Startup challenges and how they can differ from large companies: Focus

As someone who has spent about half my career in startups and the other half in large organizations, I constantly compare one to the other as a way to figure out how to get the best of both worlds.  There are many examples (and sterotypes) about how big companies are notoriously slow and lack innovation.  Just about anyone who has worked in both types of businesses can put together a big list of pros and cons of big versus small.

The questions that I continually ask my network of former large organization leaders who now work at startups typically relate to the common challenges startups face and what could they learn from large organizations.

This post is the first in a series stemming from recurring observations and conversations I have had across many startups in which benchmarking successful large companies practices would benefit a growing startup.

To start we will discuss ‘Focus’.

There are many smart people who have already discussed the importance of focus to any organization.  Just about every organization says they are focused, and even believe it. However as you start to peel the onion and ask specific questions, you can see how startups try to be clever in investing in too many opportunities at the same time.  To me, in a startup there are two elements to being focused. The first is having the right amount of time, people and resources to successfully achieve a project’s goals. But the second is also not investing in additional projects that could draw on resources, cash or leadership attention that your main project could have/would have needed.

The first question I like to understand about a startup is where they are at as a company. Are they before or after product-market fit?  When I worked at Emmperative we had two big customers who wanted very different enterprise marketing solutions.  Coca-Cola wanted a Sales & Marketing digital asset management distribution solution while Procter & Gamble wanted a Brand Management workflow product. Let me tell you, these are very different types of products. But we wanted to keep both name-plate companies happy. So we split our engineering efforts to solve two separate jobs.  Without going into all the details, our products were still so young they didn’t solve either customers needs completely.

At Adify, we hadn’t yet gotten to product-market fit with our first Build-Your-Own-Network solution, yet we were going after four completely different markets trying to see where we could get traction. Of course each of the markets had their own unique requirements, so until they began to focus on just one market segment which showed promise a lot of cash and resources were spent inefficiently.

One way to think about focus is to divide a startup’s offerings into the three buckets.

#1      Growing & profitable

#2      Fast growing, but not yet profitable (after Product-Market fit)

#3      Before Product-Market fit

If your startup is far enough along to have a product line in bucket #1, it really makes sense to keep investing in your success and allocating resources to buckets #2 and #3 (we can discuss the proportion at another time).

However most early stage startup’s primary/flagship offering is in bucket #2 or #3.

Let’s tackle the easy case first, bucket #3. If your startup has not yet reach product-market fit with its primary offering, investing in multiple offerings or customer segements will be a challenge as you dilute your focus. Even if it the same platform but targeting different markets, this will be a distraction to your team and scarce resources. Now, this doesn’t imply doing market research to seeing how close an offering could meet a different market segment’s need. Or going on a sales call to a potential customer in a different category. I am referring more to building market-segment specific capabilities into your offering that would ‘enable’ you to sell to two different customer types at the same time.  This is where not being focused comes into play.

Now let’s discuss the more common situation. Where a company’s main offering(s) are in bucket #2 and yet they also are investing in new offerings in bucket #3. (And to be clear, in this case I am not talking about a bucket #3 product which is a next-generation version of a product in bucket #2. In fact I would consider that investment as part of bucket #2.)   I am talking about where a company has a fast growing product that still hasn’t reached scale or profitability (bucket #2), and yet the company is investing significantly in new markets, customer segments or products (with or without the same technology platform)  (bucket #3).

There is a company I know who has a phenomenal offering in market that is growing quickly, but has not yet reached scale or profitability.  Thanks to that main product line’s success (with product-market fit) the company has been able to raise lots of cash. With this new cash influx, the company has invested 20%- 50% of its monthly cash burn into new products/markets that leverage the existing technology platform (bucket #3).

Here are some of the issues facing the company:

–          The main product line is struggling to get to scale and profitability.  The company has been able to find a market for their product and sell it, however the commercialization and operational efficiency required to get to scale has yet to occur.  Management experience and organizational focus on these two areas are seen as the primary reasons.

–          As the company struggles to get to profitability with their main product line, the investments in the early stage product development (bucket #3) has siphoned talent, resources and cash from the company.  Their balance sheet looks weak and these new products will still require a huge investment to get to product-market fit.  This has put the company in a challenging position to consider raising more cash that they really shouldn’t need if they were more focused.

–          Given the lack of ability to commercialize and scale the primary offering, there is a lack of organizational confidence that even if the new offerings find product-market fit that the company will be able to scale them too.

The challenges this company faces are pretty big. There are many challenges the leadership needs to address and they need to do it quickly before their cash position creates problems. Their situation is a wonderful example how the leadership did not did not make thoughtful decisions on how to keep the organization focused in a manner which struck the right balance of short term delivery of results and long term growth.

While I don’t know the right amount of resources to allocate to non-primary Bucket #3 opportunities for a early stage startup, I am sure the maximum number is less than 20% and probably more around 10%.

Larger companies with profitable product can (and should ) invest in high growth opportunities. Due to their size they can take a more portfolio management approach to their investments and balance short vs. long term growth in way that fits their ability to generate cash from their core businesses.

If you are in an early stage startup, you should ask yourself how much of the company time, people and resources are we dedicating to these Bucket # 3 (before product-market fit) opportunities? And how much is it ‘costing’ to pursue them in terms of cash, resources and management focus.

