Scalability is the question that plagues everything in business.  Do the operations scale?  Do the systems scale?  Does the organizational structure scale?  Better phrased: What does it take to scale this business?

Scale is often cited as a major determining factor in the output of various business models.  Consulting, law, and accounting are examples of businesses that scale as a factor of people.  As in, the company's production is directly governed by the number of employees.  Since the only physical products of these industries are documents, it's fair to say that output is entirely contingent on people.  Therefore, to produce more you must hire more people, which is difficult and expensive.

Contrast that with Google, the epitomy of hosted services.  The company essentially provides hosted software, which is monetized through ads.  It employs roughly 10,000 people, mostly developers, and serves hundreds of millions of users.  That's a massive scale, although they have their own problems based on maintaining sufficient revenue per user.

Here's one way to think about scale: 

Say you have a web company, XYZ.com.  XYZ.com earns $1 per user per month and has 100,000 regular users.  That means they're making $1.2 million per year.  That's enough to support a staff of 15 at an average salary of $80,000 (assuming no other costs), or really a staff of 12 at that salary with $240,000 in annual web hosting costs.

What's the incremental cost of scaling to support 1,000,000 users?  You'll have to add a couple more servers at your hosting facility, say doubling the cost to $480,000.  Will you need to add more employees? 

Possibly, but you won't really need more programmers, and if you run a service like Google's, you won't need more customer support staff because there's almost no tech support.  Therefore, your hosted solution virtually eliminates your scaling costs. Incredible, isn't it?

Continue reading "Scalability 2.0" »

Posted by ash.dyer at 04:02 PM | Permalink | Comments (0) | TrackBacks (0)

I just read a very interesting article, "Tech Start-Ups Have Money to Burn, but Choose Thrift", published last week in the Wall Street Journal.  It discussed the recent trend of venture capital-funded companies to focus on keeping costs low, as opposed to the Dot-Com era practice of spending large quantities of cash on over-sized staffs and flashy marketing campaigns.

This change highlights the maturation of the tech start-up industry.  This industry really had its genesis only 30-40 years ago.  The professionalism with which companies are started today compared even with the start of Apple Computer and Microsoft in the late 1970s is incredible - those companies did not really even incorporate until years after they began, nor did they receive venture financing until they were in a late-stage and already cashflow positive.

It wasn't until the Dot-Coms that the start-up industry became prevalent enough to attract the critical mass of participants required to create a problem - and through that problem, the learning necessary to create a mature, stable industry.  Ideas on how to finance and run tech start-ups had to be tested and proven or disproven.  Unfortunately, this trial-and-error method - the only true way to solve a new problem (at MIT we were taught that often you can't theoretically solve a new problem until you're hacked your way through to a solution at least once) - cost an awful lot of money.  However, it also created the rapid buildout and growth necessary to create a generation of seasoned entrepreneurs and investors that can provide mature, moderate-paced growth over the next 20 to 40 years.

One of the primary understandings that came from the Dot-Coms is that financial discipline (aka cleanliness) is next to godliness.  Today, investment in venture capital firms is near an all-time high.  Tier 1 firms like Kleiner Perkins and Sierra Capital are managing well upwards of two billion dollars, whereas just ten or fifteen years ago they were managing funds on the order of two hundred million dollars.  That means that their average deal-size has to go up almost ten fold to provide the same performance returns as they did previously.

Therefore, there are a couple ways to solve this problem:

1. Invest in more mature companies (ie. mezzanine-stage or positive cashflow companies)
2. Invest the increased amount in the same companies as before, creating overvaluations or diluting the entrepreneurs' shares.
3. Invest in more expensive startup ventures such as biotech and nanotech that require large capital investments to develop their product offerings.
4. Invest the increased amount while exersizing the financial discipline to increase the average time between fundraising rounds, thereby reducing the number of rounds required for a successful company.

Some firms have, in fact, invested in more mature companies in order to "flip" them by selling them to bigger companies within 1-2 years of financing.  However, this investment strategy produces lower returns, requires more deals because most VC funds are designed to run for ten years, and underutilizes the skillsets possessed by VC firms (ie. professional management advice, great rolodexes for hiring senior executives).  While this approach was one of the most popular solutions in 2004 and 2005, the reduction in start-up M&A activity over 2006 suggests that VCs have already moved away from it.

Overvaluation or diluting entrepreneurs' shares lasted for far less time than the late-stage investment strategy.  Such an approach just doesn't work mathematically - it kills later rounds of financing because the market wises up, or demotivates the entrepreneurs since they no longer have enough skin in the game equity-wise for it to be worth their full efforts.

Biotech and nanotech enterprises do take more time, but that also makes them somewhat impractical as start-ups.  In the end they sort of fit the same VC investment approach as the silicon industry - a high capital expense (CAPEX) industry due to the cost of manufacturing machines and laboratory R&D.  There tend to be fewer successful start-ups in this space, and many do their work mostly on computers where R&D is significantly less expensive.  The development cycle makes it difficult for VCs to extract a liquidity event in the 5-10 year time horizon they need to make their results.

That leaves over-diluting a company and installing strict fiscal discipline practices in order to extend the duration between fundraising rounds.  What this strategy amounts to is giving the start-up a war chest with which to protect itself from the unforeseen and maybe make strategic acquisitions where possible.  This improves the overall stability of such start-ups and doesn't result in the long-term dilution of entrepreneurs shares because it's roughly equivalent to getting two rounds of financing at once.

In addition, the improved stability of the start-ups improves their overall chances for success, which changes the risk profile for the VCs.  By pursuing this strategy they can reduce their risk while keeping returns and their deal-rate steady, as well as capitalize on their unique competency in start-up management.

While we have yet to see how this new funding strategy will play out over the long-term, first impressions suggest that it is a mature strategy that possesses the insight of seasoned professionals who have learned from their past mistakes in the Dot-Com era.  Hopefully, we will see this model continue to play out for the foreseeable future as companies continue to make use of the new economies-of-scale afforded by Web 2.0.  At the same time, this maturation suggests that we will not see another truly disruptive technology enter the marketplace for quite a while, as the current industry is becoming so mature.

Continue reading "Venture Funding - The New Approach" »

Posted by ash.dyer at 03:27 PM | Permalink | Comments (0) | TrackBacks (0)

There is no doubt in my mind that we're entering a new energy market, and that our experience in the last oil shock in the 1970s does not apply to the new rise in energy prices.  This fact stems from the rapidly increasing demand in places like India and China - a demand that oil production cannot hope to meet with current energy prices - that did not exist in the 1970s.  This knowledge has led a lot of people, particularly investors, to seek opportunities in renewable energy technologies.  However, most of these are doomed to failure for the same reasons they were the first time, and - as noted by my friend Kurt Keville - it is important to realize that most of the old players from the 1970s renewable energy field have decided to pass on this opportunity.  If nothing else, that should tell you something.

