A Financial Perspective on Pitfalls and Conflicts of Commercializing Technologies Dr. George Morgan, [email protected] Executive Director Center for Wireless

A Financial Perspective on Pitfalls and Conflicts of Commercializing Technologies

Dr. George Morgan, Dr. George Morgan, [email protected] [email protected] Executive DirectorExecutive Director

Center for Wireless TelecommunicationsCenter for Wireless Telecommunications

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Outline of Presentation

Why focus on commercialization (plans)?Why focus on commercialization (plans)? Why are technology companies different?Why are technology companies different? What are the conflicts that occur in the What are the conflicts that occur in the

commercialization process?commercialization process? How does a financial plan help and what is How does a financial plan help and what is

the role of the financial analyst? the role of the financial analyst? What are the elements of the financial plan?What are the elements of the financial plan? What issues are pitfalls of financial plan?What issues are pitfalls of financial plan?

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Topics & Target AudienceTechn.Techn.

Scient.Scient.

Business Business

ExpertsExperts

TopicTopic FacultyFaculty Entrep.Entrep. Fin StrategyFin Strategy

Why Commerc.?Why Commerc.? √√Techn. Co. Diff.Techn. Co. Diff. √√Players &ConflictPlayers &Conflict √√ √√ √√How Fin. Helps?How Fin. Helps? √√ √√Elements of PlanElements of Plan √√Pitfalls in Proc.Pitfalls in Proc. √√

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Why focus on commercializing technology? It is the future of the companyIt is the future of the company

Need new products to keep ahead of competitors and Need new products to keep ahead of competitors and serve customers before they know they need itserve customers before they know they need it

It’s hard to do & you must consciously pursueIt’s hard to do & you must consciously pursue Requires planning and nurturingRequires planning and nurturing Tangible reward to scientists, engineersTangible reward to scientists, engineers

But they may not see it that wayBut they may not see it that way Someone else will not do it (for you)Someone else will not do it (for you)

Unless they capture all the benefits of doing itUnless they capture all the benefits of doing it It is easy to ignore the commercialization processIt is easy to ignore the commercialization process

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Scientists and Commercialization They grow apples -- excellent, beautiful apples!They grow apples -- excellent, beautiful apples!

Develop the orchard, fertilize and water the treesDevelop the orchard, fertilize and water the trees But let someone else pick them for consumptionBut let someone else pick them for consumption For them, growing the apples is enoughFor them, growing the apples is enough

Why should you care how someone else is going to pick them?Why should you care how someone else is going to pick them? Why should you care how the trees are arranged, how high the Why should you care how the trees are arranged, how high the

apples are, the difficulty of picking them?apples are, the difficulty of picking them? They were successful in growing beautiful apples!They were successful in growing beautiful apples! Is it someone else’s problem if they don’t get delivered Is it someone else’s problem if they don’t get delivered

to consumers in a way that they like?to consumers in a way that they like? Yet this is often the perspective of innovatorsYet this is often the perspective of innovators

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R&D as an Option to Harvest Investment in R&D is purchase price on an optionInvestment in R&D is purchase price on an option At some future date, you have the option of At some future date, you have the option of

exercising, I.e., exploiting/harvesting the exercising, I.e., exploiting/harvesting the innovationinnovation

The exercise price is the amount of money you The exercise price is the amount of money you would spend to harvest the benefits of the R&Dwould spend to harvest the benefits of the R&D This would be the costs of further developing the idea, This would be the costs of further developing the idea,

patenting the innovation, pursuing market tests/clinical patenting the innovation, pursuing market tests/clinical trials (which amounts to purchasing another option)trials (which amounts to purchasing another option)

You get to keep the underlying commercial value You get to keep the underlying commercial value or you could sell it to someone elseor you could sell it to someone else

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Should your innovative designs sit on the shelf? You made the investment in the R&DYou made the investment in the R&D You don’t want to throw away the investmentYou don’t want to throw away the investment

ExerciseExercise the option when it is “in the money” the option when it is “in the money” If you don’t develop it, you could sell it to someone If you don’t develop it, you could sell it to someone

else to developelse to develop But how will you know if you are getting a fair price But how will you know if you are getting a fair price

unless you do some research on the value of the unless you do some research on the value of the technologytechnology

But if you go that far, why not develop it yourself?But if you go that far, why not develop it yourself? Would you rather see: the technology sit on the self Would you rather see: the technology sit on the self

or that it gets deployed and put into use?or that it gets deployed and put into use?

