coalitions.

If a company wants to be a leader defining the interoperabilityprotocols for an industry, it will likely have to rely in part on theresources of others because of the size of the endeavour. The leadcompany must do just enough in development, applicationsengineering, production and marketing to attract desirable partners todo the rest. The way to do this is to provide persuasive financialopportunities for everyone. The trick, as the leading company thatwants to retain control of the emerging industry, is to specify andmaintain control over the central interfaces and standards thateveryone else will adopt, yet provide ample opportunity for productdifferentiation by other players.7

Where the core technology depends on contributions from multipleplayers, success is much more likely with layering rather than mergingof contributions. Layering retains a distinct identity to each donor’spiece, whereas merging does not. Merging technologies in multi-partyprotocols is difficult for several reasons: contributor ego that their wayis best, responsibilities to different shareholders, struggles for power,and finite governance capabilities for the interoperability core.Layering, with effort on integration and ease of use of the core, is themore probable formula for multi-party transfusions to aninteroperability body of technology.

The winning formula for standard architectures is one that isproprietary at its core and difficult to clone, but also externally open.An interoperability protocol should provide publicly accessibleinterfaces upon which a variety of applications can be constructed, oruses implemented, by independent vendors and users.

Defined interactions form the foundation for the activities of everyoneelse. In an environment of complex technologies, control of theinterfaces allows the leading company to preserve the most desirable

7 “Start-up,” Jerry Kaplan, Penguin, 1995

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and profitable elements of the overall system for itself, as well as theoption to generate licensing revenue from complementary players whoadopt the standard. Success defining key interfaces and attractingpartners provides the leading company a commanding position andusually also a substantial revenue stream. Control of the interfacesalso gives the steering company significant influence overimprovements and extensions, and has a large impact on futurestandards.

The spoils in standards battles are usually large. They are typicallywinner-take-all, which means that they are almost always brutal. Themore a market benefits from positive feedback based on networkeffects8 from adopting a standard, the harsher a standards fight usuallybecomes.9 Highly networked industries frequently see the winningarchitecture’s market share reach above 70%, whereas 40% marketshare is a traditional heuristic for the leader’s share in industries withonly light network effects. Companies and business units that loseprotocol battles in networked environments are more than twice aslikely to fail as those that win. The process of re-forming around adifferent standard is difficult for a player committed to an alternatemethod. Standards battles are not for the faint of heart or wallet.

To increase the chances of success promoting a standard, apply it in away that gives users convenience, but allows component and systemdesigners’ flexibility to create innovative designs. The model for anadoptable technical standard has three components. One is a workablekernel that people can easily add to. The second is a modular designso that people only need to understand the part that they want to workon. The third is a small, decisive team overseeing the standard to setguidelines and select the best ideas. Once all three elements are inplace, vendors working with the standard can pursue best-of-breedsolutions without having to assume responsibility for the entiresolution investment.

8 Network effect describes the value of networking, and the importance ofcompatibility with the network, both growing as the number of users, availableinformation, and services increase.9 “The Art of Standards Wars,” Shapiro and Varian, California Management Review,Winter 1999


Sincere focus on user convenience creates the environment for successwhen developing an interface standard. What users want isindependence from, or transparency to, variables in the system.Attention to user amenity eases adoption and implementation of astandard.

At the same time, vendors adopting an interoperability standard areoften concerned that the marketplace will be turned into a commodityenvironment. They fear that low-cost suppliers will take away themarket. Or, they dread the scenario that only the lowest commondenominator of performance can be agreed upon in the standard.These commoditization concerns are valid only if the convention isdefined poorly, in a way that limits the ability of vendors to innovateand maximize performance of their products. Well-definedspecifications do not impose such restrictions. Thoughtful standardsallow vendors to achieve high and differentiated levels of capability,so that the marketplace does not devolve prematurely to a commoditylandscape, or suffer from restricted performance. Enduringconventions foster competition among vendors, driving progress basedon compatibility.

It is sometimes difficult to draw the line in technology standardsbetween the common areas that are to be standardized, and the areas ofproprietary innovation and competition. The challenge indistinguishing between the two usually climbs the earlier in its lifecycle a technology concept or platform is when people try to defineinterfaces. If the common area becomes too large, there may not beenough room for different vendors to innovate. On the other hand, ifthe technology commons in the standard is too small, generating theentire solution remains intensive in engineering effort, and theefficiencies to be gained from interoperability weakened.

Reaching an economically effective standard that people cancomfortably settle on will be easier with firstly, a well-defined rangeof applications, and secondly, reasonable predictability of performanceand likely future advancements of the technology at its heart. Themore predictable the performance of the technology, the easier itbecomes for people to be decisive about the applications and value ofagreed upon interaction. When the target applications and economic

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compulsions from the protocol are clear, along with the opportunitiesand limitations of the enabling technology, it is much simpler todecide what should be in the technology commons, and what toreserve as areas of vendor innovation and competition. A technologythat has evolved to a predictable trajectory of performance, along witha clear notion of target applications that share many common traits,help form the environment in which interfaces can be set to enhanceinnovation.

To create longevity for an interoperation definition, exploit the likelyadvances of contributing technologies. The more a standard canevolve in tandem with improvements in surrounding technology, thelarger a following it can develop. Consider the example of Ethernet. Itwas originally designed in 1973 to send data at three megabits persecond, yet it has evolved to speeds beyond ten gigabits per second.The Ethernet protocol was created in a way that was able to takeadvantage of gains in computing power, keeping it relevant and strongby allowing it to move in step with related technology.10

Durability is also improved when a protocol does not presupposeaspects of interaction that are likely to evolve in unpredictable ways.Simplicity in the areas most likely to change keeps a standard flexible,to incorporate improvements without violating the fundamental design.Ethernet also serves as a model for adaptability. Part of Ethernet’ssuccess is attributable to flexibility of transmission medium. The wayEthernet was defined did not depend on a particular transmissionmedium. From copper wire to fibre optic cable to wireless, Ethernetwas able to adapt without reworking the core concept of the standard,creating sustainability and expanding appeal.

Broadening the applicability of a standard helps small players inparticular. The benefit of interoperability can be dramatic for thembecause it expands the accessible market. Interoperability is a threathowever to some smaller players who rely on the inefficiencies of anamorphous market for much of their competitive advantage. Theparadox for small players is that by designing in compliance withcompetitors’ products, business can be gained. The loss of business

10 “Ethernet:The Big Three-O,” The Economist, May 24th, 2003


from adoption of open standards is typically more than offset byincreased business from expansion of the overall industry, and accessto customers that would otherwise fear unrecoverable investments inclosed interfaces with a small player. Especially as an industrymatures, the benefits of compatibility often overtake those of isolation.Participating in industry standardization efforts can expand the marketfor smaller companies, often dramatically.

Furthermore, smaller players in an architecture convention formationeffort who provide strong input to the standard’s creation benefit fromdisproportionately high levels of exposure, industry networking, and alevelled playing field with larger players. Small players usually havemuch more to gain than they have to lose by participating in astandard’s definition and implementation.

The penetration and influence of a small player can magnify whenlarger players are slow initially to react to the coming demand forharmonization. The momentum of the status quo can lead entrenchedplayers to scepticism about the timing and onset of a newinteroperability requirement. Incumbents will often under-invest indeveloping capabilities with a new protocol, preferring a wait and seeattitude toward smaller players. Analysis and decision mechanisms inlarge organizations can withhold action, until evidence isincontrovertible that a new technical framework is taking hold. Whenthe power players do move, they tend to stampede to adopt the new.For the smaller player, the deficit of development effort by largerplayers in the early days of a new standard can spell opportunity. Asthe case for the new interoperability method becomes compelling,large players are often motivated to rapidly license or otherwiseacquire enabling technology from smaller players if buy vs. make issuperior. It often is at a late stage. The rush of majors to get on boardcan quickly build the newer company’s business and marketplacepresence after the initial period of hesitation abates.

To make the most of a standards initiative, proponents need a criticalmass of participants: a group with a shared view and resources torapidly drive a new standard to a commanding market position.Participants to attract go beyond competitors. Necessary collaboratorsare complementors and customers – especially large customers who

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can tip the balance with their purchase decisions. All of theconstituencies of suppliers, complementors, competitors andcustomers can be partners in the dynamic to set interfaces.

Markets are becoming increasingly networked as a result ofglobalization and communications technology. As networksstrengthen in markets, interdependency between players grows.Decision making about new interoperability protocols becomes moreinterconnected. Each participant will switch to a new convention onlywhen it believes others will do so too.

Especially for small companies, partners need to be ambitiouslyrecruited. Typically, the critical mass of industry participants consistsof the players who in aggregate hold, or will hold, 50% of the market.For small companies, this is a critical threshold of participationbecause a standard is of little value until all of the necessary pieces arein place to deliver new convenience or capabilities to the end market.

One of the positioning nuances for a smaller player building marketpresence is to deliver its offering as complementary, rather thencompetitive, to existing power players in the network. As largerplayers see themselves participating in the value of the new innovation,and generating increased returns from their existing infrastructure andinvestments, they are more likely to participate. Complementaryproduct positioning to the incumbents in an interconnectedmarketplace will give the smaller player an easier path to a widermarket.

In contrast to a smaller player, a company with dominant market shareis in a considerably different position where interoperability standardsare concerned. The biggest vendor in an industry can usually imposestandards on others. A disproportionately high number of smallerplayers will conform to align themselves with the leader to be part ofthe largest cohesive pool of business, and benefit from tag-alongeffects. Furthermore, for the largest player in an industry, theremaining business to be gained through open-ness is much smallerthan for the small company case. A dominant company will generallygain the most business by defining standards that best suit its interests,and encouraging others to follow.


Regardless of the promulgator’s size, to attract and then maintainattention from multiple players, speed counts. To assure relevance,standard writing needs to be much faster than the life cycle of theproducts employing it. Furthermore, fast design cycles and early dealswith pivotal customers help build a market position for a newinteroperability model quickly. Otherwise, the standardization pushcan languish, and risks then either factionalizing over time orbecoming technologically outdated.

To build an environment that fosters success, victory must be expectedby participants and customers. Anticipation often has a significantself-fulfilling component. Aggressive marketing, early productannouncements, prominent allies, and visible commitments to thetechnology all help to build expectations of success. An early air ofsuccess may be part illusion, but it is part fact as well in that itbecomes self-reinforcing.

To further increase the aura of success, and build confidence in aprotocol, the standard-setting company or industry body needs toprovide certification programs for third-party products. This is toassure conformance. Certification programs provide ongoing oversightand control, delivering reliability and sustainability.

The specification of performance, and not just architecture, has a lot ofinfluence on certifying conformance. Otherwise, important aspects ofperformance can be ambiguous or missed altogether, and harm theprotocol effort. The way performance is specified can hide as much asit reveals. Usually when forging standards, as much time needs to bespent on what is specified and particularly how, as is spent onarchitecture.

Another interoperability area that deserves attention is a non-technicalone. There are legal aspects of standards formation related tocompetition law that formation participants need to respect. Protocolshave to be constructed in a pro-competitive fashion, from thestandpoint of customers.11 Members in a standard-setting organization

11 http://www.ftc.gov/speeches/other/standardsetting.htm

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bear responsibility for their conduct as it relates to industrycompetition and any anti-competitive behaviour.