Ethanol is the darling-child of renewable energy buffs everywhere.  However, it has a long way to go before it will ever be a serious force in the marketplace.  Here are some reasons why:

• Distribution of oil moves in a river-delta format - it starts with a fat pipe at an oil field, moves down the pipeline to a refinery, the refinery pipes to a distributor which then sends it down the tendrils to all of the gas stations... only at the end do the logistics leave serious arteries.  Bio fuel must first aggregate from a number of small sources then disseminate, roughly doubling the logistics involved.
• Ethanol is significantly more corrosive than gasoline, which means it is ill-suited for use in normal vehicles, even as more than a 10% additive.  Aside from the corrosion, when it's concentration in fuel is greater than 10%, toxic fumes from the ethanol will seep from the fuel system of most cars.
• Modern, non-flex-fuel cars are optimized for gasoline consumption.  Switching the fuel will significantly degrade both the performance and the fuel efficiency (not including ethanol's reduced power-per-gallon in the next point) of those vehicles.
• Ethanol has significantly less power-per-gallon, which means that you have to burn more of it to get the same performance - even in the best of conditions.  It also means that a full tank won't get you as far down the road, so there have to be more fueling stations and it will take more of people's (already dwindling) time.  Hybrid technologies may find a huge opportunity in improving the performance of ethanol vehicles, but this application is likely close to a decade away.
• There is a chicken and egg problem inherent in this industry.  In essence, the petroleum companies are asking the question: "If we build it, will they come?".  Note, this isn't the case for American car manufacturers because there has been a long standing tax break to encourage them to produce "flex-fuel" cars, which is a hold-over from the fallout of the oil shocks of the 1970s.
• There is not enough production capacity, nor even potential production capacity (ie. all arable land), in the world to produce the corn crops necessary to shift all vehicles to ethanol and other biofuels.  Hence, the "ethanol economy" is inherently a non-starter.
• Many non-vehicle technologies, such as plastics and fertilizers, require petroleum for production.  Ethanol won't be able to replace petroleum in fulfilling the needs of these industries.

These seven reasons are just some of the top ones for why ethanol is a non-starter.  However, other darling-children of the renewable energy crowd are also doomed to a supporting role.  Solar power, which relies heavily on metals and silicon for the production of solar panels (not to mention, extremely toxic chemicals), has too low a power density to replace lots of energy generation systems.  Also, throw in the fact that you have to extract the silicon and metals needed for its production from mines, which requires petroleum. 

Likewise, wind power has a limited role, since the average windspeeds required for consistent power production make only a small percentage of available land well-suited to wind production.  Used in concert, all of these technologies will help ease the stress on current energy supplies; however, they're not going to solve the issue.  Ever.

So where does the path lie?  Well, in the short term it's simple: conservation.  There is incredible inefficiency everywhere in the world, borne of oversupply of power for so many years.  That means that we can reap a lot of value out of getting better at keeping what we have.

What else?  This is going to make me pretty unpopular: nuclear.  There are new nuclear technologies, pioneered in part by my alma mater, MIT, that are completely safe and very efficient.  Such technologies offer the energy densities necessary for practical use in a macroscopic application.  I predict that China, and maybe India, will be front-runners in exploring the use of new nuclear technologies... Why?  Simply because they need it for growth, and they have to be more pragmatic about their situation than the populations of developed nations.

I also predict that the new oil - the new driver of our economy - is something we haven't seen yet, or have relegated to the back of our minds.  It's obvious with just a few BOTEs that current renewable energy technologies are not going to meet our energy needs, so it's time for savvy investors to look farther out into the fog to see what's really going to save the day.

Posted by ash.dyer at 08:34 AM | Permalink | Comments (0) | TrackBacks (0)

Congratulations son, you've graduated from college.  What are you going to do now?

Well, I think I'm going to start my own company.

Oh, that's great!  I'm sure you'll do wonderfully (snicker).  Good luck to you!

I've heard that a lot recently, and I'll first note that the 'snicker' was added by me (creative license).  I heard it mentally every time I heard people say that to me at graduation a month ago.  It wasn't because I thought they were false - quite the contrary, they truly felt happy for me and wanted the best.  However, I had a bit of an idea of the road ahead and I knew it was going to be a tough one.

Little did I know just how tough, nor do I think I've hit the toughest parts now.  That is to say that I've just entered what most people call "The Real World".  Life after college.  Good bye help from Dad, hello bills.

I've always had a good head for numbers, self-discipline, and decent financial sense, which is why for the last two weeks I've been stressed to the max.  I've done everything to cut my expenses to the bone - I'm even still living in my fraternity through August!  In fact, I've been so thorough that I'll spend less than $17,000 in the next year - equivalent to the salary of someone making $8.50 an hour.  That's barely above minimum wage here in Massachusetts!

Even still, I'm stressed to my bones.  I'm working 80 hour weeks and it doesn't feel like enough.  I'm bumming rides and walking almost two miles to work - whatever it takes to save money.  Why?  Because I'm not making a cent right now.  That's not to say that I won't soon, or that I'm actually in financial trouble - I'm not - but I'm illustrating what every entrepreneur experiences at the beginning: lean times.

If you think about it, by not taking a salary now I'm just vesting my work for the future.  It's painful, but it's going to pay off.  Walk with me.  I'm a rocket scientist from the top engineering school in the country, MIT.  In my fields, IT and finance, my peers are getting paid $65k-$900k per year out of school.  If we take a roughly median compensation (sans health insurance, etc.) of $80k per year, that breaks down to about $40 per hour if you were only working 40 hours per week.  Of course you're not, so let's estimate it at $32 per hour (50 hours/week).

Now at $32 per hour, and working over 80 hours per week, my year is worth $128,000 in outright compensation.  I know, I know - that's ludicrous.  And yes it is... even working 80 hours a week someone my age would most likely not get paid $128,000 in one year.  THAT'S WHY I'M NOT WORKING FOR A CORPORATION!!!

If I worked for a corporation, they'd reap the benefit of my extra work and I'd be stuck crossing my fingers that the higher-ups notice my work and promote me faster.  They trade-off - security.  It's slow going, but at least you'll always have a salary.  However, let's say my hard work net's me the $128,000 this year.  I certainly can't take nearly that much out of the business in compensation, nor do I want to -- Uncle Sam's taxes on that pay would be killer.  So what gets done with the money?  Simple, it's vested in the company.  Actually cash assets are held by the company and reinvested into more product, more employees, more sales.  And the net difference, the intangibles that I built up all year, those go into more sales too.  Those are all the deals I haven't quite closed yet, all the relationships that haven't come to fruition, all the partnerships that are just getting started.  Those are the real road to financial independence and developing a successful business all my own.  Owning what I make with my mind, ingenuity, blood, and sweat.

So while I can't even afford to eat McDonald's most days.  I can take heart in the fact that not only am I saving myself from needless calories, but more importantly I'm the complete owner of my work and that's it's vesting for the future.  Talk about a hearty nest egg.  There's nothing like a business to support a family, maintain a satisfactory lifestyle, and enable a comfortable retirement when the time is right.

That's what I think about when I look at my disappointing wallet and tell my friends going out on the town to have fun without me.  It keeps me disciplined and focused on creating the value that I want to create and reaching the goals that I have set for myself.  So take heart, strike out after your dream, and keep in mind the words of Jeff Fox in How to Make Big Money in your Own Small Business, "Scrimp the shrimp... and scrimp to succeed.  Invest in your future."

Continue reading "When McDonald's Is too Expensive" »

Posted by ash.dyer at 11:05 PM | Permalink | Comments (0) | TrackBacks (0)

Marketing is an intrinsic part of any successful venture.  It is the link between the customer and the company - both in learning what the customers want and in promoting both the company to both potential customers and returning customers.  Everybody wants to back a winner, and successful marketing helps give them just that.

But wait... I know how to market!  I mean, I see it all the time on TV and in magazines and newspapers, how hard can it be?

