'I was seldom able to see an opportunity, until it ceased to be one."
- Mark Twain
Think Big Enough
Our first job is to inspire you to "think big enough." Time and again the authors have observed the classic small business owner who is enslaved and wedded to the business. Extremely long workweeks of seventy, eighty, or even one hundred hours, and rare vacations, are often the rule rather than the exception. And these hard-working owners rarely build equity, other than in the real estate they may own for the business. The implication is clear: one of the big differences between the growth- and equity-minded entrepreneur and the traditional small business owner is that the entrepreneur thinks bigger. Longtime good friend Patricia Cloherty puts it this way: "It is critical to think big enough. If you want to start and build a company, you are going to end up exhausted. So you might as well think about creating a BIG company. At least you will end up exhausted and rich, not just exhausted!" Pat has a wealth of experience as a venture capitalist and is past president of Patrioff & Company in New York City. She also served as the first female president of the National Venture Capital Association. In these capacities she has been a lead investor, board member, and creator of many highly successful businesses, many of which were acquired or achieved an initial public offering (IPO). Her theme of thinking bigger infuses this book. How can you engage in a "think big" process that takes you on a journey always treading the fine line between high ambitions and being totally out of your mind? How do you know whether the idea you are chasing is just another rainbow or indeed has a bona fide pot of gold at the end? The truth is that you can never know which side of the line you are on - and can stay on - until you try and until you undertake the journey.
Opportunity Through a Zoom Lens
As incomprehensible as thirty-nine rejections may be for many, the original proposal by founder Scott Cook to launch a new software company called Intuit was turned down by that many venture capital investors before it was funded! Thousands of similar examples illustrate just how complex, subtle, and situational (at the time, in the market space, compared with the investor's other alternatives, etc.) is the opportunity recognition process. If the brightest, most knowledgeable, and most sophisticated investors in the world miss opportunities like Intuit, we surely can conclude that the journey from small business to high value is illusive, contradictory, and perilous. Think of it as a sort of road trip through varied terrain and weather conditions. At times, the journey consists of full sunshine and straight, smooth superhighways, but it also has twisting, turning, narrow one-lane descents and ascents that lead to some of the most breathtaking views. Along the way you also will unexpectedly encounter tornadoes, dust storms, hurricanes, and volcanoes. All too often you seem to run out of gas without a service station in sight, and flat tires come when you least expect them. This is the entrepreneur's journey.
Transforming Caterpillars into Butterflies
This chapter is dedicated to making that journey friendlier by focusing a zoom lens on your small business. It shares the road maps and bench- marks used by successful entrepreneurs, venture capitalists, angels, and other private equity investors in their quest to transform the often-shapeless caterpillar of a small business into a spectacularly handsome butterfly of a high-value venture. These criteria constitute the core of their due diligence to ascertain the viability and profit potential of the business, and, therefore, the balance of risk and reward. This chapter will examine the role of ideas and pattern recognition in the creative process of entrepreneur ship.
You will come to see the criteria used to identify higher-potential ventures as jumping-off points at this rarefied end of the opportunity continuum, rather than mere endpoints. One to ten out of one hundred entrepreneurs create ventures that emerge from the pack. Examined through a zoom lens, these ventures reveal a highly dynamic, constantly molding, shaping, and changing work of art in progress, rather than a product of a pat formula or one created by meeting certain conditions on a checklist. This highly organic and situational character of the entrepreneurial process underscores the criticality of determining^ and balancing risk and reward. As the authors have argued for decades: high-value businesses constantly evolve in the face of changing market demand and the nuances of the capital markets. It is in this shaping process that the best entrepreneurial leaders and investors add the greatest value to the enterprise, and creatively transform what may appear as a mundane caterpillar of a small business into a magnificent butterfly of a venture.
Small Company Realities
To begin with, it is useful to put some of the realities faced by Scott Cook and millions of others in perspective, as he is not alone in what he went through. Consider the following fundamental realities as normal and to be expected as you seek to convert your caterpillar of a company into a gorgeous butterfly:
New Ventures: Some Fundamental Realities
• Most companies are works in process and works of art.
• Your business plan is obsolete at the printer. (For example, Onset Venture Partners found that 91 percent of portfolio companies that followed their business plan failedl) • Speed, adroitness of reflex, and adaptability are crucial.