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What distinguishes technology enterprises from others? R&D is a very important component. Implications are:R&D is a very important component. Implications are:

Long lead times for getting revenuesLong lead times for getting revenues High uncertainty about the outcomeHigh uncertainty about the outcome Intellectual property is an important assetIntellectual property is an important asset Company’s value is heavily in human capitalCompany’s value is heavily in human capital

Uncertainty aboutUncertainty about Where technology will lead (“options”), will it work?Where technology will lead (“options”), will it work? Rapid obsolescence is likely, competitors are numerousRapid obsolescence is likely, competitors are numerous Regulation -- can change rapidly, taking away an advantageRegulation -- can change rapidly, taking away an advantage Timing to market – when get the return on investmentTiming to market – when get the return on investment

Makes financing very difficult to obtain especially for Makes financing very difficult to obtain especially for small firms with little history -- financing the purchase of small firms with little history -- financing the purchase of an option!an option!

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Other Features of Tech In some areas, high tech is very capital intensiveIn some areas, high tech is very capital intensive

Semiconductor fab facilitiesSemiconductor fab facilities Satellite communications systemsSatellite communications systems So heavy dependence on financing to start and surviveSo heavy dependence on financing to start and survive

Investors know that future financing will be necessaryInvestors know that future financing will be necessary Catch 22 – they won’t give you financing unless you can get Catch 22 – they won’t give you financing unless you can get

financingfinancing Software business is less capital intensive Software business is less capital intensive

but requires constant upgrading of the “machinery” that your but requires constant upgrading of the “machinery” that your programmers use to deliver new uses to customersprogrammers use to deliver new uses to customers

Telecommunications costs to link your software developers can Telecommunications costs to link your software developers can become very expensivebecome very expensive

Service and support long after the saleService and support long after the sale Protection of intellectual property, patentsProtection of intellectual property, patents

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Features (cont.) Market demand is difficult to defineMarket demand is difficult to define

Customers don’t know what you can give them Customers don’t know what you can give them Difficult to market something new and innovativeDifficult to market something new and innovative

Customers cannot understand it, have no reference Customers cannot understand it, have no reference points, need to be educated first then purchasepoints, need to be educated first then purchase

Customer is often another company, not the ultimate Customer is often another company, not the ultimate consumerconsumer Know your customer’s customer, better than they do.Know your customer’s customer, better than they do.

Often the ultimate product is not what the original Often the ultimate product is not what the original vision was (different options get exercised)vision was (different options get exercised)

Difficulty convincing financial markets Difficulty convincing financial markets high level of uncertainty and little financial backstop high level of uncertainty and little financial backstop

(that a large company might have)(that a large company might have)

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Scient.Scient.

Business Business

ExpertsExperts



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Commercialization Process

Crafting a strategy for bringing a new idea to the Crafting a strategy for bringing a new idea to the market place and into the hands of users in such a market place and into the hands of users in such a way as to sustain the company producing the way as to sustain the company producing the product or serviceproduct or service

Requires expertise in technical areas for design and Requires expertise in technical areas for design and manufacturing but also in marketing, financing, manufacturing but also in marketing, financing, managementmanagement

Undertake a careful examination of the product, its Undertake a careful examination of the product, its strengths and weaknesses, and its fit with the needs strengths and weaknesses, and its fit with the needs of usersof users

The players in the commercialization effort:The players in the commercialization effort:

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Innovator and founder of the company Key creative talent and resource butKey creative talent and resource but

Not a marketerNot a marketer Not financially inclinedNot financially inclined Not a manager of people but of ideasNot a manager of people but of ideas

Exercising the option to become a manufacturing or Exercising the option to become a manufacturing or service company puts you into a different phaseservice company puts you into a different phase

Issue: when to harvest the crop vs. let it continue to growIssue: when to harvest the crop vs. let it continue to grow Making further improvements - get it perfect vs. get it to marketMaking further improvements - get it perfect vs. get it to market Engineer/scientist will want to continue improving, tweakingEngineer/scientist will want to continue improving, tweaking