Sorry to take you down a notch, bro, but it's a lot more and a lot harder than that... when it's done it right, it really takes work.  Think about it.  How many advertisements can you remember right now?  I bet you can remember a couple.  What do you remember about them?  Can you name the companies and products associated with the ads?  If you can, that's impressive.  Have you actually bought the product?

That last question's a doozy isn't it?  You see television commercials aren't very useful for most marketing campaigns.  They're expensive and they cover too many audiences.  Most magazines and newspapers are just as bad - static advertisements that are directed at no one in particular in hopes that someone who reads it will be inspired to buy the advertiser's products.  Such marketing campaigns are the product of lazy decisions and following the groupthink that is so common in bureacracies and big companies.

The Five Pillars of Marketing 

Truly innovative marketing encompasses developing products that solve specific needs of specific customers and convincing those customers of their need for the products so much so that they feel a need to purchase those products.  Such marketing encompasses five pillars:

1. Know thy customers
2. Pursue your customers relentlessly
3. Incorporate customer feedback
4. Get referrals
5. Cross-sell

Know thy Customer

Sun Tzu, ancient Chinese wiseman and military advisor, is famous for saying "know thy enemy and know thyself".  However, in this modern world I would say "know thy customer and know thyself".  What I mean by this is that you must understand your customer and their needs and how you can help meet their needs in order to be both a successful marketer and a successful entrepreneur.

Don't listen to silly focus groups.  Get in there and get to know your customers!  Bob Jones, a brilliant marketer who's been leading product development of all sorts of nutrition bars over the last two decades, has a favourite phrase, "so we held some focus groups, but we threw out the moderator and actually asked our customers questions".  It's great!  He means that he actually went into a room with twenty or more of his potential customers, got to know them, and really learned their pain.  He got to know the interesting tidbits that none of his competitors knew.  For instance, with one product he learned that diabetics hate being treated like they're sick.  Therefore, he packaged his product like an energy bar, which gave them both the peace of mind they wanted and treated them like adults!

When you really get to know your customer, you know what keeps them up at night, and you know the tidbits about them that will enable you to hold an advantage over your competition.  I guarantee you that most of your competition is not this meticulous and interested in solving their customer's problems.  That's why startups exist.  That's why you can steal marketshare from big corporations.

Pursue Your Customers Relentlessly

That's right!  Chase them down!  Don't let them get away!  You need to have an integrated approach to reaching your customers, one that both establishes your credibility and fosters their desire to purchase your products.  I know, I know... you're worried that you're going to overwhelm them or seem to aggressive.  I have too, but think about it: is it overwhelming when you see the CEO of GE on CNN talking about his company's new approach to product development, see some advertisements on television touting GE's new products, and then receive some mailers offering you discounted prices if you make a purchase immediately?

Maybe that's aggressive.  However, it seems to me that chances are the only thing you will really take note of is the mailers.  You won't really remember everything else, but you may think that GE is an innovative company with good products.  That's what sets the stage for the mailers.  The mailers seal the deal.  They answer the "why now"... "Honey, if we don't buy it now, we may have to pay more later".  That's ridiculous, but it is how people think.

There are three things to consider in any marketing campaign: Why us?  Why our product?  Why now?

Incorporate Customer Feedback

It's important to always improve your product.  Remember, if you're successful, your competitors will be trying to emulate you as best they can.  That means that you have to stay a step ahead of them by continuing to be the expert on your customer's needs.  Therefore, you need to actively solicit customer feedback on your products and incorporate that feedback into new versions of your products.  Happy customers lead to more customers and to repeat customers, so making extra efforts to look like you're taking their complaints to heart will go a long way to increasing the number of customers you have and through that, your revenues.

Get Referrals

If your customers like your products, they'll refer you to their friends and acquaintances.  That's the marketing you can't buy!  What's more effective than someone's good friend saying "hey, this product works really well for me" and in the reverse "man, I really hate that product, I can't believe I wasted my money on it".  These references are probably the most powerful influencing tools you have access to.

Wait.  How do I have access to that tool?

It's simple: give your customers an incentive for making referrals.  If your products are expensive, you can give a gift certificate or discount a payment.  If they're cheap, you can offer them a free perk or a one-time 20% off card.  It's amazing how quickly people will sell out their friends.  Especially since such referrals are now just a way of life and not considered actually selling out one's friends (that's another topic for another day).

As your marketing campaign matures, be sure to capitalize on those referrals to bring in the easy customers.  It will show in your adoption curve and in your revenues, as well as in the positive review you will generate for the product.

Cross-Sell

The easiest customers you will ever acquire are the ones you already have.  If they bought once from you, they'll buy again... as long as you don't make a lousy product in the first place.  If you do make a lousy product, low numbers of repeat customers may be a signal that your product is lusy and needs to be reworked.

The cost for the average bank to acquire a customer is around $350.  Other industries are similar.  That means that it could easily cost you $350 to acquire each customer you get.  How on earth are you going to make that back?!  It's going to have to be by selling an awful lot to each of your customers.  And that's exactly how you should do it!  People are more likely to buy from a company that they've already bought from because that company's known to them, they know what to expect.  That means that it's easier for you to convince your current customers to buy more products and services from you than it is to convince non-customers to do the same.

In the case of many products you can sell a service to compliment the product.  For example, Dell sells service warranties and installations to its customers.  These services are easy ways to take advantage of customers that are already making a purchase.  How easy is it to install a desktop pc for someone?  How about providing technical support for a service contract?  That money's almost pure profit.  You don't need any extra infrastructure to sell those services.  So remember, integrate services and products to sell more to your current customers.

Continue reading "The Basics of Entrepreneurship, Part 4: Marketing" »

Posted by ash.dyer at 11:09 PM | Permalink | Comments (0) | TrackBacks (0)

In modern-day distributed companies with employees spread across the globe, it is critical that all of the employees are on the same page.  While many startups still have all of their employees geographically co-located, it is just as critical to make sure everyone is working towards the same goal.  One of the best tools corporate leaders and entrepreneurs have found to bring teams together is a well-defined mission.

The Components

Well gosh, that's simple, I'll just write a sentence to describe my company's mission and we'll be done with it.  Everyone will be on the same page and we'll be good to go.  Eh, not quite.  Does anything good really come that easy?  I'm just going to go out on a limb here and say "no".  There are a number of components that go into formulating a strong mission statement.

These components include your company's mission, it's core values, and the core value proposition.  That is to say it's the what, why, and how of your company. 

For example: Google's mission is to "organize the world's information"; Google values protecting users' privacy, providing value to users through a multitude of services, and making its services free to its users without annoying advertisements (achieved through the more aesthetic Google AdSense); Google provides value to its users by applying its search technology to improve the usefulness many common IT solutions, such as email, instant messaging, and getting directions.

The Purpose

The mission statement is important to everyone involved in the company, from its board of directors and CEO to its customers and vendors to its normal employees.  To each group it means the same thing: a guiding light to aid in making decisions. 

A strong corporate culture focused on a well-stated mission enables senior management to push decision-making down to lower levels of the corporate structure while still trusting that these decisions will be in the best interests of the company.  It expresses to customers the type of services and products they can expect and to vendors the types of behavior that will be tolerated.  It also helps identify potential strategic partners and lay the ground rules for interactions with partners.

Formulating Your Mission Statement

When you sit down to formulate your mission statement, include all of the people I described above in your planning process.  If you already have a team, senior management, employees, customers, partners, or vendors, involve them in the process.  In particular, solicit the opinions of your internal groups (team, employees, management) constantly.  You'll probably only want to run a couple of drafts by your external groups (customers, partners, vendors) to get their input.

