Three Ways (Times Three) for Entrepreneurs to Blow It

8/11/08Follow @geshwiler

Nobody likes to fail. No entrepreneur or venture capitalist thinks a particular venture is going to be the one to fail. As veteran venture capitalist Bob Crowley at the Massachusetts Technology Development Corporation says, “we’ve never made a bad investment; just investments that have gone bad.” If we as investors or entrepreneurs thought the odds were stacked against us at the outset, we wouldn’t pursue new ventures.

In reality, however, they are. And, rather than just accept that the risks are high and failure happens, there are many things we can do to better the odds of success.

1) Three ways to blow your precious venture capital round.
Only about 1 in 100 companies that pursue venture capital money get it. Probably the worst thing you can do right after the financing is then to blow this precious resource. Yet, there is tremendous pressure to scale the company for a large market quickly. Here are the top three catastrophes I have seen first hand and heard from veteran venture capitalists time and time again over the years.

Hiring the right CEO at the wrong time: Investors put money in the company to make money, and you do that by making a big company—fast. As soon as the round is closed, the new board of directors and the founders interview lots of candidates and hire someone who just amazes them with their vision and ability to grow a company quickly. That “professional” CEO starts hiring three to six VPs, they in turn hire three or four managers each; they then hire more staff. Headcount after a Series A grows two to five fold in a few months. That’s great if there is a rock solid foundation underneath the company, and it has equally strong ties to the market. It is a disaster otherwise, creating chaos, frustration, anger and tons of finger pointing. The new CEO takes a lot of the blame, but so should the founders and the investors. The CEO was probably the right person; the company should have spent three, six or more months refining the business model, sales process, marketing strategy, and product development process, as well as assimilating the people so they worked as a team, before hitting the gas.

Scaling the sales force prematurely: This mistake is similar and often related to #1, but it’s enough of a stand-alone error that I put it in its own category. Venture investors look at initial sales traction and think the rest of the market buys the same way or has the same needs. It takes a lot of market research to make sure you are ready to scale. “How many times do I have to learn this lesson,” one general partner recently said to me.

Building the product ad nauseum: If one is going for a big market, you don’t want to ship one that has bugs, right? That didn’t stop Microsoft—or many other successful software companies, for that matter. The trick is understanding what bugs will be tolerated by which portions of the market and limiting your sales to that segment until you’re ready for others. Lots of engineers absolutely hate that approach. With a lot of money in the bank, an engineering-heavy venture can be prone to come back to the board time and time again, saying, “we just need another quarter or two of development, then we will be ready for market.”

2) Three ways to blow your exit. After years of blood, sweat, and tears as well as much personal sacrifice, reward is in sight for your entrepreneurial venture. Large public companies not only want to partner and benefit from your work; they want to buy you! Suddenly, this lonely startup seems important, and pressure builds to make perhaps more of what you have than is possible. Here are three ways to grab defeat from the jaws of start-up victory.

Get greedy: The forces of nature have formed a rare convergence around your company, and you think “well, if we’re this valuable now, we’ll be worth a LOT more in a year or two.” Lightning almost never strikes twice.

Allow one party with a different agenda to control the deal: This mistake may have been made years earlier by bringing in an investor or strategic partner whose interests were not in alignment with the interests of others. Alternatively, one party’s interests might have changed because of some external factor. Head this off by having discussions with and among the investors about the pressures everyone is facing, as well as everyone’s goals and objectives.

Try to save money by doing it yourself: A lot of entrepreneurs (and venture investors) bristle at paying an investment banker’s fee, citing other experiences where they or others felt they didn’t get any value. That’s a problem of hiring the wrong banker. Good ones earn every penny they make by creating an auction—or auction-like environment—that increases the value of the company substantially. It’s very hard for the CEO simultaneously to play good cop and bad cop with a potential acquirer—especially one they are likely to be an employee of in perhaps only a few days—or have a good feel for the rhythm of a deal because these are infrequent events for them.

3) Three ways to blow your company. There are better perspectives about company failure than I could provide, so here are links to three let-the-hair-down stories that tell it like it is.