• The key to succeeding is failing quickly and recouping quickly
• Success is highly situational: time, space, context, and stakeholders.
• The best entrepreneurs specialize in making "new mistakes" only.
• You can last a lot longer and do more than you think if you avoid going it alone.
These realities are intended to convey the highly dynamic, at times chaotic, nature of this beast, and the fluctuating context within which most companies evolve. Such realities present so much room for the unexpected and the contradictory that it places a premium on thinking big enough and doing everything you can to make sure your company grows and creates value. Therefore, how can the aspiring entrepreneur think about this complex, even daunting, challenge?
The Circle of Ecstasy and the Food Chain for Ventures
What most small businesses do not know, but what is a way of life in the world of high-potential ventures, is what we will call the "circle of venture capital ecstasy" (Exhibit 1.1) and the "food chain for entrepreneurial ventures" (Exhibit 1.2). These concepts enable the entrepreneur to visualize clearly how the company building-investing-harvesting cycle works in practice. Understanding this cycle and the appetites of different suppliers in the capital markets food chain enables you to answer these questions: for what reason does this venture exist, and for ■whom'? Knowing the answers has profound implications for fund-raising, Team Building, and growing and harvesting the company - or settling into small business myopia that keeps you from thinking about anything but surviving each day.
In Exhibit 1.1 you can see that the key to creating a company with highest value begins with articulating your opportunity in the best technology and market space, which draws the best management teams. Speed and agility to move quickly in turn attracts the best investors, board members, and other mentors and advisors, who can truly add value to the venture. Exhibit 1.2 captures the food chain concept, which will be discussed again in greater detail later in the book. Note that different players in the food chain have very different capacities and preferences for the kind of venture in which they want to invest. The vast majority of small-business people spend inordinate amounts of time chasing the wrong sources. One of our goals in this book is to provide a clear picture of what those criteria are and to grasp what "think big enough" means to the players in the food chain. This is a critical early step in avoiding time-wasting resource pursuits when there is simply a misfit from the outset. As one CEO put it, "There are so many investors out there that you could spend the rest of your career meeting with them and still not get to all of them."
Why waste time thinking too small and on ventures for which there is no appetite in the financial marketplace? Knowing how suppliers of
Exhibit I.I Circle of Venture Capital Ecstasy
Stage of Venture
Amount of Capital Invested Up to $200,000
Percentage Company Owned 10-25% at IPO
Company Enterprise Value at Stage
Less than $1 million Founders; high net-worth individuals; FFF*; SBIRf
$l-$5 million FFF; angel funds; seed funds; SBIR
$IO,000-$5 00,000 5-15%
More than $ I - $50 million Venture capital series A, B, C . . . $; strategic partners; very high net-worth individuals; private equity $500,000-$20 million 40-60% by prior investors
More than $100 million IPOs; strategic acquirers; private equity
$10 - $50 million -+ 15-25% by public
Share Price and Number§ $.01 - $.50
$.50-$ 1.00 1-3 million
$l.00-$8.00 5-10 million
$12-$ 18 + 3-5 million
* Friends, families, and fools
Small Business Innovation Research, an N&F program £ Venture capital series A, B, C . . . (average size of round) A @ $5 million - start-up B @ $7.5 million - product development C @ $12 million - shipping product Valuations vary markedly by industry (e.g., 2xs) Valuations vary by region and VC cycle § At post-IPO capital, and entrepreneurs, think about the opportunity creation and recognition process, their search and evaluation strategies, and what they look for is a key frame of reference.
When Is an Idea an Opportunity?
If an idea is not an opportunity, what is an opportunity? An opportunity has the qualities of being attractive, durable, and timely and is anchored in a product or service that creates or adds value for its buyer or end user.1
For an opportunity to have these qualities, the "window of opportunity" is opening and remains open long enough. Further, entry into a market with the right characteristics is feasible and the management team is able to achieve it. The venture has or is able to achieve a competitive advantage. Finally, the economics of the venture are rewarding and forgiving and allow significant profit and growth potential.
The most successful entrepreneurs, venture capitalists, and private investors are opportunity focused; that is, they are obsessed with what customers and the marketplace want and do not lose sight of this.