Your Mission

The expression of the mission is a few sentences - no more than a paragraph - that sums up the altruistic reason your company exists.  If you don't have an altruistic reason your company exists and you're stuck with "my company exists to make me money", then you might as well just stop now.  Think long and hard about what you're trying to do and why you're doing it.  Remember, Google says their mission is "to organize the world's information" and CASHFLOW Technologies' (run by Robert Kiyosaki, author of Rich Dad, Poor Dad) mission is to "help people become financially independent".

The purpose of this section of the mission statement is to set the broad focus of your company.  It explains why you're putting in the effort to build your own company rather than join a large corporate entity.  This section is critical for your company's public image, motivating your employees, and guiding decisions of senior management, as well as attracting strategic partners.

Your Values

In your mission statement, you should express your corporate values.  These values include both the character traits you demand of your employees, partners, customers, and vendors, as well as your professional values in how you run your business.

You should enumerate five to seven values or traits that embody all of your values.  A great example of a statement of values is the Seven Pillars of Islam.  It might be taboo to cite a religion in this context; however, realize that true practitioners of Islam (not those terrorist types) - spread across the globe - are all unified by their acceptance and observation of these Seven Pillars above all other rules and customs.  What that means is that while leadership is highly fragmented and distributed, a large body of people can accept the same basic principles of life and live together as such (again, I'm talking about the moderate Muslims, not the terrorists).

When you're drafting the statement of your values, think of your five to seven values, then write one to three sentences to describe each.  Of course you'll probably want to review and revise these, but I'll talk about that a bit later.

Your Value Proposition

The final section of your mission statement is the value proposition.  This section, like the others, should be short - just a few sentences or maybe a paragraph - and to the point.  It should be easily memorizable and explain how your altruistic mission is put into action to serve your customers. 

For example, Google's value statement would be "we are the leading provider of search technologies", in Microsoft's case it might be "we are the leading provider of productivity software and operating systems for computing devices".  This proposition is important to help you both convey to your customers and your employees what it is your company does.

Putting It Into Action

Show some of your drafts to all the people in the orbit of your company - your vendors, partners, and customers.  Ask them to comment and critique your draft.  This process will provide you with a lot of additional value, because it will help you connect with your customers more - they may see your value to them differently than how you see it - and get feedback from everyone with whom you work.  It may catch some flaws in your attitude and performance that you hadn't seen before and also show you things that you do well that you don't know about.  I guarantee you that this process, while it may be painful at times, will make your company stronger and improve your opportunity to succeed.

Posted by ash.dyer at 04:31 PM | Permalink | Comments (0) | TrackBacks (0)

Building a competent team is probably the biggest difficulty entrepreneurs face throughout the life of their startups.  Venture capitalists are always quick to explain that they focus first on the entrepreneur and his team and then on other aspects of the business, with very rare exception.

In fact, earlier this evening I attended the MIT $50k Entrepreneurship Competition - the world's foremost university business plan competition - at which Bob Davis as the keynote speaker.  Mr. Davis is currently a general partner in Highland Capital Partners, a Boston VC firm, and he was the CEO of Lycos from its inception in 1995 until a few months after it was acquired by Terra Networks to form TerraLycos.  Mr. Davis made the point that he and the other Highland Capital partners evaluate startups on three criteria:

1. Team
2. Market
3. Product

What does that tell you?  Well, simply put it means that one of the world's foremost entrepreneurs, and the people with which he works, believe that the primary key to success is to have the right team.  In fact, oftentimes team members will only be suitable for a certain phase or phases of the startup and must be swapped out.  Jo Tango, another general partner at Highland Capital, keeps a timeline depicting the phases for which he feels the CEOs of the companies in his portfolio are suited to run the startup company.  Most of the time the lifeline of the CEO is only for two or three phases.  That's not to say that they will not be able to see the company through later phases of its growth, just that they will have to grow along with the company.

So now that you know it's critical to have an A team, How do you field an A team?  This question is actually made up of a number of questions, the larger of which I will go into in this article.  This article will go through how to field a team, establish and maintain a culture, and attract strategic partners.

Tapping your Network

What does networking have to do with this?  Isn't that what you do to build connections, sell products, or get a job?  Well yes, that's definitely some of the uses of networking.  However, there's a lot more power that you can derive from having strong networking skills (check out Dr. Yaneer Bar-Yam and the New England Complexity Science Institute for some cool ideas about network structures).

How YOU Network

Notice the title of this section is not "How TO Network".  I'm not going to prescribe a certain way for you to network.  Everyone does it differently, some people are timid, some are gregarious, many are in between.  In all honesty, it doesn't matter that much aside from understanding certain basic dos and don'ts (to be discussed in a later article).

There's an old Sun Tzu quote from his famous book, The Art of War, it's simply "know thyself".  That's just a small excerpt from the quote but it's important.  In order to understand how to field your team, you need to understand how you meet people.  For example, I go to a lot of networking events and I absolutely love to meet people and talk about everything that each of us is doing.  However, I hate to be asked if I "already have a team" and would never think to ask that question of someone else.  That's just how I operate, and a lot of other people operate differently.

Diane Burton, an Assistant Professor at MIT's Sloan School of Management, who's work I will cite often in this article, likes to ask four questions.  She says, "use one minute for each question and write down up to five names".  The topics are:

1. Who do you do your work with? 
2. Who do you socialize with?
3. Who do you go to when you're grappling with a big decision?
4. Who do you go to for emotional support?

Use only a minute for each question then look at the names you've written down.  How many different names did you write down total?  Five? Twenty?

If you only have a few names written down, then you have a pretty limited network.  Chances are it's a cohesive network where everybody is in touch with everybody else.  If you have a lot of names then it's likely an expansive network where your contacts don't often know each other.  Most people have something in between.

Fielding the Team 

Which type of network do you think is best for building a team?

If you said expansive then you're right.  If you said cohesive, I bet you have a cohesive network.  The reason an expansive network is important in team building is that you want to be able to tap into the largest pool of expertise that you can.  If you can find someone in your expansive network with their own expansive network that knows someone who fits your team then they'll  bring a new and valuable perspective to your team that will improve your startup's chances for success.

There are lots of ways to recruit your teammates, and I won't go into them here, but I will suggest that you be honest with them from the get-go and make sure that they're excited to work with you.  You need to foster that excitement throughout to keep everybody working at it.

Pouring the Foundation

Once you have the team, you should lay a solid foundation to hold the team together.  That means creating a Code of Honor, a Founders Agreement, and, when you incorporate, and Operating Agreement. 

The Code of Honor is a set of basic rules that everyone on the team follows.  Rules such as "never abandon a teammate in need" and "never leave a disagreement unresolved".  Check out Blair Singer's book The ABC's of Building a Business Team that Wins for more info about creating a Code of Honor.  Another book worth checking out is Stephen Covey's The 7 Habits of Highly Effective People, which talks about building your character to improve your performance in team environments.

The Founders Agreement talks about the dynamics of the team - who will do what, who will contribute what goods and capital, and how many of the specifics of company ownership will be handled.  Joe Hadzima, Chairman of the MIT Enterprise Forum, wrote a great piece on the Founders Agreement, which can be found on the MIT Entrepreneurs Club website: http://web.mit.edu/e-club/hadzima/founders-memo.html.