There are related legal issues surrounding individual intellectualproperty rights among participants that impact the protocol. Once apreliminary definition has crystallized, all participants should assert inwriting the IP rights (IPR) they hold that affect the standard. Up-frontdisplay is important as there are significant precedents penalizingbelated assertion of IPR in standards formation. Delayed IPRproclamation can be construed as an attempt to engage in an unfairmethod of competition or to monopolize a market. An IPrepresentation step puts everyone on notice that promoting protectedtechnology to the standard-setting body has to be with full disclosure.

Where declarations indicate no IP conflicts, the adoption phase cancommence with greater certainty that the standard will not be hijackedor ambushed by patent trolling.

If there are IP rights that members hold relevant to the envisionedstandard, determinations are then made about terms of that IP’s use toadopters. Often, a pool of IP held by standard-setting participants canbe created along with a universal licensing framework. Theframework should include cost, as well as terms and conditions oflicensure. With a licensing system in place for IP embodied in aninteroperability standard, users can gain clearance with a minimum oftime, expense, and uncertainty compared to negotiating withindividual IP rights holders.

Overall, when all is said and done with standards, what should neverdrop out of sight is that the difference between success and failure isthe product. Standards initiatives don’t create success, great productsdo. Product excellence sharply improves the chances of successsetting the interoperability standard that others will adopt, to driveinnovation, market adoption, and strategic influence.

In summary, an enduring interoperability standard has six traits:12

12 “Bob Metcalfe Interview”, Electronic Engineering Times, November 14, 2005


1) Wide industry involvement in formation and evolution

2) Implementations promote rivalry

3) Fierce competition among vendors, driving progress

4) Competition based on compatibility, so that buyers can choosevendors

5) Evolution based on market interaction, so the standard adaptsrapidly

6) High premium on backward and forward compatibility

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Industry Associations

Industry associations can be powerful bodies of change for the good.They are effective if nearly all significant players are members, andunanimously acknowledge at least one vital, ongoing issue requiringco-ordination. Typically, strong industry associations develop if mostplayers strategically depend upon at least one joint effort, such asshared future generation R&D, building a suitable labour pool,political lobbying, mutually agreed-upon standards, or product launchtiming.

Without pressure for cohesion and synchronisation, industry associationslack a sufficient unifying influence. They then tend to be less focused,and attract lower calibre participants. Weaker industry associations oftendevolve to a support group for participants seeking to legitimise theirimportance, instead of fulfilling strategic objectives. Absent issuesdemanding cohesion of the majority of the industry, secondary benefitsof association involvement will often be wrongly cited as primarymotivations: overall industry promotion, investor relations, networkingbetween complementary players, discussion of general industry trends,and competitive intelligence.

These are all useful by-products of affiliation, but active and prominentassociation is only called for if the success of the industry depends uponinter-tuned activities. This attracts critical mass for the association toendure and grow. A participating company is then in a position torealize sustained strategic value and legitimacy from its involvement,and affect meaningful directions for the broader industry.

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Growing Sales

There is a preferred model for building the sales team, sellinginfrastructure, and increasing revenue in an early-stage technologycompany or a new line of business. The same lessons carry over toenergizing sales in a recently augmented or renewed enterprise. Anorderly sequence constructing the sales organization is one matched tothe evolving maturity of technology, product and service delivery.Keeping sales personnel and process development in step with the restof operations promotes spryness, while keeping costs to minimumefficient levels.

Success Formula

There is a turning point in expanding sales. It comes around tenmillion dollars in annual turnover. The challenges in sales beforereaching ten million are distinct from the dominant pressures after.There is a kind of sound barrier to accelerating revenue around thisthreshold that sets the action framework. The most important practicesfor success differ on one side of the frontier from the other.

The reason for the change in tone is that sales and the salesorganization can only efficiently grow once the product and serviceoffering has been refined to a point of repeatable deployment thatresonates with leading customers.

Prior to reaching the recurrence condition, the sales team needs to besmall. It should be the VP of Sales, plus a staff of two or three.Learning and adapting take time. Constrained size keeps inertia downand flexibility high while the sales group hones in on what works best.

The alternative of excess sales force investment at an early stageimplies overconfidence in the business plan. People then won’texperiment enough, nor evolve as rapidly as they otherwise would.Too much spending on a sales force at an early stage of companydevelopment isn’t just wasteful, it can be self-inhibiting.

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As a case in point, there is a catalyst fallacy to resist. Some would tryto advance the onset of significant revenue by overstaffing the salesgroup. Those so inclined usually believe that more feet on the street atan embryonic state will force revenue and business growth. Often thisis done applying reference cases out of context, drawing analogy fromother businesses at a rapid stage of post-$10 million growth wheresalesperson deployment can be a strong influence to drive revenueexpansion.

The pre-$10 million stage of business development is different. Inpre-pubescent companies, applying more salespeople usually fails toyield more business because the success formula for recurring saleshas not yet distilled. Surfeit sales bandwidth raises a cacophony ofvoices, making the winning selling formula harder to sort out. A leansales group generates greater sales and growth at an early stage ofcompany development.

To crack the code of gaining customer traction at start-up, the VP ofSales needs to be a missionary. She needs to figure out the applicationmarkets of greatest relevance at the same time as developing salestools and selling techniques that work best and can be taught to others.

Sales activity in this early stage of development is largely direct, andhighly consultative with customers. Inward, sales representatives needto build bridges across functions within their companies to meetcustomer needs. Success comes from solution selling and productmorphing that responds to a limited number of vertical markets.

Past ten million in yearly turnover, the character of growing changes.Different kinds of salespeople are efficacious. They systematize theselling process developed by the missionary, relying on a morepredictable product and service delivery. Institutionalizing practicesmeans creating methods that can easily be replicated, to support rapidscaling. Sales leaders operating beyond the ten million divide promotemore structured sales activity, and adapt techniques to multiplechannels including indirect.

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Variation

The ten million dollar annual sales threshold for changing drivers inexpanding sales is an approximation. In small markets, or fragmentedones, the threshold is often somewhat less where the sales growthdynamic changes from honing to repeat-and-go scaling. Whereas inlarge and homogeneous markets, zeroing-in can continue up to $20million in annual revenue, or even beyond, before a confidentlyreproduce-able product and selling process is in hand.

First Customers

Early stage sales effort should focus on customers who are likely tobuy themselves, and are also best positioned to influence the purchasedecisions of others in the mass of the target market. At the same time,there is an artifice to be mindful of: the most motivated earlycustomers are not necessarily the most persuasive among their peers.They may merely be curious or seeking notoriety. The alphaindividuals that can move the mass of the buying herd need to bepinpointed and recruited as first users.

Learn Quickly

A prolonged stealth mode carries increasing risk of missing the markof what paying customers will adopt quickly. Get trusted customerinput early on evolving technology and product concepts helps stay onthe mark. Also, marketing the minimum complexity product that getsthe differentiating technology into a useable, billable form keepsfeedback and learning quick. The advantages of secrecy diminish asthe expected form of the product crystallizes. Learning and impactaccelerate with speedy customer usage and rapid iteration.

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Staffing

Customers want salespeople who understand their problems. Theseare representatives who can sell within the context of the customer’svertical and business. A salesperson must be aware of the financialproposition and risk profile for commercialization to define the returnon investment for the customer. However, sales staff needs to do thisfor the purchaser without getting too caught up in the innovation andunderlying technology.

Also, salespeople need credibility with the R&D staff in theircompanies, especially in the earliest days. The sales team needs toauthoritatively relate customer needs to product and technologyrequirements that R&D will buy into.

Diagnosing Trouble

When sales are behind plan during the early days, it is important toisolate causality. The scapegoat for a shortfall is often the VP of Sales.However, the product, company, or marketplace may be the issue.

One bad hire of a VP Sales may be a legitimate mistake. But, furtherchurn of the senior sales executive is a classic sign of misreadingshortcomings when a young business misses plan.

Sometimes, the marketplace is the difficulty. It may not exist ordoesn’t care about the solution on offer. Market vibrancy andplausible demand are confirmed by seeing:

Direct and recurring competitors in target accounts

Steady flow of new customer requests for proposal

Consistent customer usage scenarios

Widespread awareness and clear articulation in the competitiveenvironment of the company’s position and offering

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Legitimate customer and partner activity. This is exhibited bysignificant resource investments on their part, preferably from largerincumbent players. The more exclusive are user and partnerinvestments, the better

In other cases of revenue weakness, the company itself may be theproblem. Company capability is verified with:

Energy and pace of change. When little changes from week to weekand month to month, capabilities usually aren’t evolving fast enough

Ability to stabilize the product to a repeatable, deployable formmeeting customer expectations

A common view among the Board of Directors, CEO and VP ofSales of how to build sales

Consistent positioning, priorities and mission. Violent thrashingindicates compass failure. When flailing occurs, it may be that thecompany’s technology and operations are more at fault for revenueunderage, rather than the sales team

All early stage technology companies iterate the product and valuepackage as they hone in on their long-term vocation. The challenge isto identify if difficulties gaining revenue are part of natural evolution,or are more adverse reflections of operating in a market vacuum,problems in technology and operations, or sales management itself.

The sales executive tends to be the culprit for underwhelming saleswhere:

Input from the sales group toward defining and refining aresounding product and service package is scattered and does notconverge quickly

There is little evolving discipline in how to qualify leads and movea prospect to closing. Checklists aren’t used or don’t improve.

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The art of the deal is seen as the whole formula for sales, ratherthan attempting to reduce routine aspects to a repeatable process,and use art to complete the skill mix

Salespeople spend a lot of time on unlikely deals because there’sno rigor about essential events to progress through. Sales cycleslanguish in “good meetings” that don’t reach a sufficienttransaction

The pipeline is stagnant, where sales staff can’t work on promisingdeals because they spend too much time on prospects that aren’tmoving ahead

Sales pipeline reviews are muddy, where colorful stories areassociated with each prospect, but basic questions of where dealsstand aren’t clearly answered and progress is ambiguous

A high proportion of prospects sales staff expect to imminentlyclose either evaporate or buy elsewhere at the last minute

Scaling-Up

Get the selling process right in one big geographic region, with afamiliar culture and purchasing profile, before transposing to othergeographic markets. Layering major differences in distance, language,time zone, transaction terms, and culture upon an immature sellingprocess detracts from getting to the right selling formula.

However, there are exceptions to geographic focus in early saleseffort:

Where the sale is predominantly web-based

Application-tailored product markets where the R&D challenges ofstraddling new uses may be far greater than extending a provenapplication winner to new geographies

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The product is a solution seeking a problem to solve. It hascapability that has proven robust and deployable, but the bestapplications are not known, and a lot of possible applications needto be probed

Indirect Channel Sales

Most rapidly growing technology businesses will adopt a componentof indirect distribution as they mature. Grafting a third party salesforce as an indirect channel works best when the new salespeople areable to sell the added product or service to at least 33% of theirexisting customers and identical decision influencers. As the person-to-person distance grows between existing product lines and new fortarget individuals salespeople communicate with, effectivenesssplicing sales forces falls off rapidly. Above one-third overlap, thebenefits of indirect sales will usually more than offset thecommunication and control overhead of making an indirect channelrelationship work.

