Who hasn’t heard of a great idea going belly up, especially in the volatile world of software startups? Ever wish you could get a download from those entrepreneurs about what went wrong and how to avoid the same fate in your business? The fine folks at the Tech Incubator brought us a presentation by Al Davis that proved to be a candid and unassuming walk through the rise and fall of a software company that ultimately closed its doors returning a mere fraction of shareholders’ capital. Here’s a quick overview of what Davis and his management team did wrong as well as a few things they did right.
What Happened
After several successful tech companies, Al Davis started a company that developed a software product aimed at assisting engineers with calculating the optimal mix of features in a product. After four years and several investment rounds, the company liquidated, paid its remaining debts, and returned pennies on the dollar to its shareholders. So what went wrong?
What Went Wrong
According to Davis, the company’s most visible failure was the late addition of a qualified marketing & sales executive. His company went through three marketing/sales directors, each with a dramatically different focus and with varying levels of understanding of both the company’s product and its customers. The first involvement from marketing wasn’t until 6 months after the company was formed and by the time they found a marketer with a deep understanding of their customers and technical knowledge of the product, it was too late. Davis’s hindsight advice is to involve a professional marketer at the very beginning, along with the rest of the skill sets generally considered critical to your success such as financial, management, and legal professionals. Make sure this person understands your customer and your product and knows the appropriate sales methods to utilize.
Another failing was the attempt to create a complete “Cadillac” solution right out of the gate. The software product they developed contained all the bells and whistles they could think of and was priced accordingly. They had trouble selling the product because their customer didn’t even realize their need for all that software. Davis calls it a “solution looking for a pain”. Instead, they ended up stripping many of the features and selling an entry level tool at an entry level price.
Starting with a simple product has several advantages:
- It is less expensive to develop
- It is faster to develop, allowing you to reach your market sooner
- It is easier to explain lowering the average time to close a sale
- You can add the more complex features your customers really want by soliciting their feedback
- It brings cash in the door today
Finally, spend according to your means. Davis developed a detailed business plan for his company that included targeted levels of investment at each round and expected uses of that capital to meet growth targets. When one of the investment rounds brought in less than projected, Davis chose to continue hiring personnel according to the plan to drive growth. Looking back, he recommends scaling growth investment to the level of available capital, especially if sales are less than expected. In addition, the company was renting Class A office space, and he had personally guaranteed the lease, when their customers rarely visited headquarters. A much less expensive location would have met their needs and freed up cash for reinvestment.
What Went Right
Al Davis has actually been quite successful over his career and the reason he attracted investment in the first place was because there are many things he did right. In fact, a major contributor to this particular failure was the market downturn in 2001.
My favorite positive feature is his employee and investor friendly equity structure. Davis reserved 1/3 of the equity for the founders, 1/3 for future investors, and 1/3 for his employees. Nearly everyone to whom he presented his plan applauded his balance of employee motivation and investor reward.
Davis went even further for his employees and removed nearly all symbols of hierarchy in his company, down to maintaining the same size offices for all employees (including himself). He also went out of his way to keep them informed, even as the company was on its way down. This style of management kept panic to a minimum and employee involvement high which turned what could have been a precipitous plunge into a quiet exit.
Another powerful decision was for the principals to personally invest in every round. Other investors will ask you two questions and personally investing allows you to truthfully answer both questions correctly:
Question: Am I the first investor?
Answer: No, you are not.Question: Do you have skin in the game?
Answer: Yes, I do.
Finally, and probably most importantly, Davis organized powerful external boards to oversee his company. Not only did he find a qualified board of directors with a variety of useful experience (except marketing, of course), but he also developed an external advisory board in addition. The combined experience and knowledge of these individuals might have prevailed even as the company learned the lessons above had the market not also contributed by reducing the capital expenditures of their customers.
Thanks to Al Davis for his frank and humble commentary. If we are wise, we will let his experience teach us how to become more successful entrepreneurs.
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