The final document to create is the Operating Agreement.  This document is actually a document used a lot by lawyers in forming and structuring companies, so there are a lot of template documents to help you create your own Operating Agreement.  Just search on Google if you want to create your own, although it may be best to involve a lawyer to help you understand things.

Continue reading "The Basics of Entrepreneurship, Part 2: Team Building" »

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For the past two weeks I have immersed myself in the entrepreneurial gatherings and seminars on MIT's campus.  In particular, I attended The Nuts and Bolts of Business Plans and Starting and Building Successful Tech Companies.  Both are great courses and very educational, comprised of a plethora of guest speakers covering entrepreneurship topics from finance to marketing to team building, and everything in between.  What follows is a multi-part series on the basics of entrepreneurship broken down by discipline.

Team

It's a common phrase - almost a cliche - in the venture capital industry that investors "would rather have a great team and a mediocre idea than a mediocre team and a great idea".  The team is the basic unit of the startup, and while people may come and go as the company develops, a competent, committed team is critical to the success of the venture.  There are a number of elements that contribute to the selection of team members, complementary skill sets, startup experience, industry experience, and common culture being but a few.

Team dynamics are one of the most common reasons startups fail.  When the going gets tough, it's critical that the founders rally the team to make it through the crisis.  Strife and dissention will occur in time of crisis, but by understanding the culture of the company, not sending mixed messages, and rallying around a common mission, good teams can pull through even the toughest of times.  Many managers report spending 90% of their time managing people issues and the rest managing everything else.  Even at MIT, known for its abundance of talented individuals, building lasting teams is a difficult endeavour.

Putting together a strong team with industry experience and a common culture is one of the greatest steps towards success that a founding entrepreneur can take.  Later in this series, I will dive into team building in greater depth and discuss many of the considerations one must make in selecting a team.

Mission

A successful startup venture has a well-defined mission statement that expresses the goal of the company and the team to the world.  This statement provides a rallying cry for the team, the company's champions and customers, and strategic partners.  For example, Google's mission statement is "to organize the world's information" and CASHFLOW Technologies', the producer of Rich Dad, Poor Dad, mission statement is to teach people to become financially independent.  These mission statements provide important guidance for the decisions of everyone involved in the company.

A mission can change over time, and often does, however the critical element is that everyone in the company, from the janitor to the CEO, knows what the mission of the company is.  For example, Bob Jones, in a recent guest lecture at MIT, said that every person in one of his past startup companies had made at least one sale - including the janitor and the receptionist.  He used customer interaction as a tool with which to bring everyone in the company closer in line with its mission statement.

Marketing

Marketing is an important part of any company's success.  A successful company must be able to generate steady, and hopefully steadily increasing, revenues, which requires developing a base of satisfied, returning customers, as well as continuing to win new customers in order to ensure the growth of the company.

A successful marketing campaign is an integrated blitz using a variety of media targeted at a specific customer to achieve a specific goal.  The message in the blitz is continued through ensuing marketing efforts to create a "drip" that reinforces the message and builds an association in customers' minds. 

Intimately knowing one's customer and achieving a specific goal are critical components to a successful marketing campaign.  An understanding of the customer and his needs comes from meeting and getting to know the customers in order to understand their "pain", or what keeps them awake at night.  The specific goal may be something like "our website will be the first place people turn to when they want to know about x" or "we will be the leading provider of office supplies to businesses with between 1 and 10 employees".

By understanding the importance of knowing one's customer and understanding the goal of the marketing campaign, one can construct a solid campaign that achieves its goal and generates returns in spades.

Sales

I have separated sales and marketing because, while related, the act of selling and the act of marketing are two different things.  Good marketing supports sales but the sale itself is still another beast.  One must intimately understand the customer before selecting the method of sales, such as direct sales, mail order, telephone, internet, or retail.  Each method suits a different type of customer, and often one might combine a few methods that work in synergy.  For example, many retailers also maintain an internet presence in order to capture sales from customers who prefer to shop from home.

Thomas Watson, founder of IBM, is famed for the phrase, "nothing happens until somebody sells something".  The phrase is simple but understanding the axiom is a must for entrepreneurs.  In its essence it serves as a reminder that the company serves customers and without the revenue generated from sales to those customers, the company cannot exist.

Cash Flow

Cash flow is the foundation of any business.  The flow of cash through a company - from its receipt as revenue to its spending as expense, investment, or dividend to shareholders - is the lifeblood of any company.  From day one of the enterprise it is important to keep diligent records of all transactions, collect revenues, pay creditors on time, and file tax returns.  Without competent accounting, the foundation of the company will fail and slowly but surely the financial stability of the business will erode.

Examples of companies that suffered from poor accounting include Enron and Worldcom - two of the biggest failures of corporate governance of the last twenty years.  These companies constituted a failure in the entire accounting system in place in the U.S., which includes an independent auditor that is supposed to check the company's books to ensure their accuracy.  These failures led to the creation of Sarbanes-Oxley, which, while only affecting companies that are public or intend to become public, is a major cost to those companies and a large impediment to their ability to competitively conduct business.

Business Systems

Business systems are the underlying systems that govern the functioning of the company and enable it to efficiently provide the goods and services it is supposed to provide.  These systems don't need to be complex - and probably shouldn't be - in order to function, but well thought out processes enable a company to beat its competition without having to cut margins.  Systems reduce the time, effort, and resources required to complete a task.  For example, Thomas Edison's mass-production approach to research and development enabled him to create the light bulb: by developing an efficient method for testing light bulb filaments, Edison was able to test over one thousand different filaments before finding one that burned long enough to be useful to consumers.

While Edison was not the first one to invent the light bulb, he was the first one to apply a system of research and development to the light bulb to improve it enough to make it ready for the consumer market.  In addition, Edison's company developed power systems which enabled him to provide the support structure for his product, something that none of his competitors could offer.  The result of Edison's genius is General Electric, one of the largest companies in the world.

Product

The product is, of course, an important part of the company.  Without a functional product that fulfills the company's value proposition, there won't be anything to sell.  However, that said, perfect is the enemy of good and one must balance the importance of developing a revenue stream with the need to work out the bugs in a product.  For example, the Blue Screen of Death used to be a very common occurence on early Microsoft Windows products, but by the release of Windows XP, these screens have become few and far between.

The early versions of Windows still fulfilled the value proposition of improved productivity.  However, over time Microsoft was able to improve the functionality of the software to reduce the amount it crashes.  In fact, Windows is a great example of the trade-offs between a revenue stream and a perfect product (even now it's not perfect).

Legal

The legal aspects to a company are very important, and are also overlooked.  There are two main categories of law that are most important for an entrepreneur to observe in the early stages of a startup: corporate formalities and intellectual property.

Corporate formalities are things like holding and documenting an annual shareholders meeting, signing contracts using your official company title, and filing annual documents with the federal and state governments that enable the entrepreneur to remain protected from the liabilities of the startup company.  These liabilities include legislative liabilities, such as prosecution for a broken bone due to a fall down a flight of stairs in the company's offices, and debt liabilities, such as loans and credit card bills.  Observing these formalities enables the legal creation of a "corporate veil" that protects the owners and managers from a lot of the risks of running a company.

Intellectual property (IP) drives the competitive advantage of the company.  Whether its the secret recipe for the Chef's Specialty, or it's the patent to a new, world-changing device, intellectual property enables its owners and creators to retain an advantage against their competition by encouraging the creation of new technologies and practices.  IP is especially important to entrepreneurs because they need the leverage granted by IP in order to compete with large companies that have a lot of money to throw into creating competing products.