Cross Selling

In mergers, acquisitions and other strategic relationships, a commonvalue driver is partners’ sales forces selling each others’ products andservices, to expand market share and increase margins. Cross sellingshares characteristics of indirect channel sales. Joint sales bring inadditional management concerns because of lengthenedcommunication pathways, decision authority, and potential fordiminished accountability compared with a sales force of singlepedigree and responsibility.

Necessary conditions for sales force A to be confident sellingbusiness B’s products to their customers, and vice versa:

Ability to maintain customer satisfaction, with demonstratedquality, reliability and delivery performance

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Cross sale customers receiving similar priority from businesses Aand B, to protect customer relationships and ensure needs are met

An up front map of future gains from cross selling, segmented byproducts, customers, applications, and geographic markets

There is a significant training component to effective cross selling:

Education about the offerings, with hands-on experience

Familiarity with sales tools and collateral

Knowledge of how the other sales force and business works,including pathways for communication, decision authority, howperformance is evaluated, reward systems, and incentives

How to access R&D and other resources to facilitate informationflow to customers

Expectations should be set for the activities of a sales force handling anew set of products:

A defined portion of time to be spent cross selling, as compared tosingle business sales effort and account maintenance

Identification of who is responsible for cross selling to existingaccounts, and who is looking after it in new account development

Data sharing keeps two groups in sync as events progress:

Frequent pipeline sharing and reviews. Face-to-face is best tobuild familiarity and trust

Discourse about new prospects and their needs

Account interaction logging in a joint database

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Discussion with product source businesses early in the sellingcycle about negotiating posture on deals with exceptional pricing,terms or performance requirements

Action item tracking and follow-up

Several metrics of performance help convey shared objectives in crossselling:

Number of joint sales opportunities in the pipeline

Proportion of revenue from cross sale accounts

Market share gains

Customer satisfaction, especially if there are a significant numberof account responsibility changes as a result of organizing for crossselling

Compensation is a contributor to the right sales force conduct, butshould not be relied upon as the sole impetus for sales force behaviorin joint selling:

A distinct portion of remuneration should be tied to cross results.Compensation moves away from a single revenue or margin target.Achieving full commission requires a contribution from cross sales,usually at least 10% of total formula weighting, as well as meetingan overall sales or profit goal

Sales-linked compensation may need to extend to people beyondthe sales force who have a large influence on cross selling accountsuccess, such as customer facing R&D staff

To make the most of cross selling, management should additionally beready to tackle major instances of dysfunction rooted in territorialism,information hoarding and cultural aversion to change. Also,promoting success stories, especially those of sales staff who wereinitially skeptical, helps others to come on board.

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Performance Metrics

In the early days, monitor the resources that go into closing each sale:money, time of key staff and management, and time on the calendar.Selling-cycle input data indicates the rate that sales can realisticallygrow from a small base. Account development evidence alsoilluminates which kinds of investments in staff, training, products orservices will likely yield the best acceleration of revenue and marketreach as the business develops.

OEM Customers

A desirable customer in many business-to-business industries is theoriginal equipment manufacturer (OEM). The effort and expense ofdesigning in the component product leads to significant follow-onrevenues. A predictable relationship often follows, once order ratessettle out.

The first consideration when targeting OEMs is that they value fiveattributes of components above others:

1. Small size2. Low cost3. Performance4. Reliability5. Ease of integration

Widespread success in marketing to OEMs requires the presence of allfive attributes at industry-leading levels.

Otherwise, success selling to OEMs will usually be limited. Often,companies have a subset of these product attributes, and are successful inmarketing to some early-adopter or small-volume OEMs. Seeing thevirtue of reduced design-in support and service costs with suchcustomers, they then pursue OEMs as a primary target market, only to

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become entangled in difficulties whose root cause resides in the missinglinks.

Even with the right mix of product attributes, OEM markets are not forthe faint of heart. Completing development of the component productonly gets the vendor to the table. The ante is committing to a customer’sdesign cycle. Ultimate success is subject to customer risks in technology,product development, market development, financing, and politicalissues. Adding further volatility is isolation from the end customer.Launch and forecasting errors compound with each link in the marketchain to the final buyer.

Obtaining a large volume of OEM users is rarely a smooth journey untilthe customer base becomes broad in numbers, life-cycle stage,applications, and economic cycle diversification. It is a worthwhileendeavour under the right conditions, however, as the ultimate payoffcan be significant.

Customer Funded Development

A R&D intensive business that has successfully established itsreputation may either solicit or be approached by potential customersto take on commissioned, custom developments. If the company is inits early stages or thinly funded, the decision of whether to take onsuch a development may not be in question - it may be necessary forsurvival. However, if the company does not require developmentcontract intake to survive, custom development is often a double-edged sword.

On the positive side, custom developments provide:

Funding for engineering programs

Extended core competencies

New products and markets, albeit with possible exclusivitylimitations

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Diversification of customer base

On the negative side, custom developments can:

Defocus engineering manpower from strategic value- andtechnology-enhancing activities into peripheral activities when thescope of custom development extends significantly beyond thecompany’s desired areas of expertise

Burden staff with overhead activities, particularly inadministratively intensive project areas such as military,government, or regulated medical technologies

Run significantly over budget, since contracts can requireunfamiliar program elements that are prone to cost estimatingerrors

Incur opportunity costs and time-to-market penalties for the corebusiness, reducing growth. Doing so can restrict access to capitaland investor liquidity

Create volatile cash flow and morale due to boom-bustcharacteristics, if the company is unable to find a steady flow ofwork. Custom development fits and starts are difficult to deal with,unless rapid growth in other areas reliably absorbs the employeesformerly working on contract projects when they conclude

Exclusivity restrictions are often a tipping factor. Rapid growthpotential improves if a company can steer clear of broad exclusivityconditions over core technology. A market-centered entity, behavingin a strategic manner must know what markets it wants to be in andwhich ones it does not. It has to own the technologies, other know-how and market access rights to be a preferred vendor to its chosenapplications. This way, customers seeking exclusivity will only havegrounds for configuration-specific aspects, not for fundamentalcapabilities that are central to the company’s access to broader targetmarkets. The more complete the technology portfolio is at the pointwhere exclusivity terms engage, the greater leverage the supplier can

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exert when doing custom development, and retain access to the largermarketplace.

Good Practice

Bring R&D in contact with strategic customers at pivotal moments.R&D engagement infuses customer needs into the culture of thebusiness, and lowers internal barriers among functional groups thatcan otherwise grow. Furthermore, mandating that development stafftake a role in account development during the early days helps keepthe sales team lean when small size and agility are paramount.

Other Comments

A sale is not complete until the customer is satisfied and cashcollected

The outlook of a distribution channel is only a partial reflection ofthe marketplace. When seeking input on major strategy andinvestment decisions as the business grows, keep up direct contactwith the end market

The business’ value is enhanced when it can routinely generatequarterly and annual forecasts for revenue and profits, and then hitthem. It is an institutional skill to create and meet projections,relying significantly on the sales force and processes. Accuratefinancial estimation takes time to learn, and is easiest to weave intothe skill rubric of the enterprise if practiced and diffused as thebusiness develops

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Restructuring

Restructuring realigns the organization to take advantage of growthopportunities that are underexploited in the current structure, or todefensively ward-off threats that the present configuration does notaddress well. Small structural change is sometimes known as patching,whereas large structural modification is usually defined as reorganization.

Restructuring begins with a solid and articulated sense of target markets,product roadmaps, a revenue model, a strategy for getting to targetmarkets, a shared vision for the degree of market- and technology-leadership to be attained, and a process for dynamic strategicrepositioning. With a clear image of how the business is to function andcompete in the future, the probability for restructuring success ismarkedly higher.

To get buy-in when realigning the business, it is important to create ashared reality among senior management of how the business is tosucceed in the future. Forming a base of support for significant changebegins by meeting with top managers individually so they cancommunicate their views on a number of questions:

What attributes should the business keep through the comingchanges?

What harm to the company do they foresee as a result of therestructuring?

What should the new organizational structure achieve? What do they want from the top leadership through the realignment?

A published summary of findings from these meetings helps unify thecompany around new and renewed goals, creating coherence andurgency for the new configuration.

Restructuring manipulates the organization through splits, additions,combinations, transfers and exits. The goal of redesign is to positionresources with the right focus and size to address market opportunities.

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One challenge is to give prime growth opportunities organizationalprominence comparable to larger traditional units. Smaller units oftenlack the resources and market position to exercise self-determination aseffectively as larger groups, so adapted management systems may beappropriate. Product creation and market development responsibilitiesshould usually reside within one unit. Otherwise there may be increasedrisk of a lack of individual responsibility and accountability for executionon the best opportunities.

The size of small units should be set to balance motivation and agilitywith competitive scale, efficiency, and access to critical know-how. Theright trade-off allows managers to attend to the demands of key customersegments, and to track rapidly changing markets and adapt businessmodels, but without excessive overhead.

Modularity abets restructuring along with consistency of metrics andcompensation. Modularity means that there are well-defined interfacesbetween units, so they can be moved around the organization withrelative ease. Consistent metrics and reward mechanisms provide similarways to assess revenue, profit, customer satisfaction, and productdevelopment across the company. Disparity of metrics or compensationcan erect barriers to movement that impede restructuring.

However, no restructuring will be perfect. An organizationalconfiguration can force some of the most important managerial ties, butnot all of them in a dynamic, knowledge-based business. Work stillneeds to get done that does not flow naturally out of the formal hierarchy.Even with new relationships that are sympathetic to major businessdrivers, after a restructuring it can take months or even years for peopleto evolve into strong knowledge-generation and decision makingrelationships in the new system. Effectiveness and adaptability of majorbusiness processes often comes down to having people with a strongdesire to collaborate and drive the business to new heights, without toomuch reliance on the drawn organizational chart. Individual interest inworking together and succeeding collectively springs from personaloutlook, culture and reward systems, rather than formal managementreporting lines.

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Reconfiguring the formal structure is a straightforward, and at timesblunt, instrument of change. A revised hierarchy can create new andmore useful managerial ties. Restructuring desire needs to be temperedthough with recognition that rapid adaptability is as much about peoples’willingness to contribute to critical business objectives, regardless offormal reporting lines, than an optimal conceptual hierarchy. While notthe whole puzzle, restructuring is important to obtaining scale, focus,authority, responsibility and co-operation.

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Turnarounds

Revamping requires personnel change at the top. When tectonic changesin corporate character and outlook are needed, the only course of actionis to bring in a leadership team with significant new blood – those whoare not committed to old relationships and customs, but who do embodythe new culture the business needs to assimilate to succeed. The reasonfor re-tooling the senior management group: Even when an executivewho was in charge during a period of decline admits mistakes andembraces new ways, scepticism about the person from staff, customersand shareholders is natural and a liability. It is very difficult for anexecutive closely associated with past deterioration to ignite theorganizational energy for radical change to flourish. Significantmanagement turnover is required for deep change to take root.

