“Give me a lever and a place to stand and I will move the world” – Archimedes
In my last article I touched on the factors that drive start-ups to failure and the value of the intellectual property left behind (for further details please see "Picassos in the cemetery"). That article garnered a huge amount of feedback, so this article covers some of the topics that I edited out previously in the interests of space.
Keep driving the bus
When engaging with rapidly growing businesses, I repeatedly encounter the perception from founders that they are not the right people to lead the business forward. This insecurity is a learned behaviour that comes from reading too many books. Gerry Yang and Steve Jobs both replaced themselves as CEO, and even Larry Page and Sergei Brin brought in a powerful executive chairman in the shape of Eric Schmidt. But these are very idiosyncratic situations.
For a three-year-old start-up getting traction in sales, the founders are the lifeforce of the company. Often they hired all the key people, won the first accounts and created the intellectual property. They bootstrapped the business and were resilient enough to pivot the business model in every direction until they found the one that worked. Bottom line: the founders are the right people to run the company. My advice is therefore to keep driving the bus, but to bring on some good non-executive board members for mentoring, strategy formulation and industry connections. Investors want the founders’ passion and granular understanding of the business behind their money. This is part of your unique value proposition, your genetic code – your intellectual property, if you like.
Dilute for value
The pre-money valuation expectation for many start-ups is fantasy (your business is not worth $300 million and Cisco/Facebook/Twitter/Instagram is not a good peer for valuation purposes). Founders should not be afraid of dilution if it gets them to the next phase of growth. Selling 25% of the business now for a valuation that is 70% below your number is fine. If it gets you to the next inflection point, it is a good decision. That next point is probably break-even, which (despite all advice to the contrary) is a meaningful data point. Cash-flow break-even is when you migrate from expensive venture funding to lower-cost capital such as vendor finance, licensing and revenue-based lending. Investors which come on board at this point know that you have built the platform, it works and it is scalable. Growth equity is also a lot less expensive than venture capital. Your intellectual property can be an invaluable tool in creating a perceptual floor for value at this point in the proceedings, which is why it is worth tracking its worth from the get-go.
Get on the radar
The process by which you monetise the value of your creation requires a long, drawn-out striptease. Privately funded companies that exist 'under the radar' to surprise the competition are fine in principle, but you need to socialise your business in order to attract real money to the table. The bright lights of funding rounds, conferences, investor briefings and other public interactions expose overlooked flaws and provide a reality check from a competitive point of view. You may well believe that your competitors are inferior, but the market view is what counts, not yours. Find out early if you are on the same page. Later when you are looking for an exit, this exercise pays dividends. Having your chief technology officer speak at conferences, writing about your technology or technical insights and generally promoting your IP value is a great way to get on the right radar early.
You are being watched
Whether you control the narrative or not, you are being watched. Customers and competitors are monitoring your capital burn, staff turnover, investor behaviour, IP filings and product releases. Smart algorithms trained with years of data spit out reports showing those start-ups most likely to become distressed and mapping the assets that they hold (including intellectual property and key staff). This information generates a liquidation value for the business from the day it is funded. One of the quirks of Silicon Valley is that there is a lot of data and much of it is publicly available. These algorithms are not perfect, but they are improving. At the very least, management teams should know where they are positioned in this universe (as should investors).
Trade sale versus initial public offering
The trade sale exit has become the best-known tech pathway to riches. But what if Google/Pfizer/Facebook/GSK does not buy you - what are you going to do?
An initial public offering is often unpalatable to company founders for various reasons. Bankers and analysts play good cop, bad cop, and the roadshow gives you 20 minutes with generalist investors to explain the nuances of something that has taken you a lifetime to learn. It is a model designed for 20th-century product manufacturers, not 21st-century technology businesses.
Investment banks are paid according to the capital that they raise, not the price at which they raise it. Market regulation is there to protect the investor, not the company founders. Whatever your value expectation is, halve it – and hope for stock price growth to compensate you in dollar terms. The result, if you succeed, is that you hit a series of price uplifts as you execute on your business plan and the stock price walks up a 'staircase' of value. IP challenges or filings are powerful catalysts in these situations.
The growth of the NASDAQ private market provides an interesting hybrid model for growth company financing. This provides access to private (often smart institutional) money with limited liquidity, but also limited disclosure, and therefore lower cost overheads. It is also easier for management to take some money off the table without worrying about sending negative signals to news-hungry analysts. As a way to selectively expose your business and keep capital costs manageable, it seems a good compromise.
Start-up or growth companies are incredible generators of intellectual property, and company founders are at the heart of this creative process. The markets have developed established pathways for funding growth and understanding the road that you are on is key to reaching the right destination. The role that intellectual property plays in the journey can be critical for maximising value creation – not just from a product/market standpoint but also from a market perception standpoint. In these circumstances, intellectual property is a lever to be used judiciously to move value.
This article first appeared in IAM magazine. For further information please visit www.iam-magazine.com.