Roger Ehrenberg’s post-mortem about the demise of Monitor111. He lists more than seven major mistakes that killed the company, an information platform for institutional investors on Wall Street, and that are all too common. These include: lack of a single “buck-stops-here” leader, too much PR too early, and too much money.

Chris Herot’s reflections on Convoq and Zing. Chris has some of the same points as Roger—particularly developing a product without enough customer input—but adds important points about the overall context and ecosystem around a company.

Dan Weinreb’s analysis of Symbolics’ failure. Symbolics had great technology and a great team, but the complementary technologies changed. This is a great case study of the ensuing gyrations and apoplexy that many companies suffer in these situations.

If you have your own stories or know of similar posts, please feel free to comment and add them below.

James Geshwiler, a managing director at CommonAngels for more than 10 years, has financed over 40 software and Internet companies and worked with them through over 100 rounds of investment and related changes in boards of directors. [Editor's note: CommonAngels is the lead investor in Xconomy.] Follow @geshwiler

By posting a comment, you agree to our terms and conditions.

  • Pingback: Meanwhile… » Post Topic » Experience is what you get …

  • http://www.commonangels.com James Geshwiler

    Elias, thanks for the comments on the trackback. Well said about internal communications. As to whether this is bordering on schadenfreude, I should have been clearer at the beginning of this post: I share the blame too in many of these cases. Like Roger Ehrenger said in his post, I too had a gut feel in several ventures that a particular course of action was premature but withheld my view and deferred to the judgment of my more experienced–and often later stage colleagues who were investing more money. As the earlier stage investor, however, I probably knew the company better and what it could or could not execute on. So, perhaps to encourage early stage investors and to empower CEOs to push back more on investor pressure, I share these notions. As Roger notes, the buck has to stop with the CEO. The rest of us can be supportive of or undermine them to greater or lesser degrees.

  • http://www.spire.com Janet Kraus

    James,

    All of your points are dead on. . . but one of the ones I can totally resonate with is building the sales force too early.

    One of the things I used to hear in the my first venture after our first round of VC investment was that it was critical that we “get there first” . . and my question back was “get where first?”

    Make certain you have the business model and the sales model well understood before scaling. It is expensive both to build one up and worse yet, break it down if it is the wrong one. Trust me on this.

  • http://danweinreb.org/blog Daniel Weinreb

    James,

    I would guess that new CEO’s start hiring all those VP’s because they’re used to being in big companies and haven’t adjusted to the very different realities of a startup.

    About shipping with bugs, it depends. Usually I would rather ship with no bugs and fewer features, than more features but unreliability. Then customers won’t walk away. And you get customer feedback early.

    The problem of having too much money sounds paradoxical at first, but I’ve watched a lot of startups and the ones with too much money never succeed. It’s amazing, but there are good reasons for it, as Roger Ehrenberg points out. My own startups never had this problem. We had the right amount of money, and the more I learn, the more I realize that was a blessing.

  • http://www.parkingspots.com Aynsley

    James – I just wanted to say thank you for being so pragmatic and honest when it comes to VCs and the wonderful world of entrepreneurship. Advice on the subject is a dime a dozen but it’s rare that much of it can be applied to early stage startups. My partner and I began our first venture in February at http://www.parkingspots.com and thanks to your insight we have already been tweaking and building smarter then we would have had we not had access to information sources like yourself. thank you.

  • Wayne Boulais

    James

    Good summary of the key traps in building companies – I have seen all of them in some form or another.

    The toughest decision is the timing of a “scaling” CEO, ususally people make the right choice about skills. The trick is creating/finding the right leadership structure at the early stage that lets the company develop properly and earn the right to hire the next CEO.

    The salesforce scaling too quickly is a big problem when direct sales are required. I think many CEOs, boards and investors have seen problems over the last business cycle so this error may happen less often. Another thing that has changed is the move to lower cost sales models that enables companies to experiment, measure and innovate to find the right sales model – this should also help minimize the scale too fast error.