Putting leadership renewal in quantitative terms, in the biggestorganizational shifts about 40% of the new management team shouldcome from outside. In deep transformations, importing a strong minorityof senior management strikes the optimal balance between freshperspective while retaining accumulated knowledge of technology,products, operations, customers and markets. Both a new outlook and arealistic sense of how the business creates value and competes areneeded to guide the business in new ways. Bringing in a significantminority of the management team from outside helps establish a newdirection. The balance of transformational senior management withamassed knowledge of the business should be drawn from the ambitiousyounger set within the company who will replace their more seniorpredecessors who would have resisted change.13 In total, turning over70% to 80% of senior management is common for major change to takeroot and thrive – especially when a business has become set in its ways.

13 A fine line promoting from within at a time of major change is to be cautiousabout promoting people beyond their capabilities. Especially in crisis circumstances,within which many major organizational changes are conducted, people are oftenpromoted beyond their abilities in order to plug holes, retain staff or bolster morale.People given elevated responsibilities need to be capable of carrying out those duties,to get the crisis over with as quickly as possible. Inappropriate promotions prolongand deepen the crisis, even though they may seem like an expedient way to improvematters in the short-term.

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Categorically, every member of the new leadership team must exemplifythe desired culture of the future.

Culture starts and ends with the CEO. Especially at times of upheaval,the CEO sets the tone for the behaviour that the company as a whole is toexhibit. The need for acknowledged leadership is at its zenith whentrying to chart a new course, to overcome the remnants of previousvisions, strategies and modes of operation. Cultural consistency in thewords and actions of the CEO with what is being asked of the rest of theorganization inspires everyone to take the business on a new heading.

At times of profound change, the whole organization cannot be moved atonce, and it is usually futile to try. Leverage is needed, and is achievedby building conviction to change in concentric rings emanating from theCEO through the company. Build manageable gearing ratios betweenlayers of the business. Usually, a ratio between concentric rings of about1:10 creates leverage, while preserving enough contact from one ring tothe next to affect change. This method of concentric rings of interactionradiating out from the leader is typically the best way to achieve radicalchange at a reasonable pace.

At the same time senior managers should increase contact withsubordinates, and not just direct reports but second level reports as well.Interacting regularly in at least two levels of management keepseveryone on their toes, promotes transparent dialog, and ensuresinformation is transmitted and received correctly. In a turnaround thereis no room for information loss or delay. Impaired execution wouldotherwise result when the business can least afford it.

To get change moving in the first place, the most creative people need tobe encouraged to follow their instincts to a focused objective. Givethem the freedom to pursue their passions. Corporate decline is reversedwhen people are empowered anew, so that secrecy is replaced withdialog, blame and mistrust with respect, turf protection withcollaboration, inefficiency with productivity, and passivity with initiative.Senior management needs to actively intervene in each of these areaswhich affect the psychology of a turnaround. Otherwise, a dark vision ofthe future can become a self-fulfilling prophecy. Liberating talent to take

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radical new approaches is the way to break the cycle of decline and theculture of fear.

Start the recovery by fostering new approaches at a cultural andleadership level. The staying power for renewal is drawn from aconstructive basis for rebuilding the business. Setting a positivefoundation requires coming to terms with the information, decision andexecution failures of the previous mode of operation. Major situations ofdistress typically incubate over long periods of time. Warning signals gounnoticed, usually because of incomplete or erroneous information.Distress also builds up due to inappropriate assumptions among those inpositions of power, or an unwillingness to ask tough questions. Furthercontributing to calamitous business circumstances are cultural biasesagainst caution, and decision maker inability to place resources in areasthat matter most to sustainable success. Over-optimism amongexecutives, and, biases among culture, informational discovery andacceptance need to be first identified, then unwound and finally replaced.

Once there is a new cultural awakening linked with attainable businessobjectives, and the supporting communication and decision frameworksare in place to sustain a recovery, then word needs to get out and stay outthat the company is moving forward. This usually involves anaggressive PR campaign, as well as regularly announcing new products,services and other tangible signs of progress. A vigorouscommunication plan and attention to implementation detail reinforces themessage that the ship has taken a new direction.

A frequent challenge when leading major change is the need to forge anew mode of operation within the boundaries of existing resources. Themodel of epidemiology for unleashing radical change can be particularlyhelpful in the case of redirecting existing assets that are often invested inprevious patterns of behaviour. The central idea is that once a criticalmass of people has bought into a new modus operandi, the rest willfollow relatively quickly. This is known as tipping point leadership.14

14 “Tipping Point Leadership,” Kim and Mauborgne, Harvard Business Review,April 2003

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Tipping point leadership can be boiled down to four main components:recognizing the need for change; identifying resources to invoke change;motivating people to desired ends; and, overcoming politics andcountervailing factions.

Impediments of the Mind

The biggest struggle in initiating radical change is often getting people toagree on what the current problems are, their underlying causes, and theimportance of rehabilitation. In corporate settings, a significant source ofdispute in acknowledging problems is the use of statistics and select datasets. Individual measures of performance can hide as much as theyreveal, so that one viewpoint’s evidence to support a thesis can beweakened or contradicted by a different set of data. Fact-basedmanagement is a desirable objective, but the complexities of the realworld can be overwhelming. When statistics or specific data points donot provide an incontrovertible case for needed changes, it is necessaryto force key managers face-to-face with the problems to overcome.When management is on the front lines, it is much harder for them todeny the need for change. Forcing executives to stare at uncomfortablerealities spurs decisive change. Management engagement withdifficulties fast tracks the emergence of a common viewpoint about whatthe problems are, usually about how to fix them, and the urgency to doso.

Resources

Limited resources in a situation needing major reform can slow or reducethe pace of progress. Limited bandwidth to pursue the new agenda cansometimes go so far as to constrain the business to the previous mode ofoperation.

Sidestepping resource hurdles starts by prioritizing the areas most inneed of change, and activities with the biggest payoff. With articulatedpriorities and payoffs in hand, a strong pragmatic basis exists forinvestment decisions.

Liberate-able resources are the engine of reinvigoration when they canbe efficiently applied to a new, high impact initiative. Get bandwidth by

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cutting back administrative overhead in low leverage areas. Anothersource of capacity is to help people to identify their own self-interest inlonger-term gains returning from shouldering the load of near-termchange. Individuals who know they will benefit from long-termimprovements are likely to stretch themselves in the near-term, creatingadditional fuel to get new initiatives moving.

Motivation

It is not enough for employees to recognize what needs to be done. Theyalso must want to do what is necessary to achieve radical change. Startwith identifying the most influential people inside (or even outside) theorganization. These are the people with the skills, connections, powersof persuasion and control of resources who will have adisproportionately large effect on whether the rest of the business willfollow the new agenda. The few who can affect the many need to beidentified and aggressively recruited to support and implement radicalchange.

Even with leading influencers on board, an operating structure needs tobe put in place to be sure that motivation for the right reforms takes root.One way to promote desired behaviour is to increase the accountabilityof managers and key staff for their actions in peer reviewed settings.Another way to drive people to a targeted end is to create a series ofgoals that are incrementally digestible. The importance of a series ofgoals becomes most important when the ultimate target is aggressive.

Politics

Organizations of appreciable size impose politics that can restrict thebeneficial impact of a change initiative. Political impediments need tobe actively identified and then combated. Unchecked, there are usuallypowerful vested interests that will resist reforms through plotting andintrigue.

A leading antidote to counterproductive politics is to involve a senior,respected insider from the existing mode of operation who is prepared tosupport and work toward the new modus operandi. A respected andvisible catalyst helps to silence critics early on. Insiders with deep

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knowledge of the organization also tend to know who is likely to fightnew initiatives. Opposition to change can then be pinpointed andsilenced. Furthermore, a change agent drawn from the existing way ofdoing things can usually contribute a lot by anticipating contradictingarguments from vested interests. Compelling counter arguments forchange can then be more easily presented with indisputable facts andleadership by example.

Encourage open discussions. Discouraging typical politicalmanoeuvring tools of sidebar conversations and biased fact sets sendsout the message that action is based on rigorous assessments, and opendeliberation. Automated reporting of salient performance measureshelps to monitor progress moving from old to new behaviours, wherepolitical interests might otherwise restrict information flow.

Drawing on these four ideas of tipping point change leadership, andother models for altering behaviour in organizations, radical changefollows similar implementation guidelines as mergers and acquisitions.The human dimension of dislocation and change breeding uncertaintyand fear is largely the same in major change initiatives as in M&A. Theapprehensions and doubts that naturally arise in corporate transformationshould be actively overcome in the following ways:

Value Drivers Know and agree upon the value drivers. Rank them,and focus resources on the priorities. Don’t get bogged down in low-value activities. Areas to place attention during radical changeusually include the supply chain (procurement), customerdevelopment, service delivery, and project management of primarycompetitiveness-enhancing activities. Keep an unwavering eye oncrisp execution, and tight risk management.

Know the Numbers Get a firm grip of the real size of the attainablemarketplace and achievable pace of adoption. Often in distresssituations a contributory factor is oversized expectations about theend market. This ballooning is often based on false economies, pastglories, or sentiments about market size that are out of step with thereal performance of current products. Frequent culprits in mis-estimation are beliefs that existing customers or contacts can be soldto, cross-sold to, or up-sold to, when the drivers behind customer

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purchasing may have significantly altered because of external orinternal events. A forward-looking overview of markets, customers,purchasing motivation, purchasing power, profit pools and adoptiontime-scales at the outset of a transformation help to determinepriorities, and set the right scale and objectives for the business.

Development Performance If a radical change depends in part ondeveloping and launching new products, come to terms with howwell the business performs in conceiving, developing, and reachingprofitable revenue generation with new products. In particular,identify areas where there are frequent surprises and delays, whereconcepts are not systematically reduced to predictable practice. Ifproduct-driven change is required, knowing what does and doesn’twork in the way that new products are conceived, developed andlaunched helps to put the transformation on solid footing. Alsoimportant is to know where new technologies are called for andwhich skills to rapidly improve. Development and support resourcescan then be shifted to areas where a strong return on investment islikely.

Debt Be careful about debt load if debt is required to help finance therebuild. Debt becomes significant when it reaches more than 50% ofthe business’ equity. Taking on debt above this level needs to bebased on strong cash flow and cash generation in select parts of theenterprise to service the debt, or on bricks and mortar assets to secureit. Otherwise, the debt can prove destructive, especially if thebusiness encounters unexpected challenges. Some debt can leveragethe assets of a business, to help fuel a turnaround. But, the amount ofdebt needs to be held in check or else the risk becomes unwieldy.

Feedback Systematically monitor performance in the highest valueareas, and apply corrective feedback. Increase management reviewfrequency during times of trouble. Examination that would takeplace weekly under more stable conditions should become dailyduring a transformation. Monthly assessments in normal coursebehaviour transition to weekly. Increasing the rate of evaluationkeeps attention up and deviations low. Performance monitoring mayneed to be carried out in a less scripted fashion during a recovery

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than normal times, so that administrative overhead does not eat intoefficiency.

Dismantle Impediments Remove bureaucracy that stifles initiative,and foster collaboration that leverages all assets to create a strongerbusiness, in a sustainable manner. Keep customers at the centre ofdiscussion.

