The Start Up Challenge

Michael Kay

The Start Up Challenge

1 Kay Associates May 05

Right Time, Right Product, Right Market

“The strongest principle of growth lies in human choice.”

George Eliot


The Start Up Challenge – It’s Not Easy!

“We see others making progress, yet we seem to be stuck! Why?”

Is it technology?

Is it product?

Is it target market?

Is it money?

Is it location?

Are they just better than us?

Let’s take a look at some important elements………….

“If there is no struggle, there is no progress.” Frederick Douglass


First Ask Yourself……… Why start a new business?

How big is the market opportunity?

Who is your customer?

What “customer pain” is being addressed?

What product and service will the business deliver?

How will the product benefit the customer?

Why will a customer use your products?

How much capital will be needed for each stage of development?

Where will the required capital come from?

What is the exit strategy for investors?


Why Start a New Business?

Because you have a vision!Can the vision be articulated clearly and simply?

A business plan with attitude.

Are technology/products evolutionary or revolutionary? There is no right or wrong answer, just a clear answer.

If revolutionary the challenge can be a lot tougher!

What are the ingredients and factors for success? Quantified and qualified.

Is the business sustainable and scalable? Target growth markets – products to meet the demand

"Everything should be made as simple as possible, but not one bit simpler”. Albert Einstein


How Big is The Business Opportunity? Do you know your target market (and segments)?

Be specific – don’t “cast a wide net”

Do you know what the market drivers are? What drives these markets? Will your customers pay a premium for your product/service?

How big is the market opportunity (TAM, SAM, SOM)? Top-down understanding is good, but must be supported with bottom-up planning

– this WILL require customer endorsement.

What is the “go-to-market” strategy? Alpha/Beta sites? Broad-based channel launch? Partnership?

Once in the market, can the products sustain a strong position? How will you handle competition (technology leadership, highly differentiated

product roadmap, customer support)?

Is the technology/product scalable? As the markets grow and new opportunities present themselves, is the technology

and product roadmap able to adapt?


Who is Your Customer?

Know where you are in the “food chain”, and who sells to whom Component in a sub-system? Sub-system in a system? System solution?

Know the gestation period between winning the business and collecting payment! Design win to an order An order to a shipment/invoice Invoice to payment

Assess the risk and exposure in the food chain Capture revenue by point-of-sale (POS), not point-of-purchase. Build to order or build to inventory turns?

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What Customer Pain Points Are Addressed?Can you pinpoint the bottlenecks and pain points customers

suffer in your target markets?

Can you show them how your product removes the pain and bottleneck?

Customers want short term fixes and long term solutions (“aspirin” and “vitamin”).

Can you show a roadmap that will address your customer’s future challenges?

Can you show how your solution is unique or highly differentiated?

“Pain is inevitable; suffering is optional.” Unknown


What Products and Services Will Be Supplied?

Are the products evolutionary or revolutionary? Revolutionary means concept selling, but should create longer term sustainability. Evolutionary requires first mover mindset – stay ahead of the crowd

How many products are there? Is this a one-product company? If so, make sure it’s “Coca Cola”!

Is there a product roadmap? Customers expect to see how the technology/product roadmap will support their needs going

forward.

What level of service will you have to provide? Field support, design in/win resources, sales training, system level reference designs

There is no product without service. Often underestimated, sometimes ignored.

A sign of celebrity is that his name is often worth more than his services.

Daniel J. Boorstin


How Will The Product Benefit Your Customer?Features and benefits

Are the features clear, unambiguous and compelling?What is the benefit to the customer?

Time to market? Time to money? Cost? Competition “killer”? Performance? Flexibility, versatility?

Is “ease of use” a factor?Get the customer excited by your products!

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Why Will Customers Choose Your Product?

Sufficient differentiation and easy to understand benefits?

Compelling features and ease of use?

New companies are always considered a risk

Lack of resources, financial risk, may not meet commitments etc.

How will you overcome these perceived issues?

Use references.

Access to board members.

Initially, limited customer engagements to show focus and intent on success.

Close communication with customers at executive level.

Does the customer-base know you exist (or even care)?

Participation in standards committees, article contributions etc.


How Much Capital Will Be Needed?