Founders may take a much reduced role in operationsFounders may take a much reduced role in operations Allows founder/scientist to explore Allows founder/scientist to explore nextnext innovation innovation

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Bias of the technology entrepreneur Technology is cool, exciting, desirable (how could Technology is cool, exciting, desirable (how could

anyone resist?)anyone resist?) Technology will work (or I will get it to work Technology will work (or I will get it to work

eventually)eventually) Markets/Lenders don’t understandMarkets/Lenders don’t understand Everyone will want to buy it because it is such slick Everyone will want to buy it because it is such slick

technology, great gadgettechnology, great gadget Finance is just details, irrelevant to success, not Finance is just details, irrelevant to success, not

“real”“real”

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Investors (VC) and their Accountants Profitability as measure of progressProfitability as measure of progress Want a successful company Want a successful company

(So can sell it at a profit later?)(So can sell it at a profit later?) At a multiple of the profits/book value?At a multiple of the profits/book value?

Want market acceptanceWant market acceptance By customersBy customers By financial market and institutionsBy financial market and institutions The “Story” - simple and understandableThe “Story” - simple and understandable

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Bias of the finance professional Conservative, fiduciary-type of responsibilityConservative, fiduciary-type of responsibility Seen/heard lots of good stories, only to find no Seen/heard lots of good stories, only to find no

financial planning, no structurefinancial planning, no structure Seen horror stories of bankruptciesSeen horror stories of bankruptcies

Bring entrepreneur down to earthBring entrepreneur down to earth Examine assumptions for realismExamine assumptions for realism

Help plan for financial issuesHelp plan for financial issues Doesn’t understand the technology (and may not Doesn’t understand the technology (and may not

want to)want to) Doesn’t care Doesn’t care howhow it works, or how slick, it works, or how slick, just just whetherwhether it works as well as it was touted it works as well as it was touted Doesn’t see future technical options for improvementDoesn’t see future technical options for improvement

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Conflict: engineers vs. accountants / investors vs. lenders Technology vs. profits vs. cash flow Technology vs. profits vs. cash flow Each makes their reputation in different wayEach makes their reputation in different way Each judges success using different measuresEach judges success using different measures Can produce disastrous results if not managed wellCan produce disastrous results if not managed well Need to build appreciation of contributions of eachNeed to build appreciation of contributions of each (haven’t even mentioned lawyers, marketing, sales, (haven’t even mentioned lawyers, marketing, sales,

management, HR)management, HR)

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Scient.Scient.

Business Business

ExpertsExperts



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How Does Financial Analysis Help? Tracking the financial consequences of decisions Tracking the financial consequences of decisions

made in technical design, marketing strategymade in technical design, marketing strategy Quantifying/qualifying assumptions & perceptionsQuantifying/qualifying assumptions & perceptions

Bringing visions and fantasies back to realityBringing visions and fantasies back to reality Doing reality checks: consistency of assumptions across Doing reality checks: consistency of assumptions across

the teamthe team Giving feedback to designers and managers on Giving feedback to designers and managers on

what works financially and what doesn’twhat works financially and what doesn’t Identify when more funds needed to get thru Identify when more funds needed to get thru

difficult perioddifficult period Assessing the net value added of a investmentAssessing the net value added of a investment

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Role of financial analyst

Should interact with engineering designShould interact with engineering design Should interate with design and manufacturingShould interate with design and manufacturing Should operate in parallel with designShould operate in parallel with design If the last step in the process, carries heavy burdenIf the last step in the process, carries heavy burden

Gatekeeper at the end isn’t viewed affectionatelyGatekeeper at the end isn’t viewed affectionately ““No” people who don’t understand technical tradeoffsNo” people who don’t understand technical tradeoffs Asking irritating questions Asking irritating questions Up against the deadline since the last node in the processUp against the deadline since the last node in the process

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Financial Analyst: part of the team Although the financial analysis is the last stepAlthough the financial analysis is the last step The analyst should be involved from the beginningThe analyst should be involved from the beginning

To hear about the tradeoffs being madeTo hear about the tradeoffs being made To understand more about the technologyTo understand more about the technology To give feedback that is relevant and realisticTo give feedback that is relevant and realistic