Energy Energize the workforce through leadership – a compellingvision grounded in reality, and leading by example. Don’t relyentirely on administrative moves such as slashing budgets or sellingoff assets.

Method of Operation The method of operation of the neworganization must be articulated during change planning. This is nota detail of implementation to be worked out after the changes areannounced. When reworking communication and decisionpathways, strive for simplification and clarity in reporting, objectivesand knowledge access.

Truth There is a fine line between truth and reconciliation. Speak towhere the organization stands. Do it in a way that doesn’t makepeople wrong, but at the same time does not leave them in denialabout what really needs to change and how fast.

Build Upon Strengths Reinforce the strengths upon which therebuild of the business is based. Remind employees and partnersabout the assets the company has going for it, and provide clearevidence about how these are being strengthened through thetransition.

Change Quickly Make structural and directional changes within 90days. Better yet is 30 days. The alternative of drawing atransformation out introduces more complexity than it overcomes. Agradual transition may seem like the way to avoid creating excessivefears. But, moving slowly only prolongs inevitable change issues,and they become more difficult when left until later. Fastimplementation reduces anxiety and politicking. At the same time,

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one also needs to be realistic about the achievable pace oftransformation, and ultimate limitations. A turnaround is much lesslikely to breed undermining cynicism and discouragement if itopenly acknowledges the practical extent of what can be changedand by when.

Fast, Flexible Teams Continually reorganizing is disruptive,especially for a troubled business. Redrawing the organizationalchart is a blunt instrument of change and only marginally effective inisolation. Some restructuring may be essential to create moreeffective managerial ties. Senior managers should also augment theorganizational chart with flexible working groups, and occasionallytemporary ones, that open new relationships and ways of tacklingproblems.

Management Priorities Plan for distraction among seniormanagement during the transition period. Leading a major change isan all-consuming task. Leaders at times of upheaval need to be readyand able to put the business on their backs and carry it to higherground. Senior managers leading major changes will not be able toplace as much attention on routine matters while the transition is infull swing. Top executives will only get back to a routine thatresembles the normal once the renewal has developed a momentumand positive energy of its own.

Early Win Create at least one early win from the metamorphosis. Atriumph provides a clear signal of merit to all stakeholders, quellingthe inevitable residual elements of discord down the organization.This begins a virtuous cycle supporting the change. With clear goalsand an early tangible success upon which to build, people spendmore time looking toward the future than worrying about the past.

Exploit Resonance Be sensitive to both external and internalrhythms. Capitalize on moments of opportunity and high morale.This is the best chance to overcome resistance to change and to setthe agenda, rather than having to defensively respond to externalevents.

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Communicate Establish regular communication to stakeholders,especially customers and employees. Start immediately at theannouncement of the new direction. Then repeat key messagesfrequently throughout the transformation. People need to beconstantly reminded and reassured of the big picture as they facemoments of intense localised stress during periods of upheaval.

Audit Concerns Regularly audit the concerns of stakeholders.Communication is frequently a silent victim in turnaround efforts,concealing problems until it is too late. The concerns of stakeholdersmust be uncovered and acted upon. Of particular importance areemployees, and the culture of the business. Communication issues orinterpretation differences often engender culture difficulties.Cultural problems are like an insidious disease. They keep comingback unless they are persistently smothered, particularly when acompany is recovering from a rough period. Regularly auditingconcerns of staff and management gives early warning if a cultureproblem is coming out of remission, so that suitable treatment can bequickly dispatched.

Customers Inform customers about how the transformedorganization is protecting their interests. Plans and any changesshould be regularly and consistently communicated. This includesdialog about products, service and delivery, availability, orderingprocesses, support, future collateral material, and, a clearly statedstrategic direction for the new organization.

Recognition Be generous with public recognition of those whoexemplify desired behaviour, to reinforce many of the above ideas.Stroke the professionalism and capabilities of employees. Takeevery opportunity to commend their teamwork and progress, andpromote these virtues as the reason for success achieving milestoneson the company’s new course.

Above all else during radical change, the first moments of the process areprecious. This time is when the new management team can ask basicquestions about what the business is doing and why, before becomingintegrated into the culture. New managers entering a distressed businessneed to capitalize on their ability to disentangle impaired system

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dynamics, because they are not caught up in them. An incoming teamcan put a name and a handle to problems that have gone unexpressed.Questioning fundamentals at the beginning serves to expose deficienciesthat may not be as apparent to those consumed in the business.

However, the new leadership has only one kick at the can. Once the newleadership team becomes assimilated, fundamental questions becomeharder to ask. The valuable first moments of change are lost - oftenirretrievably. The dawn of a transformation is the best time to ask hardquestions, and challenge fundamental assumptions about the business inneed of radical change.

Turning around a business is complexity exchange – taking confusionand weakness priced at a discount, and later selling clarity with strengthat a premium. It is not about finding something that no one has seenbefore. Rather, creativity at a transformation is about seeing thepotential of a business that already exists, figuring out how to tap latentstrength, and carrying out the plan.

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Divesting

Like pruning a plant to keep it in peak health, part of growing andprospering in business is to sell select pieces of the enterprise whenconditions call for it. As a business expands and matures, parts canbecome long-term burdens due to changing competitive conditions andexecution difficulties. Suspect circumstances include slow growth,low returns, too much volatility, loss of confidence from stakeholders,or ebb of strategic impact. Divesting is a tool for rapidly shapingenterprise stature to meet current and upcoming demands.

Efficient resource allocation, including capital as well as attention ofmanagement and key staff, requires finding a permanent solution forlow performance or oblique business areas. Extricable segments thatcannot be remedied or reoriented in a timely manner, but havesufficient assets to be sale-able, are candidates to sell.15

The clearest candidates for disposal are parts of the enterprises whichcan have much greater value in the hands of another owner. Viablebuyers are businesses that can achieve strategic acceleration using theassets of the target unit, and have the wherewithal to overcome theunit’s weaknesses.

For an enterprise new to selling business units, the willingness andcapability to efficiently sell is a learned skill. By climbing thislearning curve the business will gain the know-how for creating aready market for business unit exchange as part of long-run efficiency.Divestiture skill is a component of the natural maturity for a businessmaintaining above-market rates of growth and financial performance.

15 Divestiture in this chapter refers to an outright sale of a division or substantialassets thereof, as compared to an equity carve-out, spin-off, split-off or trackingstock form of exit.

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Decision to Dispose

Half the battle is the decision. Concluding to divest a candidate part ofthe business is difficult. But if the choice is made within a robuststrategic and financial framework it will be much simpler to execute.There are typically several disposal decision impediments to surmount,starting with line managers.

Operating management is often reluctant to give up. They fear loss ofreputation or employment. Expressing diminished expectations caneven be seen as treasonous in close-knit corporate cultures. As well,there is a gambler instinct. Many people are willing to commitresources to a desirable outcome, if an unlikely one, far beyond whatthe chance is really worth.

Pragmatically, by the time a business unit’s tangential nature orproblems become acute, remedy from within is often too difficult andtime consuming compared to better alternative resource uses. Thereason to cut bait: the challenges of a struggling or misaligned unit arefrequently the product of several kinds of partiality, especially withdevelopmental technology businesses. A series of distortedinformation flows and decisions, often spanning years, lead to over-commitment.

A sampling of the mélange of management obfuscations that lead tothe need to unload:

Bad original information, basing initial resource commitments ondata that was wrong or improperly interpreted

Confirmation bias, seeking out information that supports theoriginal decision to invest and at the same time discounting contrarysignals that arise

Sunk cost fallacy, factoring in unrecoverable costs that havealready been incurred in ongoing choices to press forward

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Anchoring, insufficiently adjusting initial estimates based on new,reliable and actionable facts

Bipolarity, group decision making riskier than any member of thegroup would choose because of a safety-in-numbers kind of securityimpression

Group think, reluctance of dissenting views to voice themselves forfear of alienation from the group

These and other executive aberrations in the gathering and processingof information mean that some investments turn out to have been poorchoices from the start. Other underperformers or misaligned piecesmay have been valid resource deployments at an earlier time, butcircumstances changed.

Either way, in an enterprise with scale and diversity of business lines,there can be significant asset bases with unacceptable cost to keep, andsignificantly higher foreseeable value under new ownership. These arethe systemic issues to keep at the fore when deciding to divest.

There exist related immediate issues that can slow or confuse thedecision to dispose of a unit. Defenders will typically point tooptimistic anecdotes. Examples include an energetic launch event,quality estimates, production forecasts, or other points of reference tosuggest the imminence of success. Such favorable instances may betrue, but they represent low-cost expressions of future opportunity topreserve the status quo. Single experiences miss a lot of relevantinformation.

The metrics to zero in on are: strategic misfit, weak demand, low ordeclining market share, poor or deteriorating financial returns,inexorable competition, low customer satisfaction, inability to developproduct in a timely fashion with required cost-performance, loss ofstakeholder confidence, and unpredictability. These measures ofcapability rely on larger data sets, with less selection bias thananecdotes. Broad indicators better inform the choice to dispose a lineof business.

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One way to overcome management resistance to capitulate and divestpoor performers and weakly fitting units is to use forcing criteria.These are quantitative guidelines that help surmount reluctance toadmit failure, poor management and declining relevance. Targetingdivestiture rates helps shift away from reactive disposal to moreforward-looking. Disposal becomes a natural part of optimizing theshape of a multi-faceted business.

Guidelines that help consider divestiture regularly:

Aim to divest 7% per year. Misfit and severable parts of a businessusually exist once a company has matured from hyper-growthtoward industry rates of growth or lower. The presence of divest-able laggards or outliers is common if the business has evolved tomultiple operating sites, product lines, or technologies. A goal todivest 7% or so of the business per year keeps the prune-able inview. The 7% gauge can be applied to revenue, headcount, capitalspending, R&D spending, or other quantitative attributes. No matterhow it is applied, the 7% target drives people to routinely considerwhich significant parts of the enterprise have become the leastproductive and what to do about them.

Target to dispose at 30% to 40% of the rate at which new businessunits are acquired or incubated. Once acquisitions or incubations ofnew, additional lines of business are a regular part of businessactivity, there is a significant rate of natural failure to confront.Sometimes it is the whole of something that was acquired orgerminated that needs to go. Other times it is only a subset. Ineither case, parting ways with business units at 30%-40% of the rateat which they germinate or come on board keeps the failures anddiverging parts moving out to more productive settings.

Quantitative models help keep disposal on the agenda as a way tomaintain fitness. However, the most powerful prompting to dispose orotherwise come to terms with poor or maladjusted performers is notquantitative. It is the penalty for falling behind; infection of the corebusiness with undesirable attributes. When awkward parts of thebusiness are retained at length, there is a strong tendency for theirflaws to couple into the mainstream. Especially with weak units,

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distorted information analysis, decisions, and resource allocationsbecome viral. Without a paced effort to divest poor and awkwardelements, healthier and more promising parts of the enterprise can bedamaged.