Financing

There are startup costs for a new company that must be financed before it can take in any revenue.  These costs include things like incorporation fees, stationery, office space, and other costs that you need to set up the business.  This financing can come from a number of places, but usually is derived from the founders, perhaps their friends and family, and bank loans.  Additional funds must often be raised before the company can take in revenue or make a profit and these needs are usually funded through venture capital or bank loans.

There are a number of ways to finance a company and they can be very complex due to multiple strategies and multiple stages of funding.  For example, many tech companies get multiple rounds of venture capital funding based on meeting development milestones.  The exchange is that the amount of the company owned by the founders successively diminishes as the funding rounds progress.  It is important for an entrepreneur to understand various methods of funding in order to choose which one is right for his company.

Continue reading "The Basics of Entrepreneurship, Part 1: Overview" »

Posted by ash.dyer at 11:39 AM | Permalink | Comments (0) | TrackBacks (0)

Here is an article I wrote in November, 2005.  It discusses a few opportunities that I envision in the future.  I have actually written a lot more on the topic, but I'm holding back from posting it all right now because there are opportunities for distribution through other media channels.

Web 2.0

Since 2003, there has been a quiet revival of internet-based services, commonly referred to as Web 2.0.  The change in the services from the original, Web 1.0, services of the Dot-Com era is a focus on the long-tail economic model, the use of entirely web-based platforms.  There are many advantages to this model because it captures a broad customer base and allows for constant software updates without affecting users.  The focus of these platforms is tailoring the service to the customer – even advertising, such as Google’s AdSense, is customized.

            Web 2.0 is also used to describe the emergence of new social networking websites, such as Friendster.com and Facebook.com, that allow people to maintain profiles with their contact information and establish a link network with their friends and acquaintances who also have profiles on the site.  This model has now been extending to allow users to include pictures and descriptions on their sites.

            This paradigm also encapsulates a newfound trust in the user.  For example, Wikipedia, an online encyclopedia, receives contributions from any user with the expectation that enough users will view each entry that an informed consensus will emerge.  This belief is called the principle of critical mass, which asserts that when a certain, large threshold of users is surpassed that a consensus will emerge on a topic.  However, this principle also assumes that the emergent consensus is accurate.

Web 2.0+

Continue reading "Web 2.0+ Business Concepts" »

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This article is recorded first-hand from the MIT Enterprise Forum global broadcast, Forecasting Markets: The Capital Update for 2006.  

Moderated by Bob Crowley  

Broadcast can be found at: http://enterpriseforum.mit.edu/network/broadcasts/200601/index.html.

Martin Hansel, CEO of Texterity.

Three types of forecasts: Market Forecasts, Entrepreneurial Forecasts, Investor Forecasts

Market Forecast: Always optimistic - vehicles for consultants to sell their services.

Entrepreneur Forecast: Always optimistic - chomping at the bit, "the time is now".  Usually ahead of the market - markets take longer to develop and mature than the entrepreneurs believe.

Investor Forecast:  Investors don't forecast, they scan.  They're always asking questions and sponging up information.  They're concerned about understanding macro trends in the market.

Startup companies almost never end up serving the market they had planned to serve.  However, 90% of being a small business owner is showing up and absorbing the information and ideas that are out there and along the way, winning small businesses will find a market.

Most investors are long-term and the relationship between entrepreneurs investors is very important.  The best investors make sure to reward the entrepreneurs even if they're not perfect (ie. miss a couple numbers but still build a successful company).

Claire Wadlington, Partner and CFO of FA Technology Ventures

One of the major things VC look at is how entrepreneurs view and present their market.

2005 VC-backed IPOs dipped significantly from 2004, 2005 Merger & Acquisition deals rose from 2004.

$25B in new funds raised in 2005, highest in last 5 years. 

Mezzanine and Revenue-stage funding increased in 2005 - almost a linear trend starting with 2002.

Continuing Trends:

• Open Source
• Web 2.0
• Recurring Revenue Business Models
• Wireless/The Third Screen
• Energy Technology (Again)
• Robots for Unstructured Environments
• Biology/Engineering Co-development (Biotech joined w/ High-tech - not a megatrend)

Advice to Entrepreneurs about Approaching VCs

Really strive to get a good, "warm" referral to the VC.  Also, research the VCs as much as possible and understand their portfolio and how your company fits into it.  Focus on presenting business plan and how the technology can be used to build a business plan.  Credibility is important - VCs invest in the management team.  Show a deep knowledge of your market and your competition.  Finally, find a champion at the firm who will promote you and your company within the firm.

Ned Hazen, Managing Director of Lighthouse Capital Partners

Discussing Venture Lending or Venture Debt market, a little known market for lending capital to VC-backed companies.  Use debt capital to leverage the equity capital raised from VC.

Venture debt lending approaches lending in the same way that VC approach equity funding.  Look into the way that the startup will use the debt to pay for hard assets, as well as a "cash runway".  Gives an entrepreneur extra time to pursue product development.  However, venture debt has an interest rate, and the debt will have to be paid back in the future.

Benefits

Debt is less delutive than VC funding - they do take a small "warrant" or option to participate in the upside potential of the company.  Provides a safety net for meeting valuation milestones in the case of slipping development schedules.

Material Adverse Change

Entrepreneur beware!  Can range from "we're not giving you anymore money" to "give it all back to us, now".  Important to strongly negotiate during contract negotiations, and critical to involve competent, professional counsel in those negotiations.

Also, be concerned about laws concern immediate repossession of funds by creditor if a case is made for the entrepreneur breaching the contract (can happen overnight or over a weekend).

T. L. Stebbins, Head of U.S. Investment for Canaccord/Adams

Canaccord/Adams is a Canadian-based investment for focusing on Small Cap investments.

Market last year was roughly flat and tremendously volatile.  Small Caps led the market last year.  U.S. markets underperformed every other market in the world.  Dollar-adjusted against other markets, graphs indicate an improving strength in the American dollar.

56 venture-backed IPOs, up from 31 in 2003, but still well below the 200+ in 2000.  Average IPO market cap >$200 million.  The market has moved away from Small Cap stocks and focuses on volume.  Sell margins have diminished, reducing the analytic coverage of Small and Micro Cap markets.  NASDAQ is not performing for companies with market cap under $400 million, and has now been superceded for Small Cap stocks by the London Stock Exchange.  Stebbins believes we will see a migration of Small and Micro Cap offerings to overseas markets.  The AiM market is now the place to be for Small and Micro Cap companies.  The average market cap on AiM is $66 million versus an average market cap of over $1 billion on the NASDAQ.  Significantly more equity traded in London than New York.

Domestic recovery will flatten in 2006, the dollar will remain weak, and international markets will remain anti-American.  Interest rates are going to continue to rise, real estate is likely to fall, and China and India will continue to grab more marketshare.  "A year of struggle for US capital markets with great volatility and risk."

Questions from the Audience

T.L. Stebbins: Most people are of the opinion that the real-estate market increases are staying.  However, he sees good potential for

Claire Wadlington:  Early-stage VC valuations are down in 2005 versus 2004.  M&A transactions and later stage valuations are getting pushed higher.  However, early-stage is not responding to the rising later stage valuations. 

Ned Hazen:  Some hedge funds and private equity funds no longer have the market opportunity for which the money was originally raised and part of the money from those funds have found their way into the venture capital industry, mostly in the later stages.