The financial analysis should start very near the The financial analysis should start very near the beginning of the technical design - don’t excludebeginning of the technical design - don’t exclude

Telling designers at the end that their earlier Telling designers at the end that their earlier choices were not good ones is a tough sellchoices were not good ones is a tough sell Generally not useful or productive -- it’s too lateGenerally not useful or productive -- it’s too late

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Understanding effects on financial statements Essential for understanding what is happeningEssential for understanding what is happening Income statementIncome statement

Revenues and expenses according to GAAPRevenues and expenses according to GAAP Balance SheetBalance Sheet

Snapshot of things you own and amounts you oweSnapshot of things you own and amounts you owe Cash Flow statement (especially important!)Cash Flow statement (especially important!)

Where money flowed from and where it wentWhere money flowed from and where it went Example: purchase of equipment does not flow Example: purchase of equipment does not flow

immediately to the income statement, does affect the immediately to the income statement, does affect the cash flow statement and appears on balance sheetcash flow statement and appears on balance sheet

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How can these give different pictures of the same firm? Can be profitable but bleeding cash flow Can be profitable but bleeding cash flow

(causing financial crisis and failure)(causing financial crisis and failure) Can be cash flow positive, but losing profit-Can be cash flow positive, but losing profit-

wise (wiping out owners $ ==>failure)wise (wiping out owners $ ==>failure) Can have a strong balance sheet & be Can have a strong balance sheet & be

experiencing losses and negative cash flowexperiencing losses and negative cash flow

If cash flow is positive and can be If cash flow is positive and can be sustained, then success can result for allsustained, then success can result for all

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BFG: BEWARE BFG: BEWARE of Fast Growthof Fast Growth

Negative cash Negative cash flow is a hallmark flow is a hallmark of growthof growth

Because of leads Because of leads and lags in and lags in financial receipts financial receipts and paymentsand payments

Insolvent growth Insolvent growth companies are companies are common!common!

0

100

200

300

400

500

600

700

800

2 3 4 5 6 7 8 9 10 11 12 13

Sales Over Time

First Stage of Rapid Growth

2nd Stage of Rapid Growth

Stalled Growth

NET Estimated Flow

(200)

(150)

(100)

(50)

0

50

100

150

200

2 3 4 5 6 7 8 910 11 12 13

Time

Dollars

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Analogy in RF Communication Transmit power from antenna gives good link Transmit power from antenna gives good link

budget with sufficient margin at receiverbudget with sufficient margin at receiver BUT high bit error rate observed at receiverBUT high bit error rate observed at receiver Due to high multi-path environmentDue to high multi-path environment Increasing power doesn’t helpIncreasing power doesn’t help Increasing the power may hurt - produces non-Increasing the power may hurt - produces non-

linearity in power amplifier- further distortionlinearity in power amplifier- further distortion Need to find other ways to control the “costs” Need to find other ways to control the “costs”

(interference) that are sapping quality and keep (interference) that are sapping quality and keep transmit power at reasonable levels (e.g., use an transmit power at reasonable levels (e.g., use an equalizer that corrects phase)equalizer that corrects phase)

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Scient.Scient.

Business Business

ExpertsExperts



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Commercialization and financial planning issues Specific issues as you develop your Specific issues as you develop your

financial plans to cope with the problemsfinancial plans to cope with the problems Cash budgets - elements to watchCash budgets - elements to watch Forecasting economic life – obsolescenceForecasting economic life – obsolescence

Incorporate (re)actions of competitorsIncorporate (re)actions of competitors

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Cash flow budget issues

Cash flow planning to assess financial Cash flow planning to assess financial feasibility & needs for financingfeasibility & needs for financing

Product that doesn’t yet have a marketProduct that doesn’t yet have a market Range of estimates, not a “point estimate”Range of estimates, not a “point estimate” Sensitivity to assumptions -- which are the Sensitivity to assumptions -- which are the

critical assumptions?critical assumptions? Which should you spend more money trying to Which should you spend more money trying to

hone or verify…or get better predictions about?hone or verify…or get better predictions about? Which engineers should re-examine to ∆ designWhich engineers should re-examine to ∆ design

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Elements of financial plan RevenuesRevenues