Has a thorough financial analysis been completed? By technology development

By product development

By cost center

By Geography

Have business objectives been correctly resourced? People, equipment, communications

Have value-building milestones been defined? Customer validation of products

First product delivery

First revenues

Can early revenues or pre-sales be leveraged? Customers/partners pre-paid participation


What Are the Sources of Capital?

Own, family/friends

Pre-sales, NRE, joint development projects

Seed, “angel”

Institutional investors – VCs

Directed equity investment through corporate player

Private Placement

Initial Public Offering

Debt leveraging

The tooth fairy teaches children that they can sell body parts for money.David Richerby


Private EquityStage Funding Sources Agent

Seed / StartupSelf / Family / Friends /

Angels / Venture CapitalNo

Early Stage(Series A)

Venture Capital No

Expansion(Series B)

Venture Capital / Corporate Sometimes

Expansion / Later Stage(Series C)

Venture Capital / Corporate / Institutional

Often

Mezzanine(Series D,...)

Corporate / Institutional Yes

Refinancing (“down round”, “pay to

play”, etc.)Self / Venture Capital Sometimes

Source: Soundview Technology Group


Valuation

In the eye of the beholder!

Quite subjective, but look for comparables.

Based on forward looking projections, then discounted for risk.

Don’t expect a valuation that does not represent a fair market value

Strong position if revenues and earnings are measurable.

Financial trends are important.

Large up-rounds can be followed by large down-rounds!

Founders have to be realistic – think exit not entry.

“2 is not equal to 3, not even for large values of 2.” Grabel's Law


Private Equity Valuation Drivers Quality of management team

Size and maturity of market opportunity

Scalability

Uniqueness and defensiveness of technology

Stage of product development

Competitive landscape

Credible financial projections

Prior investors and capital structure

“Cash in, cash out” (“X” times investment within “Y” years)


Term Sheets

The obvious cost Shares sold Price per share

The hidden costs Cumulative dividends Liquidation preference Conversion rights and ratio Anti-dilution provisions Voting rights Protective covenants Registration rights Redemption rights Rights for purchase of new securities Option pool Board representation Expenses

When the gods wish to punish us, they answer our prayers.

Oscar Wilde


Initial Public Offering (IPO)

Has become a major challenge!

Public investors want

Profitability

Stability

Visibility

Liquidity

Significant discount from public comparables

Unclear which IPOs will have appeal in public markets


IPO Valuation Considerations

Minimum Market Float: $40 – $50 million

Maximum Percentage of Company Offered: < 30%

Average CY2003 P/E Multiple: 30x

less: “IPO discount” of 20% - 6x

24x

Minimum CY 2003 Earnings: $45 million

30% = $6.25M

24x (35% tax)

Derived CY 2003 Revenue: ~ $65 million (assuming 15% operating margin)

IPO possible if $50M+ in revenue, with excellent profitability!!Source: Soundview Technology

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Trade Sale

Can be stock or asset purchase

Asset purchase leaves “baggage” behind for acquirer and leaves shareholders with liabilities.

Can be outright purchase of all shares

Cash/stock based transaction – usually with earn-out

Sometimes, bonus payments for milestone achievements are included – normally hotly negotiated!

The “20 / 80 deal”

Buyer purchases combination of new / secondary shares representing <20% of pro forma outstanding shares

Option to purchase remaining shares at some formula price (typically revenue-based) at a future date

Often entails co-marketing and co-development agreements

Allows necessary funding without corporate buyer incurring interim operating losses


Are You Meeting Milestones?

Be assured that companies making progress are addressing the issues and rationalizing their actions.

Have a plan and a strategy, but avoid strategic decisions!

The strategy will change as business factors change.

Contingency planning is part of the culture.

Systems and processes to help guide a company in its decisions.

Listen and ask for advise (board of directors, advisors, customers, analysts, press etc.).

“Focus 90% of your time on solutions and only 10% of your time on problems.” Anthony J. D'Angelo

The most dangerous strategy is to jump a chasm in two leaps. Benjamin Disraeli


Simply Put…….

Vision! Expressed in a business plan. Revealed through the culture of the company.

Focus! Leadership and clarity.

Execution! Calculated and crisp.

And some luck! But don’t wait for it – create it!

“I'm a great believer in luck, and I find the harder I work the more I have of it.” Thomas Jefferson
