The big idea is the foundation or raison d’etre of an e-business, but the idea alone won’t make the business stand out from the big and faceless crowd of other dot-coms. What’s also needed, say these authors, is a winning concept, a strong management team and an attractive market.
Many aspiring entrepreneurs are convinced that their novel Internet business idea, properly researched and supported, will attract the requisite funding for commercial success. While a strong business idea is an essential component of a winning e-business, a number of other crucial elements must also be present. Among venture capitalists, Internet entrepreneurs and consultants, a surprising consensus exists on the recipe for building a successful on-line venture. The three most important ingredients? A winning concept, a strong management team and an attractive market.
1. A WINNING CONCEPT
The most investment-worthy ideas are those that are innovative, have significant upside potential, utilize proprietary technology, can be scaled rapidly at a reasonable cost, and are defensible against competitive threats. Clearly, developing a concept that fully meets all of these criteria is extremely difficult. However, these criteria do provide a useful screen for developing new business ideas.
A big idea
Most VCs look for businesses with the potential to generate at least $50 million annually in free cash flows within three years. While an on-line exchange for collectors of rare Canadian stamps may look profitable, the concept would be unlikely to provide the upside potential that VCs require. Brightspark founder Mark Skapinker suggests a number of practical approaches to developing a “big idea.” Many big ideas break an existing market chain, and indeed many Internet businesses have decimated historic market chains over the past few years. For example, popular on-line discount brokers like TD Waterhouse and E*TRADE have rendered full-service brokers redundant for many.
Often, a big idea will fix a problem in a particular market. Before the Internet, volumes of unwanted collectibles and paraphernalia sat gathering dust in the basements and garages of North America. While potential buyers existed, there was no efficient way to match buyers and sellers in different locations. Enter eBay and the problem was solved. With eBay, an efficient, organized marketplace for collectibles and unwanted items was created. Other big ideas allow you to do something you couldn’t previously do, by offering a valued functionality that was previously unavailable in the off-line world. For example, consumer shopping “bots” like MySimon can search thousands of retailers for the best price on a specific item, a feat that would take weeks in the off-line world.
Innovative product or technology
To be considered innovative, the product or service must have demonstrated its value and be at least as good as the alternatives. Competitive benchmarking is useful in assessing this dimension. Most VCs also prefer some level of proprietary “in-house” technology rather than outsourced technology. In-house technology development better accommodates the rapid modification and continuous improvement that are required in response to changing market conditions. Also, over time, in-depth technological expertise may create an effective entry hurdle for competitors. Where technological expertise does not exist in-house, equity partnerships with technology providers may help to ensure that the company’s technology needs are given priority.
Scalable and defensible
The best e-business concepts are both highly scalable and defensible. Scalability refers to the ability to accommodate a rapidly expanding customer base. It is driven by the ease and cost of adding incremental users moderated by the potential market size and the impediments to growth. A number of Internet models, like eBay, have demonstrated high scalability with minimal incremental investment for growth. Defensibility refers to the sustainability of the business in the face of competitive threats. Since many Internet businesses can be readily copied, defensibility has remained highly elusive in the on-line world. A number of factors positively contribute to defensibility, including strong brands and loyal customers (Amazon), control of valuable networks (eBay), scale (Yahoo!), proprietary content (Media Metrix) and infrastructure control (Cisco). Often, the early movers in a particular market are best able to develop these elements of defensibility.
2. A STRONG MANAGEMENT TEAM
The majority of VC firms consider the management team to be the most crucial element of an e-business. Typically, the initial business concept will be modified as the business model is finalized. The company will look quite different at launch compared to the initial business plan. Ultimately, venture capitalists are investing in a team’s ability to readily adapt to the changing environment and to make a concept work. By extension, managers with excessive pride of ownership who resist necessary business changes may be shunned.
The most capable teams include a mix of educational and functional backgrounds, domain expertise (industry or technology) and implementation skill (entrepreneurial or consulting experience). While the start-up team should have all the core functions, acknowledging existing gaps demonstrates self-awareness and is generally viewed positively by VCs. Taking the extra step to suggest candidate attributes for open positions or even specific candidates, and being able to talk about initial discussions with those candidates, is also helpful. Regardless of the team’s strength and skill sets, most teams will need to be expanded, particularly at key revenue or company-size milestones. The team should acknowledge that a new CEO or CFO, for example, may need to be hired once the company reaches a level of complexity that exceeds the initial team members’ capabilities.