Objectives

There are a handful of interrelated objectives for business unit disposal.The weighting among factors depends on circumstances. The mostprominent divesting objectives:

1. Increase shareholder value by better shaping the future businessportfolio, and getting a higher price for the outgoing unit as a sellerthan as its owner

2. Enhance profitability3. Focus management and emphasize core competencies

Other common targets of disposal:

Better competitive performance Raise cash or pay down debt Reduce risk Re-establish stakeholder confidence

There may be additional reasons to divest including regulatory orgovernment intervention, motivation of staff and management, and,reducing inter-business unit competitive friction.

Once motivated to dispose, there is a prominent goal when executing:minimize disruption to the remaining business. Distraction is reducedby divesting as quickly as possible.

The benefit of speed applies both to the point in the life of the businessunit, as well as rapidity after the sale process begins. Once indicatorspoint to disposal, comebacks sufficient to reverse course are rare.Competitive crowding usually intensifies as time goes by, diminishingthe unit’s stature. An early, rapid sale will usually capture more value

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for the seller and other stakeholders in the unit compared with later,slower transfer.

Process

Upon establishing the objectives of disposal and reaching the decisionto exit, there are a customary series of preparations and events to reacha sale. The main elements are: deciding which assets to include,assembling relevant descriptive data, selecting the right sale methodfor value and flexibility, creating marketing collateral documents,promoting the business to potential suitors, due diligence by suitors,bidding and sale negotiations, purchase contract signing, closing, andpost-transaction separation.

As a rule, the better the early elements of the divestiture process, thefaster and smoother the sale.

Preparation

The components of a firm foundation for divestiture:

Carve-Out Financial Statements These show historical and projectedfuture financial performance of the business unit on a stand-alone basis.They include balance sheet, cash flow, and income statement. Torapidly value the business, suitors need an income statement ofsufficient detail to show revenue, gross margin, EBITDA, EBIT, andnet profit (NIAT). The balance sheet should show working capital andbook value, with details on aging of accounts receivable, accountspayable, and depreciation policies. Employee headcount is alsocustomarily noted as it is one of the most real-time measures ofbusiness size, especially for businesses that have not yet achieved self-sustaining cash flow.

Financial statements are usually one of the most difficult items toprepare. They are a catch basin for differing viewpoints. Mostcomplex to resolve are variations among the seller’s managementabout where the business unit is going as well as the level of optimism

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and aggressiveness to be built into the divestiture marketing effort.Preparing the economic picture at the outset forces these decisionsearly, crystallizing the context for most of what follows.

Readying the carve-out financial picture is tricky because it requires arange of assumptions about efficiencies for the unit on a stand-alonebasis. Direct costs are relatively straightforward to determine, buthistorically shared costs with other business units of the seller requiregreater judgment to allocate.

Where the inter-company cost allocations that envisioned suitors areexpected to achieve vary widely from the seller’s, a second set ofcarve-out financial statements are often helpful. These financialstatements expressly exclude all inter-company allocated costs.Suitors can then analyze and insert their own cost and overheadestimates to model financial performance of the unit.

For both kinds of carve-out presentation, it is conventional that thefinancials look back three years. Projections should go out at least oneyear in businesses that have not yet achieved predictive revenue levels.Forecasts should extend out as much as three years in businesses thathave achieved a presaging trajectory.

Making the financial projections conservative is the safe approach forreducing the risk of late-stage negative surprises in the sale process.Why? The consequences of up-side and down-side surprises as thedisposal advances are not symmetrical. Underperformance for the unitlate in the sale process compared with the plan published at the outsettends to slow the sale process, harm value, and even scare off suitorsentirely. Buyers are nervous. Whereas, execution ahead of projectionhelps everyone get comfortable. Good news during diligence andnegotiations builds a sense of trust. Credibility eases the sale andsubsequent separation of the transferring unit. Above-planperformance affords the vendor late-stage flexibility negotiating andcarrying out the final transaction.

Over-performance is far easier to accept late in the sale trajectory thanmisses. A fast, organized disposal is facilitated with conservative

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financial forecasts that leave some room for good news to come out asthe sale progresses.

Growth Plan The build-up plan reconciles a cohesive growth story forthe target business with internal evolution of technology, operationsand market reach. At the same time, the outlook needs to be coherentwith the external competitive environment.

Most important is to challenge all forecast assumptions and rationalizethem. Postulations underpinning the plan will be interrogated bysuitors as part of due diligence. It is far better to know about, preparefor, and present key sensitivities in the business’ outlook, rather thanhaving them come out as downstream surprises during suitorinvestigations.

Internal Diligence The seller’s staff briefly assumes the role of suitorand evaluates the outgoing business using an acquirer’s due diligencecheck-list. Sell-side diligence helps identify if there are significantdeficiencies or disputes that can be remedied before marketing begins.Self-assessment should also seek out latent assets that can bemonetized in a sale, such as tax-loss carry-forwards, R&D ormanufacturing subsidies that may be available, as well as written-offequipment or inventory that may have value to a new owner. Internaldiligence often enhances sale value. Self-appraisal can also guide thesuitors to target, inform the marketing message to get the sale processunderway, and indicate the probable shape of transaction.

Future of Management and Key Staff Map the path of managementand key staff in the target unit. Doing so reduces apprehensions aboutcareer at a time of business ownership and context uncertainty.Important staff and management are then more likely to remainthrough the sale. If the intention to sell the business will be announcedbefore a final purchase agreement is reached with a buyer, retentionincentives should be considered for high impact employees. This isstay-pay linked to remaining with the transferring business unitthrough the transaction. Retention incentives can also be attached toachieving important interim business objectives that are expected tofacilitate the sale or enhance valuation.

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External Diligence Three external areas are surveyed: valuationcomparables, marketplace, and outside constituencies touching thetransferring unit.

Valuation Comparables Reference transaction valuation multiplesshow the range of price points for similar sales and context for high-and low-value deals. Comparable data helps show what prices maybe achievable for the disposal, and the likely high leverage financialand situation factors. Valuations of public companies in similarlines of business should also be detailed for the same reasons.Multiples to review include enterprise value (EV) ones ofEV/EBITDA, EV/EBIT, EV/NIAT and EV/Employee. Equitymultiples of interest include Price/EBITDA, Price/EBIT,Price/NIAT, and Price/Book Value

Marketplace forecasts and competitive outlook for the products andtechnologies of the target unit from respected research firms andinvestment analysts

Analysis of the outside constituencies the unit impacts, to assesshow they will view a sale, and ways to make the transactionproductive for them

Potential Buyers and Message The universe of plausible buyers isidentified and the marketing story for the business developed that ismost likely to attract interest. The pitch should make the case for howthe unit for sale can build on potential buyers’ strengths, shore up theirweaknesses, create future opportunities and defend against upcomingthreats. The message should reinforce the way the transferringbusiness can accelerate the engine of sustainable earnings growth forprospective new owners.

Setting the messaging anatomy for maximum impact requiresknowledge of likely investigators. Appraisers who will look at theunit need to be targeted, and with better aim than a mere sense ofpossible suitor industry sectors. Requisite targeting precision for themarketing disclosures is achieved starting with strategic analysis ofspecific candidate suitor businesses, as well as their tax and capital

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access issues. This reverse due diligence includes pinpointing the waythe unit can add the most value to each potential buyer.

When evaluating potential suitors, there is an important distinctionbetween financial and strategic players, particularly when sellingsmaller asset bases or business units suffering from notable problemareas.

A purchaser in the same or related industry has assets to assist thetarget unit. The strategic buyer will usually be less intimidated by therisk profile of operations. Purchasers in related lines of business canpotentially also find economies of scale or scope within their incomingenterprise from which to gain efficiency with the new unit.

Financial buyers do not usually have such flexibility. Financial suitorsare more conservative and demanding in due diligence.Unaccustomed to the risk profile of business unit operations, they havefew operating assets to contribute if post-transaction negatives surface.Strong competitive threats, light asset bases, limited revenue diversity,or history of failed financial buyouts in the sector tend to alarm suitorsfrom capital markets. Financial players also typically have a shortertime frame for harvesting their investment.

As a guideline, financial buyers will pay between three- and six-timesEBITDA for a business. Financial buyers are also attracted topredictability, consistency of cash flow, and externally auditedfinancial data for the unit. Conversely, strategic buyers are morelikely to pay elevated valuations and be willing to acquire under morevolatile conditions.

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Preferred Form of Sale The preferred structure of the sale isexpressed. While there will be give and take over form duringpurchase negotiations, a clear sense of the breadth and structure of afavored transaction helps keep priorities clear as events unfold,including:

Assets or equity Scope, describing what is in and out of the sale. This covers:

technology, products, brands, licenses, market access, customerrelationships, physical assets (real estate, buildings, equipment), IT,and, working capital

Dual use technologies that will be kept by the seller and licensed tothe buyer, or vice versa

Buyer’s access to future technology upgrades and developmentresources from the seller, if there is integration of technologiesbetween the seller’s continuing activities and the transitioningbusiness unit, or vice versa

Transition services the seller would provide for a period post-transaction, such as treasury, accounts receivable collection, humanresources management, or IT

Indemnities Non-competition agreement Consideration and form, such as cash, other assets, shares, vendor

financing in the form of a promissory note of future payment, orconvertible debt instrument

Contingent payments Residual equity stake Time scale for executing a transaction, and subsequent separation

As well, tax, legal and employment matters can have a stronginfluence on the desired form of sale.

Taken together, the preparations spanning carve-out financials topreferred form of sale set the stage for the marketing documents, aswell as foretelling some of the more likely forms for the purchasecontract. Further, these groundwork efforts also tend to highlightdifficulties with the unit that can quickly be repaired or excised toenhance value and sale potential.

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A few considerations when laying the groundwork: Delicacy isrequired in the research phase. Digging too deeply into the operationsof a business unit with information requests to its staff in advance of asale announcement can set off apprehensions for employees thatrestructuring, sale, or closure may be pending.

Another sensitive matter is contingent roadmaps for the sale effort.There are a lot of changes and possibilities that emerge as divestingefforts get rolling. The more volatile a unit’s circumstances, the moreagile disposal plans need to become.

Identifying major decision forks before the sale gets underway helpsprotect management decision discipline within the seller as eventsunfold. Without a roadmap and contingency plans, surprises,especially negative ones, can trigger emotional decisions or anoveremphasis on tactical stresses that are counterproductive to largerobjectives. Usually, lapses involve changing decision criteria affectingthe sale mid-course without a valid and objective reason. Priorscenario planning for the sale process mitigates management bias forthe seller as conditions change.

Contingent roadmaps project the major checkpoints anticipated duringthe marketing and sale effort. They identify the highest impactprospective internal and external events. The more probable alternatecourses that would be followed are then described that would reduceuncertainty, advance upon targets or adopt new targets. These includelandmarks such as completion of major R&D tasks, landing majorcustomers, changes in suitor attributes, or competitive developments.

Contingency preparedness requires knowledge of several values forthe business unit on an ongoing basis during marketing and sale:

Alternate buyer sale value, a quantity updated dynamically assuitors respond and drop out over the course of marketing and sale,less any expected restructuring cost obligations to achieve sale

Keep value, its worth to the current owner including future infusionsof capital

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Harvest value, the value to the current owner without any newinfusions of capital

Liquidation value, its worth under an orderly wind-down should asale as a going concern not be concluded, and retention not bedesirable

These dynamic reference points are navigational aids for any sale.They are most important to keep in view for a unit on the boundary forwhether to sell or shut, informing the walk away number for thedashboard. The decision about the best course of action for a businessnear the sale-shut dividing line is particularly sensitive to changes overthe course of sale in development and operations, the competitiveenvironment, and the market of candidate buyers.