T.L. Stebbins:  America needs to put together a business model to provide services to Small Cap companies.  These issues are partly due to Sarbanes-Oxley and partly due to a lack of "soft-dollar research" being provided to Small and Micro Cap companies.

Have not yet seen the full impact of the strain on natural resources, both the energy sector and other raw materials (copper, silver, zinc, etc.), caused by increasing demand in the Far East.

Claire Wadlington:  Open source companies hard to value - most VCs still don't understand.

Ned Hazen:  Open source companies need to clearly understand their revenue model and distribution method in order to present a compelling investment.

Hole in market for angel-backed companies who want to raise debt in the <$10 million.

Continue reading "MIT Enterprise Forum - Forecasting Markets: The Capital Update for 2006" »

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Why do consultants get exorbitant fees for their services?  It seems like all these guys are swarming around in Armani suits and getting paid boatloads for doing almost nothing.  Contractors are the same way, all of these government services people, what's their deal?

Consultants are cheap and cost-effective.

First, let's look at what the difference is between a consultant and a contractor.  My friend, Geoff Day, owner and CEO of The Consulting Exchange, explains that consultants charge $100 an hour or more for their services, while contractors charge under $100 for their services.  Geoff's definition is great pricing advice for anyone looking to be in the contracting or consulting services; however, you won't see the industries dividing themselves by this price point.

In essence consulting services are outsourcers.  They allow management to move business functions off of their employee role so that they can reduce the intangible costs that come with employees (healthcare, pensions, insurance, etc.).  These services are particularly cost-effective for short-term and high-risk projects.  Why you ask?

Consultants can be hired and fired in no time flat.

There's no severance pay, no parachute, no three weeks notice.  It's, "Team, I have bad news.  I just got off the phone with CEO X and we lost the contract.  I may have to let some of you go.".  So all that job security, all that 9-5, high-pay, Armani suit perks, all that higher-paying-job-than-your-friends is out the window in less time than you can say "Screwed".

Now that's the worst-case scenario.  Things are usually a little better, because big consulting companies make contracts with there clients, which prevents the instantaneous "You're out."  However, these companies are still the first to go in a down cycle.

Consultants are knowledge workers.  That means that they trade their knowledge for a premium now and forfeit the potential for future payoffs.

Think about it.  Every person that is engaged in management, professional services, or technology is a knowledge worker.  However, employees still get their names on patents and often times get stock options and other compensation plans.  What do consultants get? Nada.  "Hey thanks, without you we'd never have IPO'd!" and a slap on the back.

Now if you've read this far, and you're a consultant, there's probably steam coming out of your ears... or you're on MonsterTrak looking for a new job.  But I really don't mean to knock consultants.  It's a great way to get an understanding of how businesses work in a short period of time.  In addition, it's a great personality fit for people who think outside the box, but don't want to experience life without a paycheck (trust me, it sucks).  However, it's important consultants understand the downside, particularly in such a hot market for consulting jobs (see my article "Sniffing Out the Wannabes" Jan 25 2006).

Posted by ash.dyer at 05:56 PM | Permalink | Comments (0) | TrackBacks (0)

At the extreme risk of pissing off a lot of people, including some good friends of mine, tonight I'm going to rant on a different topic.  Hopefully, if you follow the words of Mark Stevens, marketing guru, in Your Marketing Sucks, "Smart people can accept criticism, especially if it can help them make more money."  Then maybe you'll take these words to heart and think long and hard about why you want to be an entrepreneur, and particularly why now.

Do you know why people call it a "job market"?  I mean, it's not a place where you shop and it's not a place that securities or commodities are traded, so why call it a market?

It's called a market because there's competition for jobs.  As more or less people enter and exit the workforce, companies outsource jobs overseas or bring them back from abroad, and as more people leave their jobs to go into business for themselves or return from being self-employed to working for a large corporation.  Right now the job market's good and so's the self-employed market.

In fact, the reason each market is good is partly because the other is good.  There's so much demand for skilled employees that companies will hire small firms to help fill in the gaps, and because there's demand for employees is exacerbated by people taking advantage of this propensity to contract small-firms companies have to offer good compensation packages to attract new employees in heightened competition with small firms, as well as, improve the compensation packages of their current employees in order to retain them.

The truth is that this cycle is a natural part of American business and there's nothing new about it.  In fact, many people's businesses will tank in the next few years and they'll go back to working for "The Man", and likely at less than what they were making before they left.  It's only human nature:

People only chase investments that seem secure, so most people enter the market after it is already saturated.

If being an entrepreneur seems like a surefire way to riches, then why hasn't everybody been an entrepreneur from Day One?  Well, that's because it's only right now that entrepreneurship seems like the surefire way to get rich quick.  What's the fastest way to tell an entrepreneur from an employee-cum-wannabe entrepreneur?  Taking one from Robert Kiyosaki's book Before You Quit Your Job, the fastest way to tell if someone truly understands the entrepreneurial spirit is to check how much of a salary they're awarding themselves.

Let's contrast it: this year I will at most give myself $30,000 from my companies.  Every extra cent I will reinvest into their continued growth.  Most people that claim to be entrepreneurs are drawing over $70,000, many over $100,000 in salary.  Quite frankly, that's stupid.  For one, you're exposing yourself to increased taxes, and two you're bleeding your company dry.  When you ask them why they're taking such a high salary, they'll almost always tell you that's what they were making at their job and/or that's just what they need to cover their expenses. 

Damn!  "That's just what I need to cover my expenses."?  Okay, let me run down my expenses for you: Rent - $600/mo.; Food - $400/mo.; Transportation - $300/mo.; Clothing + Miscellaneous - $100.  That means my total expenditures are roughly $1400 or $16,800.  That means that on a $30,000 dollar salary even after Social Security, Medicare, and Federal and State Income Tax, I still have enough money to max out my Roth IRA contribution (currently $4000/yr).

So I do live a pretty austere life, and $600/mo doesn't get you a nice apartment.  However, I still own a car (year 2000) and enjoy my life.  If you really feel you can't live off of $30,000 a year, then at least look at ways to make it tax deductible.  For example, have your company pay your medical insurance, give you a travel allowance, and take advantage of other deductions to reduce your tax burden - your number one cost.

Now then, what's the current abundance of entrepreneurs mean to you?  Well, it means that you're going to get less return for your dollar.  It means that good opportunities are getting harder to find and the market's getting saturated (it also means there's a killing to be made for people willing to take advantage of all of the naive people in the market).  Take the below graph.  It's an important lesson for anyone who wants to understand any sort of market.

Who do you think makes out the best on this graph?  The people who got in when there was hardly anybody there or the people that got in when everybody was already there?  Let's look at a slightly different graph.

Looks similar, huh?  Of course!  Market capitalization follows participation.  That means that the guys that get in at the bottom get in for virtually nothing and get huge returns - easily over ten times their initial investment.  Why?  Why do they have all the luck?  Well, because they were the ones who needed to have the luck in the first place.  They went somewhere no one else was willing to go.  They went into the Fog (see my on fear and the Fog - Jan 23rd).

But this market has the Midas Touch.  You just can't go wrong here!

So it seems doesn't it?  Let me ask you this: how long are properties sitting on the market right now?  Is this above or below the average time for properties to stay on the market?  Well... if it's above average, then it's probably not time to start investing.