While many of the traditional characteristics of top performers, like leadership, analytical ability, and personal stake and drive are attributes that VCs look for.
Decisiveness: The pace of change in the on-line competitive landscape does not generally allow for exhaustive analysis. Decisions must often be rendered with incomplete or inadequate supporting data. Experts suggest that it is far better to make decisions and take corrective action where incorrect decisions are made than it is to delay decisions until sufficient supporting data can be collected and analysis performed. Internet entrepreneurs must be willing to take leaps of faith daily or risk being left behind by more nimble competitors.
Storytelling ability: Being able to communicate your vision convincingly through a brief story is a fundamental skill for any entrepreneur. It will help inspire others to join or invest in your team and idea. Many opportunities to tell the business story will arise, so appropriate stories should be prepared for different audiences. An entrepreneur should always be in a “sell” mode and ready for the dreaded elevator speech, where the essence of the business concept and its current status is described in a crisp thirty-second monologue. In cases where the business is particularly complex, some sort of simple visual representation may also be effective.
Personal stake and drive: Beyond having the raw talent necessary to build a business, VCs look for teams that are motivated to pursue success relentlessly. In every interaction, the team should inspire confidence and excitement about the company and its prospects. Personal and family investment in the start-up helps to align the team’s interests with other investors’ and demonstrates personal commitment to the business.
In assessing the management team, VCs consider not only the full-time managers but also members of the board of directors, strategic advisory board and others connected to the business. Building a strategic advisory board and key strategic partnerships are excellent ways of differentiating the company from the thousands of other business plans seeking funding. Having the right management advisers brings a host of benefits to an Internet start-up. Strategic advisers with industry experience and clout can make critical introductions and help develop strategic partnerships, build company credibility in the marketplace, contribute to a public relations buzz, and provide access to scarce management talent. Many Internet businesses owe a significant portion of their success to the doors that were opened by their business advisers.
3. AN ATTRACTIVE MARKET
In addition to having a winning concept and strong management team, the business must be focused on an attractive market opportunity with significant current or future potential, and an acceptable level of competition. Also, the chosen distribution strategy must either be feasible or likely to become feasible in the short term.
Market size and potential
Some financing will naturally be available for regional or localized business concepts. However, most VCs focus on businesses that are oriented toward much larger target markets. Typically, a dot-com North American business will be more attractive to venture capital firms than a dot-ca Canadian business, although some funding will continue to exist for high-potential Canadian-focused models like Canoe.ca or Chapters.ca. The underlying market should also be growing quickly, particularly if the current market size doesn’t warrant a significant investment. Of greater importance than the sheer size and growth of the chosen market is the percentage of the market that the business can capture on-line and retain. To this end, it is important to recognize that not all markets are equally suited to on-line channels and that some markets may never materialize on-line in a commercially attractive way.
Level of competition
Investors will scrutinize the level of current and anticipated competition in assessing the overall attractiveness of the business. In most on-line markets, a business should be No. 1 or 2 to market, or its chances of achieving notable success are greatly diminished. Major connections, industry or on-line alliances, or backing by a Sand Hill Road luminary may allow entrepreneurs to circumvent this rule. But generally, room exists for only two significant players in most e-business markets. Where no direct competition exists, it is safe to assume that the business concept has already been thought of and that someone else is moving to market in parallel. With this unfortunate reality in mind, rapid execution and implementation become key if early-mover benefits are to be realized.
Distribution difficulties can sometimes serve to undermine an otherwise attractive market opportunity. Firstly, the requisite technology for distribution should exist or be expected to materialize in the near future. For example, Intertainer, an aspiring provider of movies and entertainment started by two Hollywood veterans in 1998, has suffered a disappointing rollout because the North American, high-bandwidth infrastructure has been much slower to develop than the founders thought. Another potential distribution obstacle is a lack of buy-in from essential distribution and content partners. These partners must be accessible and there should be a compelling reason why the desired partner would collaborate instead of moving into the space directly. Selling the concept to potential partners remains a critical early priority.
Last year, there was a dramatic rise in Canadian venture capital activity, as more than $2.7 billion was invested in Canadian companies. This compared to $1.7 billion in 1998. To attract a piece of this funding, entrepreneurs should be prepared to give up a substantial equity stake, often in the range of 20 to 40 percent. However, the essential connections, contacts and business advice provided by leading VC firms are often as valuable to a start-up as the capital itself. To attract capital, having the next big idea in an attractive market is not enough. The aspiring entrepreneur must also assemble the management team, advisers and strategic partners that can truly make the business succeed.