Saturday, April 25, 2009

A Preferable Route to Market

With IT budgets frozen or shrinking, and most of what is left going to only the very largest vendors, software starts ups find themselves in a real quandary. However, a little observed trend in software usage and purchasing over the past few years has steadily opened a new set of doors to businesses accounts, effectively bypassing the punishing decision making processes of the IT department. Purchasing power within these organizations has become distributed and democratized, as more and more employees acquire the necessary Internet proficiency, management authority and expense account to purchase software and services online. These employees do not necessarily work in IT and may have a very limited budget, yet they are empowered to make such software purchases for themselves or their department, because Internet purchases have become as mundane as paying for a dinner with a client or ordering a plane ticket. Smart start-ups are building strategies to capitalize on this fascinating trend, and many have already become market leaders in their respective market segments.

Many of the effective marketing and sales strategies actually emulate those found in pure play consumer Internet and software companies, and often incorporate consumer-like simplicity in the product design itself. The reason is that these new buyers in the enterprise are using their consumer technology intuition to identify utility and productivity solutions on their own through downloading software or subscribing to new web-based services. From what I can see, this new breed of software companies has employed one of, or a combination of, two strategies:

1) Consumer as a Conduit – Simply put, this strategy starts with the consumer, but designs the product with an aim of ultimately transmitting it to the enterprise to build a business. It works by casting a wide enough net in the consumer community, and relying on a certain percentage of consumers to infuse their employers’ organizations with the product. This may start with small businesses, but there are plenty of examples of large businesses adopting software through this chain of events.

This strategy is often predicated on launching a free or low cost consumer version, and exacting a charge when businesses use the otherwise free consumer software. In some ways, this business model is reminiscent of shareware, and is often termed “freemium”(although many “freemium” products have limited appeal to the typical business organization). This strategy has proven successful because consumers have shown a remarkable capacity to embrace innovation, far outpacing that of businesses. For this to work properly, a product must clearly address both consumer and business needs in full.

Some examples:

- Mozy, now a part of Decho(an EMC company), offers consumers a dead-simple, free back-up solution. The company’s rapidly growing consumer base brought the product’s premium version in the office environment and even to the enterprise. (see also Carbonite)

- Teamviewer is a remote desktop software download that is exceedingly simple to use. Consumers downloaded it 15m times for fre, and fair amount of them then brought it into their places of work allowing the company to build a sizable business. (see also GoToMyPC and DimDim)

- YouSendIt offers a web-based service for distributing large files (essentially FTP replacement). Embraced by 10m consumers, the familiarity and simplicity of the product pushed it into the enterprise, where they have thousands of paying customers. (see also Box.net and Dropbox)

- Wix is a website builder/hosting service funded by BVP. The product is provided free to consumers with Wix branding, but at a monthly fee for small business users. Despite the product depth and differentiation, Wix chose to forgo the option of charging consumer preferring to build subscription model using consumers as the conduit.

2) Targeting the Expense Account – This strategy uses Internet marketing to directly reach the desired customer within the enterprise. These individuals don’t really have any IT budget(at a minimum they are reimbursed for business expenses), but are able to make small online purchases that can lead to widespread adoption in the enterprise over time. The employees may be a low level IT employee, sales rep, project manager, systems analyst or marketing analyst. They also may be engineers looking for solutions to improve their productivity, which explains why open source software can develop traction very quickly. These individual employees have something in common in that they don’t get the attention they need from their IT organization due to their limited influence and supposed narrow use cases. Nevertheless, they are always interested in using new products and to improve their performance or simplify their work processes. As a result, they speak to peers at other firms, and scour the Internet for products they can quickly trial, buy and use.

Some examples:

- Early on Salesforce.com was able to gain initial penetration into organizations by selling to the individual sales rep, not the SVP Sales, CIO or CFO. Not too dissimilar, individual sales reps were early adopters of WebEx.

- Spiceworks has a software download that helps technology professionals manage, track and report on the software and hardware on their company’s network. Interestingly, their strategy has been to give the software away for free and develop a revenue model using lead generation for IT products.

- A former Adobe exec recently told me that while it was not their intention, the biggest purchasers of their Acrobat software comes from individual employees, who come into account with the free Reader product elsewhere in the Internet.

There are many more examples, of successful software company’s reaching their target customer via Internet marketing and sales including LogMeIn, Solarwinds, Altassian and Acronis. Nevertheless, it is clear that all of the above examples have several common attributes, including:

1) Simplicity in terms of sign-up, installation and basic usage
2) Low entry cost (perhaps via monthly subscription model) or no entry cost (“freemium” model)
3) Low cost of goods, to ensure consumer exposure to the product via a free variant of the product (COGS may include bandwidth, storage and serving costs)
4) Low-touch product support
5) Easily marketed and sold over the Internet

The last of these deserves a separate post, because direct online marketing and sales requires a strong understanding of the market size, buyer, and of course unit economics.