Market addressed, prices charged, take-upMarket addressed, prices charged, take-up Heavy market assessment (related to education of Heavy market assessment (related to education of

market on the new technology and its uses)market on the new technology and its uses) Costs/InvestmentsCosts/Investments

Personnel: admin, production, scientistPersonnel: admin, production, scientist Telecom, power, equipment, supplies, rolling stock, Telecom, power, equipment, supplies, rolling stock,

rent, leasing, insurancerent, leasing, insurance Raw materialsRaw materials Advertising, business development, Advertising, business development, customer supportcustomer support, ,

R&D (to get to next generation)R&D (to get to next generation) Cost of financing inventory, A/R, L/C, patents, etc.Cost of financing inventory, A/R, L/C, patents, etc. Taxes (if you are lucky enough to be profitable)Taxes (if you are lucky enough to be profitable)

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Economic Life/ “Obsolescence” Issues Technological obsolescence Technological obsolescence

New competitors enter your marketNew competitors enter your market Economic obsolescenceEconomic obsolescence Replacement models -- Look at a long Replacement models -- Look at a long

enough term to see the replacement issues enough term to see the replacement issues in full contextin full context Otherwise bias against expensive alternatives Otherwise bias against expensive alternatives

with longer time to obsolescencewith longer time to obsolescence

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Making incumbents partners Getting small investment from themGetting small investment from them Using their expertise – billing and operations, for Using their expertise – billing and operations, for

exampleexample Using their infrastructureUsing their infrastructure Convincing them that you have something that will Convincing them that you have something that will

benefit thembenefit them Perhaps help them fight their competitorsPerhaps help them fight their competitors Giving them entrée to some market that they didn’t Giving them entrée to some market that they didn’t

have the time to explorehave the time to explore Nonetheless – difficult to convince incumbents Nonetheless – difficult to convince incumbents

with cash cows to change horses (to mix a with cash cows to change horses (to mix a metaphor)metaphor)

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Competing with incumbents

They don’t care about you until you start looking They don’t care about you until you start looking successfulsuccessful

They won’t make investment that isn’t beneficial for They won’t make investment that isn’t beneficial for themthem

They have existing markets that they would They have existing markets that they would cannibalize, so the benefit of a new technology is cannibalize, so the benefit of a new technology is smaller for themsmaller for them They may not see the need to cannibalize their existing They may not see the need to cannibalize their existing

market, until they see you becoming successful…market, until they see you becoming successful… Factor into financial model as increased competition Factor into financial model as increased competition

that lowers prices, increases costs of competingthat lowers prices, increases costs of competing

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Feed Back Loop

Wouldn’t it be better if the process wasn’t Wouldn’t it be better if the process wasn’t linear in series with finance at the end (of linear in series with finance at the end (of the presentation)?the presentation)?

Giving engineering Giving engineering designdesign feedback on feedback on obsolescence issues, costs, key driversobsolescence issues, costs, key drivers

Focusing financial talents also on creating Focusing financial talents also on creating the incentives and motivating the innovator the incentives and motivating the innovator to design the “right stuff”to design the “right stuff”

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Summary Exercise the options that you purchased!Exercise the options that you purchased! Recognize conflicts, different motivations among Recognize conflicts, different motivations among

parties working on commercializationparties working on commercialization Get everyone involved talking and discussing earlyGet everyone involved talking and discussing early

Use financial planning to make realistic plansUse financial planning to make realistic plans To create greater coherence of the team, To create greater coherence of the team, earlierearlier Check assumptions, sensitivity to estimatesCheck assumptions, sensitivity to estimates

Identify where to spend more engineering efforts, Identify where to spend more engineering efforts, more resources to refine estimatesmore resources to refine estimates

When will more funding need to be raisedWhen will more funding need to be raised Obsolescence, incumbents, customer support costs Obsolescence, incumbents, customer support costs

The “BFG”The “BFG”

www.cwt.vt.eduwww.cwt.vt.edu

Interdisciplinary Innovation Interdisciplinary Innovation InIn

Wireless CommunicationWireless Communication

Center for Wireless Telecommunications

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A Financial Perspective on Pitfalls and Conflicts of Commercializing Technologies Dr. George Morgan, [email protected] Executive Director Center for Wireless