When I was a teenager, a friend of mine developed a simple, but successful investing strategy: when the price of a stock fell below the 30-day moving average we began to set limit orders a little above the market price (when these hit meant the stock had reached its minimum and was moving back up).  Once the price rose above the moving average we set limit orders a little under the market price (actually, we set limit orders under it all the time to protect us from a downward plunge).  This simple strategy netted us a tidy little profit.  Do you know why? 

We did the opposite of what the market did.  We went where other people weren't.

If you follow that strategy in every type of investment you make (within reason) for the rest of your life, you will come out on top.

Continue reading "Sniffing Out the Wannabes" »

Posted by ash.dyer at 01:44 AM | Permalink | Comments (0) | TrackBacks (0)

Has anybody else ever noticed how many of our parents met their spouses somehow through friends?  Whether it was a blind date set up by a mutual friend(s) or an introduction at a cocktail party, I think a majority of the successful marriages of our parents' generation were first formed this way.  That begs the question: what's changed?

Here's the interesting part: a whole bunch.  Think about those quintessential neighborhood gatherings of the 50s and 60s.  Then in the 70s it was disco and the 80s was nightclubs.  Doesn't that seem interesting?  I wonder just how many successful marriages got their start in a bar.  My guess is far fewer than you think.

So what's the allure to friends of friends?  Why are these marriages so successful?  And why the hell is Ash writing about it?

So here's the deal, a lot of things are solved by friends matching friends, most important is making personalities fit.  The old adage "birds of a feather flock together".  Mutual friends are likely to have compatible value systems.  The other, more often overlooked, is providing feedback channels - everything from "Ohhh, he likes you." to "Dude, she's miffed.  You need to call her and smooth things over."  Friends help friends stay together.

So what?  That's great, but Ash you're not running a dating site. 

True, I'm not.  However, what's the difference between dating someone and hiring an employee?  Oh My God!  Sacrilege! (sorry about the double entendre)  Well, there's the sex of course, and the dynamics of a boss-employee relationship (I sure hope you don't treat your significant other the way most bosses treat their employees!), but wait a second...  It's all about fielding teammates and working toward common goals!

All of the sudden dating does seem a bit like recruiting.  Did you know that all of Google's recruiting is done in house?  That's right.  They do it through referrals... no career fairs, nadda.  And they interview the hell out of people.  It's almost like a fraternity initiation!  I've heard reports of guys going through eighteen or twenty rounds of interviews!  Well, if it took you 20 interviews to get the job, you'll think twice about leaving when the going gets rough.

Outside of hiring, where else might business benefit from understanding this approach?

The answer is partnerships!  An entrepreneur is a skillful match-maker.  He works with very little capital to throw together a number of deals by using other people's money and resources.  The lesson is that you should look to friends of your friends for developing strategic partnerships.  They're likely to share the same core values as you and your mutual friend will help provide feedback on one another to help keep things running smoothly.

So the lesson here is to 1) improve your dating success by utilizing referrals from your friends (standard sales strategy), and 2) improve your entrepreneurial success by utilizing referrals and introductions from your friends.

Have fun and happy hunting!

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The general consensus of the U.S. populace, including "experts" at Harvard Business School, CNBC, and of course those that stand to benefit most: REITs is that real-estate is a new asset class, liquid in the same way as stocks and bonds.  What the hell?  Do you mean to tell me that I can trade my home on the NYSE?  Of course not!  While REITs have certainly been securitized, thereby reducing the risk to investors who by shares of the REIT (because many are now traded on stock exchanges), the inherent risk to most investors in real estate is still the same.

Let's look at it.  Real estate is an illiquid investment: you pay a purchase price for it, which sets the value of the property, then every couple of years the property is appraised based on the sale prices of other properties in the area and the size, quality, and amenities of the property.  If you decide you want to get out of the property, you have to put up a "For Sale" sign, call a real estate agent, and wait until you get a few offers.  Then, after you've got some offers, you have to accept one and negotiate the terms of the sale (and there are lots).  This process is pretty different from the sale of a stock or bond!

A wise man once said, "If you see everyone doing something, do the opposite there's money to be made".  Think about it: when people got excited about the Dot.Com bubble, the money had already been made.  As more and more people flocked to Dot.Com stocks, returns diminished.  The same is happening to real estate: people think it's a sure-fire investment because so many people have made money in the past few years.  Oops!  Let's forget market fundamentals, forget that the Federal Reserve is raising interest rates at every meeting, forget that half of all mortgages are Adjustable Rate Mortgages or Interest Only Loans, forget that the national average mortgage rate has risen over 180 basis points in the last year.  What do we have then?  Well, rent right now in most major U.S. cities is 45-60% the cost of an equivalent mortgage, residential properties in great locations are sitting on the market for over 4 months, there's a ton of properties for sale in New England in the middle of January.  That doesn't seem like opportunity to me, it seems like a peak in the market.

The major question is how is the downturn going to come about?  Will it be quick or a gradual process?  And how can you capitalize on this knowledge?

The easiest way to capitalize on this market is simple: stocks and bonds.  During the Dot.Coms bonds were the place to be.  Did you know that the bond market outperforms the stock market virtual every year, even during the Dot.Coms?  With interest rates on the rise, you might want to think of how you can trade bonds to capitalize on this market.  Maybe it's time to take out a long-term loan and start planning on how to use that margin to make money elsewhere.  On the other hand, you can always just negotiate IOUs when the time comes to make a purchase, which is probably safer, although it only works for real estate.

Andrew Kessler says "go into the Fog".  The Fog is that place where no one else is, so it's uncertain - you can't see anything, just shadows and illusions - but if you can make out a distinct object before anyone else does, you're going to make a lot of money.  I like to relate it to my youth sailing in the San Francisco Bay.  We went into the fog all the time.  It's part of racing in the Bay.  The trick was to identify the super-freighters in the fog before it took a radical action to avoid them.  The racing teams that make the course adjustment the earliest usually win because they don't lose time and distance from evasive maneuvers.

Fear

On the other hand, sometimes a ballsy skipper could win by going in close to the freighter.  If the wind was right it could be extremely profitable.  But even still, that skipper knew ahead of time that the freighter was there.  He planned ahead to use his competitors' fear of the freighter against them, either leading the pack towards the freighter until they had to engage evasive maneuvers (a devious technique) or simply going where no one else wanted to go.

This is an important lesson in fear.  Most people are driven by fear, whether they realize it or not.  Why is real estate so hot?  "Oh, duh, it's the lure of get-rich-quick."  Is it?  Look deeper: people are getting rich in stocks and bonds every day, just look at Google.  So is it the hype of easy opportunity, or is it the fear of uncharted territory?  Stocks and bonds make more sense to invest in, but the market's scary to people because the Dot.Com crash still burns bright in their memory. 

All of the sudden, by avoiding the "lure" or the song of the sirens you can conquer your fears and make a ton of cash doing it!  In fact, in conquering your fears you're going to realize that you've found safer territory than everyone else.  Real estate looks safe, but it's not, the fundamentals (I'll go into this in a later article) indicate that it's ready to tank - in the next 3 yrs count on it.  So frankly, the stock market is a better place to be.  All of those companies with strong fundamentals will suddenly look attractive to all of those mainstream people who are about to get burned in the real estate market.  It's called value-investing and it's how Warren Buffet, the greatest living investor, made his money (more on this later too).

So for today I'll leave you with this: go into the fog and approach your fear.

Continue reading "The Real Estate Bubble" »

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