The model doesn’t work for everyone, but a lot of software companies I meet can adopt these strategies with only some incremental work to the product. Longer-term, these companies will have a far more scalable and profitable sales model than traditional enterprise software companies hiring sales reps, signing channels, or working with OEMs.

As I have mentioned in a previous post, Israeli companies should be jumping on these low-touch, no travel, limited-interaction sales models. The challenge however, is to develop your product to support the business model, something many Israeli companies often do backwards.

Saturday, April 18, 2009

Pride and Humility

In my work with entrepreneurs, I come across three essential traits that define an entrepreneur: self-confidence, passion and perseverance. All three traits are a necessity for acting upon an idea, facing adversity and doubt, and ultimately bringing the idea to fruition. However, there are two more traits, which I have come across on rare occasions, and which I have come to admire most in entrepreneurs.

The first of these is the ability to recognize when “it’s just not working” or at least when “it’s not going to get much better without a lot more money and risk.” It could be that there is no attractive business model, the competition is intense, the market is too small, or simply that the capital and time required to overcome any of these challenges is simply too much to justify. The ultimate decision may be to wind down operations, to seek a buyer for the business, or to forget about growth and cut costs to keep the existing business alive.

These are all among the most courageous decisions any entrepreneur can make, and actually require more self-confidence than the confidence required to start a company in the first place. Why? This person is in fact so self-confident in his entrepreneurial abilities, that he/she knows that they have more and better ideas just waiting to be realized. He is also wise about his personal economics. An entrepreneur that makes such a decision is essentially saying that a guaranteed dollar today is better than a 50% chance of getting anywhere between zero and two dollars in the future. He/she is also saying they can better spend their time and money on something else, and don’t want to waste other people’s time (employees) or money (investors) more than is necessary.

We all know most start-ups don’t succeed, but ironically, most of those companies only shut their doors once they exhausted all sources of capital. And considering that the high rate of failure among start-ups is not about the lack of capital, but rather about a fundamental problem with the concept, market, or business model, one would expect more entrepreneurs to initiate the winding down of the business on their own. So why is it that more entrepreneurs don’t recognize when things aren’t working, or at least are unwilling to act upon this conclusion?

My belief is that there are actually two strains of self-confidence among entrepreneurs: the first kind is actually self-confidence commandeered by pride, or tainted by arrogance (unfortunately, all too common among both entrepreneurs and VCs). The second strain is a genuine self-confidence, and one that is easily recognizable because it can co-exist with the most beautiful of human traits….humility. So to explain the anomaly of so few entrepreneurs convincing themselves, investors and partners to move on, it is actually the result of certain entrepreneurial traits dominating others. Specifically, perseverance and passion overshadow the self-confidence required to call it quits. A similar argument can be made of investors who don’t know when to recognize an investment gone bad, but I decided to focus on entrepreneurs as they ultimately have more immediate control over the direction of their business.

The second trait that I admire most in an entrepreneur is the ability to recognize one’s own strengths and limitations, along with the ability to build a team that complements and improves on them. Most entrepreneurs bring on co-founders, and many others hire senior executives along the way, but few go as far as they need to. My favorite entrepreneurs explain to me that they hired someone because “he is smarter than me,” or because “I want someone smart to constantly challenge me.” I am not talking about a “technical founder” hiring a “business” partner or vice versa. That is obvious and essential. I am instead referring to the ability to hire someone with overlapping skills, but perhaps a different set of experiences.

The ultimate manifestation of this trait is a strong and successful entrepreneur going to his board and convincing them to hire a more experienced CEO to take the business to the next level (and it doesn’t count if they do this when their failure is already clear to all around). Sometimes, the recommendation is actually to think about hiring a senior executive who is at least capable of taking over the reins as CEO if such a decision makes sense(planning for succession). Either way, similar to the ability to “call it quits”, the ability to hire great people all round you, is a variant of genuine self-confidence. However, the entrepreneurs I have just described possess a great degree of both humility and self-awareness., as they know what they are good at and recognize it’s in their economic interest to bring the best people to the company.

I don’t want to undermine the importance of traits like perseverance, but sometimes I think we suffer from an overabundance of this in Israel. The entrepreneurs who exhibit some of the other incredible traits I mentioned are on the top of my list and are ultimately the entrepreneurs we as VCs want to back again and again, regardless of the outcome. They do not doubt themselves for a moment that if they wanted to, they can start another company and raise capital for it. They may not get the recognition they deserve in the press, but investors, executives and employees all recognize them as among the most brilliant and ultimately successful.

I conclude this post with an apt quote by pianist and comedian, Oscar Levant (1906-1972), who wisely pointed out that “what the world needs is more geniuses with humility, there are so few of us left.”