Sale Method

There are three main business sale methods to select from: bilateralnegotiating with a single suitor from the start; negotiating with alimited number of participants; and, managed auctioning with a largenumber of initial contacts to prospective buyers. There are benefitsand trade-offs for each sale mechanism with respect to achievingmaximum value, exit speed, confidentiality, business continuity andfallback options.

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In overview, the positives and hazards are:

Bilateral sales can be targeted, with potential for quick exit,confidentiality and business continuity. However, one to one salescarry the risk of no a ready fallback option, and limited valuationleverage.

Limited Number of Participant sale efforts can also be targeted,and reasonably quick. However, confidentiality can limit the poolof prospective buyers.

Managed Auctions provide potential for maximum value andready fallback options, but at the risk of business disruption fromconfidentiality loss.

A bilateral negotiation is most appropriate where the best suitor isobvious and unique. This is a buyer with the strategic outlook andfinancial resources that can readily offer a price with appropriateconsideration above what other prospective suitors could likely muster,and better deal terms, conditions and speed.

When a premier suitor can be identified, a one to one deal can usuallybe negotiated quickly and confidentially from the outset. Adeterministic process reduces disruption for employees, customers andother stakeholders in the transferring business. Bilateral marketingand sale is usually best if a business unit is fragile and cannot toleratethe erosion that a period of uncertainty may trigger in terms of staff,intellectual property, customers or partner interest.

The danger employing one to one negotiation from the start: shouldsignificant difficulties arise over the course of selling the business,there are no primed standby alternative buyers. Exit speed, valuation,and deal structure flexibility can suffer if negotiations bog down in oneto one marketing and sale.

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At the other end of the spectrum of business sale types is a managedauction. This mechanism is best used when there are a wide range ofpossible buyers at the outset, but not a clear preferred suitor that can berelied upon to carry out a transaction. Auction is also appropriatewhen a defensible process is needed to achieve maximum value. Anauction has a major advantage with ample contestants. With asufficient number of plausible buyers informed about the assets,competitive bidding should induce offers at or near the maximum eachsuitor is willing to pay. Multiple offers also provide ready fallbackoptions if discussions with any one suitor do not turn out.

The down side of auctioning is the notification of pending sale to alarge number of people. They also receive a description of the asset.Relatively open disclosure about the planned sale including financialand strategic details can harm the target business. Even withconfidentiality agreements in place, word usually gets out once morethan a handful of people know about an upcoming sale and the natureof the assets on offer. Depending upon the liquidity of the localemployment market and substitutability for the business’ products orservices, employees and customers can defect during the period ofuncertainty.

Depending upon the character of the asset to be disposed and themarket it is being sold into, intermediate forms between 1:1 andmanaged auction are possible which will balance valuation, flexibility,fallback options, speed, confidentiality and business continuity.

Circumstances may also warrant changing business sale methods midcourse. Information about potential bidders arrives during marketing.Conditions of the business unit change. This knowledge can suggestshifting from a limited negotiation to a more broadly marketed andcompetitively bid sale if interest turns out to be higher than expected.Equally, buyer signals or unexpected fragilities with the business unitearly in the process can indicate a move from a wider field towardlimited or exclusive negotiations with greater rapidity than originallyintended.

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In the normal course, however, without persuasive evidence to take anarrow approach, a tightly managed multiple bidder marketing andsale model is usually best.

Creating Competitive Auction Bidding

It is a statistical game to find the best buyer for a business unit in amanaged auction. The dynamic is not a deterministic one. Manyplausible acquirers need to be solicited. Not all that are contacted willbe interested because of timing, financial, or strategic factors.

Moreover, several motivated purchasers need to be ready to carry out atransaction in order to drive up valuation, and flexibility in deal termsand conditions for the seller. The implication is that a large number ofprospective buyers with a strategic or financial interest in the assetmust be contacted in order to create a competitive auction market.

There is a high reduction ratio between initial outreaches and activepursuits, and further high compression to sale. The compression rateis especially high for smaller asset sales, those with transaction pricesbelow $50 million where the target business may still bedevelopmental or not yet have achieved competitive scale.

The following shows guideline statistics for marketing and sale of abusiness with a transaction price up to $50 million. It indicates thesize of the starting pipeline of participants, and yield from stage tostage moving through marketing and sale:

The starting pipeline requires forty to fifty participants. These areplausible buyers identified during marketing preparations. Theyare contacted with an introductory memorandum andconfidentiality agreement to sign back in order to get more detailedinformation about the asset

The next stage is active appraisals, in which typically twenty ofthe initially solicited parties respond positively and enter into theconfidentiality agreement. They then receive and go on to reviewthe offering memorandum and other confidential information

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The following stage is active pursuits. Usually about five activeappraisers will enter formal bids to become active suitors

Among the tenders, there will typically be two suitable bids

A pair of suitable bids leads normally yields one executedpurchase

The fulcrum of the process is the number of formal bids. Five or moretenders are needed so that there is competition to drive up values andterm flexibility for the seller. Volume creates alternatives for thevendor. With sufficient numbers, bidders are unlikely to identify all ofthe competitors before submitting offers. Generally, if there are fewertenders than five there is significant risk the players will figure outwho else is bidding, especially in networked industries, and be able togame their offers to the detriment of the seller. With five or more bidsthere is enough positive tension to provide satisfactory vendor choice.

Among five formal bids, there will usually be at least two tendersacceptable for exclusive negotiations. The importance of having morethan one suitable bid is to have a ready alternative if negotiations withthe lead bidder get stuck or come apart. If there is only one acceptablebid, the next best available option is poor should purchase negotiationsbecome distressed. Two or more palatable offers help the seller’s endgame dynamics during purchase negotiations.

The takeaway message is this: forty or more plausible buyers need tobe identified when preparing to market the business. Substantiallyfewer viable prospects call into question whether a competitivebidding process is the suitable way to divest. With initial outreachnumbers significantly smaller than forty, a sale through a competitivebidding process may still be possible for a small business unit, butchance plays a larger role in the outcome rather than effort or planning.Valuation often drops.

Statistical mechanics of competitive auctioning shift with larger assets,transactions above $50 million. The major difference when selling

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more substantial businesses is that the reduction ratio of participants islower, especially during early stages of the process.

With a larger transferring enterprise, fewer starting contacts aretypically required to achieve competitive bidding and a successfultransaction. The reason is that with a larger business in play,prospective suitors are easier to identify during sale preparations.Candidate buyers have more management depth and access to capitalto carry out acquisitions. Moreover, the unit going on the block hasgreater infrastructure, competitive scale and certainty. Thetransferring business unit thus typically demands fewer resources ofthe new owner. More of the tenable initial buyers are likely to becomeactive suitors. With a well selected group of initial contacts, largeasset disposal can start with about 20 plausible buyers for initialoutreach in order to achieve a sale with sufficient competition andchoice for the seller.

Another advantage in the sale of a larger business unit is thewillingness of multiple suitors to compete at late stages of the saleprocess. With small unit sales, prospective buyers are less likely tospend the time and money in detailed late-stage due diligence unlessthey have a window of exclusive negotiation. In larger deals, thetransaction values become high enough that suitors will more willinglyinvest in comprehensive due diligence and negotiation prior toobtaining exclusivity.

Multiple bidding rounds become possible with bigger transactions.Instead of a single pass through the sequence of due diligence, bidding,suitor selection and purchase negotiations, there can be iteration,sometimes as much as three cycles. At each round, further disclosureis provided, followed by suitors refining their tender offers andessential terms of a deal. The field of suitors is narrowed at the end ofeach round based on value, terms and risks of their bids. The nextthen cycle begins.

In multi-round bidding sequences the first round is customarily basedon documentary due diligence, with subsequent rounds based onaccess to facilities, management, and increasingly sensitive customer,supplier and financial information. Letters-of-Intent become

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progressively more detailed at each round, advancing toward a finalpurchase agreement.

Marketing and Appraisal

The initial marketing effort builds upon a series of documents preparedby the seller. To construct disclosures to prospective buyers formaximum impact and efficient sale requires a clear sense of: 1) targetaudience; and, 2) how wide a net to cast among potential suitors at theoutset.

Audience

With audience research and analysis in hand from the preparationstage, marketing documents are written. They are promotional pieces.They lay out the strategic rational for acquiring the assets through theeyes of the reader. The purpose of authoring to appeal to theperspective of a suitor’s strategy is so as to not merely rely onfinancial projections to convey the merit of the business.

Promotional items make it easy for reviewers to see how the assets candeliver strategic impact and financial return to improve or defend theirbusinesses.

Collateral Documents

With a grasp of the target audience, appropriate out-bound marketingmessages, and, financial data, preparations then move to writingcollateral documents. The main documents in order of delivery are theintroductory memorandum, offering memorandum, and managementpresentation.

Introductory Memorandum The teaser document is two pages orless. It is the first overture to potential suitors. This overview gives abrief profile of the target business: technology, products, markets,

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customers, operations, strategic impact, and, categories of beneficiallyimpacted potential buyers. It is a non-confidential disclosure designedto interest initial contacts in what is going on the block, but withoutgetting into extensive proprietary information. The teasermemorandum closes with an invitation to sign-back an accompanyingconfidentiality agreement to receive more detailed and proprietarybusiness unit disclosure.

Offering Memorandum The next document is much more revealing,the offering memorandum (OM). It is customarily 25 to 50 pages,providing the past and current overview of the business unit for sale.The prospectus is delivered in confidence. It provides articulationbeyond what is in the public domain about the business’ finances,strategy, operations, technology, intellectual property, products,quality, partnerships, staffing and key individuals. The OM shouldpresent an impressive but credible picture of the business, laying outthe major opportunities and benefits for potential acquirers.

Management Presentation The third collateral instrument is themanagement presentation deck. It briefly recaps the OM, andcustomarily goes on to provide greater forward-looking emphasis,including longer-range financial projections. It also further exploresfuture technology and market trends that can drive the business downthe line. The presentation is usually 15 to 30 slides. In addition to itsscripted content, the presentation allows suitors to meet and hear frommanagement of the target unit, and participate in questions andanswers. The management presentation thus provides not only greaterdialog about the business’ outlook than the OM, but also a first handimpression of unit management’s dedication, knowledge, intellect andcommunication skills.

There are several supporting documents and assemblies of data toready as well:

Confidentiality Agreement The confidentiality agreement (CA) isalternatively referred to as a non-disclosure agreement. It describesboth the seller and suitor obligations to protect sensitive informationthat flows in the course of due diligence, negotiation and integrationplanning. It also protects both should the transaction not be

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consummated, typically including IP provisions and non-solicitation ofemployees. For public companies, stand-still clauses may be included.As noted above, the CA accompanies the teaser memorandum toprotect the OM and other disclosures. It is best if the CA is the samefor all suitors, so that uniform rights and restrictions apply regardlessof which party ultimately ends up as proprietor of the target unit.