How to interpret VC feedback – standing out from the crowd

In my past I have been turned down by VCs many, many times.  And while some of the VCs may not be so great at being a VC and not ‘get it’, for what I was pitching, it kind of didn’t matter.  Overall if you speak to more than five investors and basically get the same result it ain’t them it’s you.  But how do you know what ‘it’ is and figure out what to do about it?  It is really hard for someone who is raising money to figure out how to interpret the feedback (explicit or implicit) received.

You can break down what it takes to get funding into three big buckets Team, Concept, Traction.  Just about every question or discussion you had with an investor is evaluating at least one of these areas.

To get funded, you mostly need high marks on two of the three and ideally all three.  And sometimes funding is a no-brainer. If you are already a successful entrepreneur you can probably get by with just having a team and are essentially ‘instantly fundable’.  But most folks raising money don’t have a previous success.

The other ‘instantly fundable’ attribute is having big and growing traction. Mark Zuckerberg was able to raise his Series A from Accel Partners not because of the team, but because he had a pretty good concept and most important traction. Having great traction solves almost everything (except for maybe a small market) in order to get funded. And not just good traction, accelerating traction.

So assuming you are not a previously successful, repeat entrepreneur and don’t have accelerating traction, then it is basically a mix of the team, concept and traction that the VC is looking at.

With your product still in development (and likely without deep proprietary technology behind it) and traction several months away, it is all about evaluating the concept and the team. Interpreting all the messages that were sent by an investor can tell you how close you are.  Do not be surprised if you are a lot further than you expect to be despite all the nice things the VC says to you (like ‘when you have a lead’ or ‘I’m very interested to track you guys as you see some results’).

So let’s start with the team starting with the founders.  Attributes to look at include the technical background of the team. How much engineering experience is there on the team that knows how to ship a scalable product. Also, how much business acumen on the team to address acquisition and monetization elements of the strategy.  Education and previous companies worked at play a role in experience, but at the end of the day an investor wants to know if they can trust the team to build something and get people using it.

One thing most first-time entrepreneurs don’t appreciate is that most other entrepreneurs are also really smart. Most have really top notch educations, strong technical backgrounds and some previous experience in a related field to what they are working on. The question that a VC is trying to answers is ‘Are you exceptional?’.  The best (clichéd) analogy is American Idol. However, not during open auditions, but when the number of contestants has been narrowed down to a much smaller number like 20 or 30.

At that point everyone is a great singer. But what makes you have star potential even though you have never recorded an album before and not a professional singer? What makes the VC believe you have star potential?What crazy thing(s) have you done that most people would never do that shows you got something special? Did you start a business when you were 12 years old?  Did you build a cool product on your own that solved a cool problem? The ‘exceptional’ usually involves some level of either incredible domain expertise that you were able to do something great with or demonstrating some form of salesmanship that accomplished something most people would never dream of even trying.

There are many things that could show that you are ‘exceptional’, but in reality most don’t.

Given the market the team is going after, how much domain expertise is there to understand the nuances associated with the target customer. Of course, more is better.  Most thoughtful VCs can quickly ask a few questions to the founding team to see if the understand the basics and some subtleties associated with the market they are pursuing.  In a consumer business, developing some consumer insights and understanding behaviors is critical.  I can’t tell you how many times I have spoken to a startup who is developing a new product and has yet to talk to anyone who would be a target user.

At the end of the day, a VC is trying to understand if you know your stuff and do you have the passion and dedication to figure it out quickly.

A related element to evaluating the team is their ability to eloquently address the second big attribute VCs care about…the concept.

By concept I mean everything from ‘What is the problem being solved’ to the product experience, to proprietary technology, distribution to market potential.  All that rolled into one. Like we used to say at Intuit…Is it a big unmet need, that you solve well and can you have a durable competitive advantage?

And then there are the other common questions:  How will you get users/customers? How will you get them to come back? How often will they use it? How will you make money? Basically Acquisition/Distribution, Retention, Engagement and Monetization. Related to this is the network effects and scalability of your offering or model.

Do not underestimate the need to have convincing arguments for each of these elements.  Without data around adoption of your product it is very possible that there are risks on several of these attributes. Each of these risks affects your fundability.   This is where an investor can easily drill down and see how well you understand your business by asking questions about your metrics. Even if you don’t have any tangible numbers, you should know the benchmarks you will be compared to. Whether it is eCPM, DAU/MAU, CPA etc. a good knowledge of the key target metrics will demonstrate that you know your stuff.  A red flag for an investor is if they know more about the metrics than you do.

Finally, one last attribute to consider is sex appeal. How hot a space are you pursuing? If you are working on a standalone web property versus a social, mobile, local (insert hot space name here) then you probably won’t be doing so great on the sizzle scale.

It is hard to get a term sheet from a venture capital firm. All you need to do is to look at the numbers of how many Series A investments any firm makes compared to how many startups are created annually.  A longtime venture capitalist once told me that VCs are not risk takers. In fact they are exactly the opposite, they are risk eradicators. The more you have reduced each of the risk factors related to the team, concept and traction described above, the much higher the probability of closing a venture round. Do you have what it takes to be the next American Idol?