Bid Instructions An associated letter to ready during marketingpreparations is one that lays out bidding instructions and timeline. Themain elements of this correspondence are the disclosures to beaccessed during investigation and bidding, the bid deadline, and therequired elements of a valid tender.

For multi-round auctions, an adapted instruction letter initiating eachcycle describes the diligence and tender process. To define the scopeof permitted investigations for the upcoming round, the instructionletter should foretell the information and management access to beprovided during later investigation and bidding rounds. This way,suitors are less likely to prematurely jump ahead.

Purchase Letter of Intent Commonly, there is another non-promotional item to prepare at the same time as other collateral, astandard form purchase letter of intent (LOI). When the desiredtransaction structure is specific and known to the seller, issuing astandard form non-binding LOI describing the favored form helpsqualify indicative offers for the business.

To hone the diligence and negotiations to follow, the LOI should besent accompanying the OM. Appraisers who tender are instructed touse the provided LOI as the basis of their offer, marking it up to reflectimportant differences in deal structure and terms for their candidacy.The benefit of a reference LOI is that it creates greater comparabilityamong tenders. In addition to price as a decision tool for the seller, thefurther the LOI is altered by suitors, the more it loads down the realvaluation and likelihood of successfully concluding a transaction.Using a reference LOI will pay off in more reliable bids and an easierpath to the final purchase agreement.

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Data Room The data room provides full-length copies of articles,contracts, filings and financial statements describing all aspects of thebusiness, including physical assets, leases, employees, suppliers,customers, partners, regulatory filings and certifications, IP, andlicensing, among others. At the same time promotional documents areprepared, as well as LOI, CA, and bid instructions, so too should thedata room. Concurrent assembly of the data room aids consistencyamong all disclosures. Data room disclosures frequently run to severalthousand pages. They follow conventional multi-page checklists ofitems to be investigated.

Frequently Asked Questions One last and useful document isfrequently asked questions (FAQ). It is a living document that evolvesthrough the course of marketing and sale. As investigator questionscome up during appraisal and due diligence, answers should be loggedin the FAQ when they contain information supplemental to the OM,presentation deck, and data room. Responses can then be provided toall investigators if appropriate, or the same answers re-used for similarquestions that arise at a later time.

Due Diligence

Due diligence is a steady effort for both buyer and seller that starts atinitial appraisal, and continues through pursuit, purchase negotiationsand closing. The reputation of the due diligence stage is to exposeconcealed or under-represented weaknesses. For sure, identifyingshortcomings or misrepresentations is part of due diligence. But, ifdue diligence is only viewed through the lens of avoiding negatives,opportunity is lost.

Some also see due diligence for gaining information that will enhanceleverage for subsequent negotiations. This too is a piece of what it cando.

Avoiding mistakes and gaining advantage are part of the game, but thebest use of due diligence by both sides is to build knowledge tooptimize the shape of the transaction. Especially important is toitemize and characterize deal-stoppers and deal-shapers early during

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investigation and negotiations. These are must-have features of a deal,and the highest leverage points. When due diligence is used primarilyto fine tune a mutually beneficial transaction, it contributes the mostvalue to the sale.

Negotiating

Negotiations will start shortly after initial appraisal. Bargaining andaccommodation becomes progressively more involved as disclosuresbecome more revealing. Documentation to reflect the state ofnegotiations gets correspondingly more extensive, moving from LOIthrough draft purchase contracts, often in multiple steps of expansionand detail to reach a signed purchase agreement.

Signing to Closing

Between signing and closing is the time to prepare a detailed projectplan and resource allocation for separation of the unit from the sellingparent and integration into the buyer.

In addition to project planning, the pre-closing period is used to settlethe seller’s inter-company accounts for products and services with thetransferring unit.

At this time, the buyer finalizes financing, if external financing orapproval is needed.

Both buyer and seller should also apply steady effort to anycontrollable factors that can reduce uncertainty and look-backadjustments.

Just prior to closing, it is customary for representatives of the buyerand seller to conduct a joint verification walk-through of the assets.This confirms presence and expected condition of all assets, includingfacilities, equipment, and property.

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Also immediately prior to closing, if there have been significantchanges in working capital compared to the time of due diligence, suchas inventory, accounts receivable or accounts payable, there can beadjustments in deal price to reflect changes. Akin to working capital,the state of completion of R&D tasks and other achievementmilestones are evaluated relative to those expected during negotiations.Pricing is similarly adapted for deviations in development oroperations.

Separation

The separation and integration phase begins after closing when the unitis extricated from the seller and amalgamated with the buyer. Thisstage typically requires corporate and outside resources from the sellersimilar to those for an acquisition. Legal separation comes first,followed by de facto separation of interwoven processes and systems.

For continuity with the representations and disclosures providedduring marketing and purchase discussions, it is best if the same teamcarries out the disengagement and integration. These are the peoplewho prepared disclosures, performed due diligence and conductednegotiations. Keeping the same people involved improves consistency,accountability and speed.

During the separation interval, any required transitional services areprovided from seller to buyer, such as, treasury, IT, human resourceadministration, or accounts receivable, in order to bridge the timeinterval after closing until purchaser business process integration isachieved.

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Timeline

An orderly disposal that achieves high value takes a while. A typicaldivestiture timeline:

Preparation usually takes four to six weeks, to create carve-outfinancial statements, conduct internal and external diligence, chartpathways for management and key staff, identify the sale team, andmake repairs to any fix-able issues with governance, contracts anddisputes

The start generally requires two to three weeks, to author the OMand other collateral documents, contact prospective suitors, andexecute the CA with respondents who wish to appraise thebusiness unit

Appraisal typically lasts three to four weeks, allowing appraisersto review the OM and any preliminary data room documentsprovided by the seller, as well as investigate the target unit’scompetitive environment

Active pursuit often spans two to three weeks, to provide foroffers to be received, initial term sheet negotiated, and best offerselected

Final due diligence frequently requires six to eight weeks tocomplete investigations, negotiate a definitive purchase agreement,and work out the transaction schedule

Closing can take place any time after the purchase agreement isexecuted. Sometimes the closing date is set based on achievementof operational milestones as a risk reduction measure, orsynchronized to fiscal interval end dates to reduce accounting andaudit overhead

Separation follows, and can take from twelve to twenty-fourweeks to disengage the target unit from the seller, integrate withthe buyer, and provide transition services

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In total, four to six months typically elapse from the decision to divestuntil a definitive purchase agreement is reached. Separation afterclosing can take another three to six months.

Sometimes, there is pressure to accelerate the disposal schedule. Often,overly aggressive timetables mean that preparations get rushed, andquality suffers. Suitor interest, negotiating leverage and dealcomplexity can all change unfavorably. When timelines getcompressed, the expected outcome is diminished value.

Communication

There are “Killer D’s” that can undermine business unit sale amongthe seller’s stakeholders: defeat, demoralization, dissension, disruption,defensiveness and division of loyalty. Confidentiality helps resistthese forces, but is not always possible. When an upcoming disposalhas been disclosed, steady communication to involved parties aboutthe merits of the divestiture counts for a lot to hold the D’s at bay.

For employees, the constructive message is that divestiture is not asign of failure, but of strategic strength. It is a natural part of choosingevolution over continuity, to adapt at the speed of the competitiveenvironment. Both the selling parent and the transferring unit canprogress farther and faster than under the previous relationship. Thissuccess underlies career success for management and staff.

Employees will also have concerns about continuation of employment,career prospects and stature, changes in compensation and culture, and,news about the sale effort as it progresses.

Shareholders want to know how the sale will increase shareholdervalue by capitalizing a higher price as seller than owner, and, improvefocus for the remaining business. Equally, shareholders want tominimize the risk of value loss as a result of the sale.

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Customers and partners want to know that their interests are beingprotected through the transition with the opportunity for both the sellerand the transitioning unit to better pursue their goals. At the sametime, customers and partners are usually concerned about potentialchanges in service levels and commitments.

Suppliers seek information about continuation and expansion ofrevenue streams, as well as any changes in contractual terms, pricing,payment and creditworthiness.

Additional constituencies to consider and interact with are media andregulators. Media are primarily interested with impacts on employees,customers, and community, as well as the buyer’s reputation.Regulators want to be notified of competitive implications,employment or other legal notices, and continued compliance withlaws and regulations.

Challenges and Advice

Earlier is better in business unit disposal. One cannot time a saleperfectly, but it is usually better to sell before it is too late. Avoidreactionary selling when problems or differences have becomesevere

It is easier to react to advances than trying to turn on potentialbuyers

Start slow, and finish fast. Attention to detail at the front-end oilsthe wheels for the back-end, keeping erosion of the transferring unitto a minimum

Deal with strategic issues first and practical concerns second, so theright influences shape decision frameworks and transaction structure

Throughout, keep revisiting how the transferring business can bebetter under new ownership

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It is easy for effort to wane during disposal. Divesting is ascomplicated as acquiring, but those involved tend not to attack asale with the same vigor because of a sense of failure. To counteractdisappointment and its byproducts, the team involved in thetransaction needs to be energized with regular communication aboutits merits

The most significant issues will be unearthed by a good buyerduring due diligence. Disposal isn’t a means to concealaccumulated management missteps. Divesting can largely removebad business unit strategy and execution from future concern for theseller’s management, but not erase it from the sale process

A reflex for some managers facing the need to divest a unit is tohedge, seeking to put the activity into a joint venture with one ormore partners. A joint venture is rarely a good divestiture strategy,since the seller’s management needs to be substantially rid of it forfocus, profitability or other reasons. JVs are time consuming toinitiate, and complex to operate. Nevertheless, there are caseswhere the seller can productively assume a JV stake in which thetransitioning unit is contributed. In such instances, an importantfeature is normally to specify limited downstream resource demandsfrom the seller by the JV. Participation in a JV with cappedresource demands can furnish a low cost option on the upsidepotential of the transferring unit without imposing high downstreamliabilities upon the seller

Advisors

In advance of marketing a business for sale, there is the question ofwhether to involve an investment banker or other similar transactionadvisor. On the plus side, bankers add credibility and can helpprocedural discipline of the marketing and sale effort. They can alsocontribute a considerable amount of preparatory work such as writingthe offering memorandum, financial modeling and referencetransaction research, as well as providing advice and experience withfinancial, tax and legal issues. Bankers can provide expertise,

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perspective, and bandwidth. In some cases, involving bankers isobligatory if the seller’s governance requires engaging an advisor.

On the negative side, as domain specialization, risk, and technicalsophistication increase in the assets to be sold, bankers have less value.Further, it can be difficult to attract the best bankers for transactionsunder $20 million, resulting in significant cost for questionableadvisory talent as deal sizes go down. Use of boutique investmentbanks and domain specialists can help obtain better people on smallerdeals.

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About the Author

Dave Litwiller is a senior executive in high technology, based inWaterloo, Ontario. His background is in wireless devices, precisionelectro-mechanics, semiconductors, electro-optics, MEMS, and biotechinstrumentation. He serves as an advisor for various private corporationsin matters of strategy, technology, and business development. Mr.Litwiller is a frequent speaker at technology start-up forums andexecutive conferences on business strategy.