In a lecture to a Stanford crowd, legendary VC Tim Draper was asked about YouTube’s $1.6B sale to Google, and how -in light of the crisis of 2008- such an astronomical purchase price could be justified for a company with no prospect of making money yet in sight, and no real business model.

He went on to give a masterful explanation about how the essence of business is deal-making. That a startup doesn’t necessarily need to make money at the beginning, but create something valuable that eventually enables somebody to make money. In his explanation he articulated how deal making is about finding the combinations of elements that create value for both parts.

I love this concept. It jives well with my philosophy for life that ultimately you only win if you think win-win.

When we started Ringio we felt that we didn’t have to solve all the problems ourselves in order to win. There were a few core areas where our 10 years of experience at Microstrategy / Angel.com would help us add value: defining the market opportunity, designing the product, architecting the operations, conceptualizing the marketing programs.

So very early on we decided that we would seek high-caliber partners to help us execute the R&D, the marketing programs, and eventually the sales through distribution channels. Furthermore we seek to build these partnerships in a win-win manner.

Take, for example, Paradigma, our development partner:

So with this in mind we structured a deal that met these objectives. A conventional approach to having solved the problem of outsourcing R&D would have been to squeeze as hard as we could until they caved and went for the lowest possible price. But that would not have allowed them to meet their objectives, and in creating a win-lose situation we would have eventually lost: either through quality, or a breakdown in the relationship, which would be costly since we have both invested a lot of time in making it work over the long term.

If you make deals, and don’t settle for anything less than win-win, you will create space for serendipity and synergy to possibly happen. If you go for win-lose, or try to solve every problem you have by yourself, as Tim Draper says in the video, you will eat a lot of zucchini.

• How hard customer acquisition is – (“we’ll build it and they will come”)
• How unattractive an employer you are to the population of highly talented and experienced workers and how badly the odds are stacked against you in the workforce marketplace
• How long it takes to raise capital
• How draining the emotional rollercoaster is
• How hard it is to identify and anticipate a real, pressing market need

For some of these, you need a good plan, for others, experience and fortitude.

Tim O'Shaugnessy

In the last 18 months, no other early-stage startup entrepreneur in the DC area has raised more money than Tim O’Shaughnessy, CEO of LivingSocial. $49M is a tall figure. And if you want evidence that the #1 attractor of capital is traction, look no further than his company and its meteoric ascent to the “IPO potential” crowd.

I personally don’t equate fundraising success to success, I think about closing a round as interesting validation of something, but that something is harder to pin.

But the story of LivingSocial deserves to be studied, for it outlines an innovative approach to building a business. Ultimately, it’s the age-old story of unearthing a deal, finding a way to match demand to supply and taking a cut. And in the case of LivingSocial, its bigger competitor Groupon and other interesting retailers such as Gilt Groupe, it’s the story of the emergence of a new category, social commerce, and the transaction that it enables at its core.

As Tim put it earlier this week at FastTrac, “the concept we were attacking when we started the company was this notion of marrying where people lived with what they do”.  If you’re one of the 15% of the DC metro area population who gets a daily offer from LivingSocial you understand: it’s a deeply discounted deal offered by a local business, a spa massage or a hotel getaway or a coupon for a skydive.

What is original is the notion of using email marketing and personalization to connect a individual with a local business, and doing it in a way that it appears a huge win for the individual (the deep discount) and the local business (a massive surge of concentrated customers).

How did they stumble upon this?

Tim and his other cofounders jumped ship from Revolution Health and started Facebook application development in 2004. They built a couple of applications that went viral. One, in particular, “Pick your five”, encouraged Facebook users to pick their five favorite movies, books, drinks, foods, etc. In the first day it was launched it acquired 2.2M users. As a side-effect of these projects, the company built a massive database of users and preferences.

Later they came across a small company that had salespeople in 3 markets primarily focused on selling drink promotions to restaurants, subsidized by drink manufacturers. This company had the deals with the brands (e.g. Bacardi) but was struggling to drive the traffic to the restaurants where the promotion would be consumed. And here comes LivingSocial with a massive database of online users, their geography, and their preferences.

Once you think about it, it seems like such an obvious thing to do, but nobody had done it before.

For me, some interesting observations:

• Facebook changed the game completely: never before could a developer build an app that would go viral so fast as when they launched the Facebook Application platform.
• With consumer plays, it’s all about the eyeballs. You amass them first, then figure out later what to do with them. This is such a radical departure from how B2B plays work.
• Market makers are richly rewarded with transactional revenue, but you have to uncover the deal and match the demand and the supply first.

Other things that Tim shared:

• “The most useful part of a business plan is the actual creation process.” You can pretty much trash it after that.
• “Attack concepts, not ideas”
• “Make sure you always know the problem the concept is solving”
• “Startups are ugly, they’re supposed to have warts”
• “Hurdles lower your chance of success, eliminate them” and he mentioned hurdles such as doing contract work, part-timing, having too many founders.
• “Test constantly” – this one is a lesson we’re taking to heart at Ringio, ultimately it seems like the ultimate lesson: apply the scientific method and you will make progress.
• “Our biggest asset is our sales team”

It is hard to predict what will ultimately happen with these kinds of businesses. To me, the “daily deal” primarily segmented by geography seems like a fad, and a blunt instrument. In the last 24 hours I was offered a ticket to a Halloween party that doesn’t appeal to me at all. But maybe the obscene amount of money that they’re making will give them a chance to fine tune the technology and the approach and turn them into the next Amazon.com.

photo credit – Washington Post.

If you want your venture to succeed pay more attention to detail than your competition.

Here’s how I visualized his idea:

Funny how he puts it, eh? But in a sense, it’s true, your should count on luck going to others, and most of the time they will have money on their side too. Your tools are your craft, and a laserlike focus on details.

And then Eric went on to give a myriad examples of what being attentive to detail meant:

• Understand your customers in detail: for example, at Five Star Alliance they understood that buying a luxury good required a luxurious buying experience, and that gave them a leg up on much more established travel booking sites.
• Run your marketing efforts with a meticulous analytical mentality. He showed us how deep an understanding of SEO they developed, and how much experimentation they did with their SEM efforts. Every marketing dollar counted so it had to be spent on whatever produced the most results. Some figures he threw out: 6% CTR on ads. 0.7% conversion to bookings, top 1% Google spenders. He told us about how their platform allowed them to turn SEO hypotheses into content into indexed pages in a very quick manner and allowed them to be very opportunistic.
• Develop a detailed view of your cash cycle. This encompasses the steps and timing between getting charged to provide the service and getting paid.
• Pay attention to how you spend your money. In other words: be cheap, but not stupid cheap. Buy used, bum office space from fellow entrepreneurs, sub-sub-lease at $16/sqft. He told us of a time when he heard Don Rainey’s technique of slipping a bartender at a trade show $50 to use Grotech coasters and achieve the same effect than a much more expensive conference sponsorship.
• Pay attention to who you hire. This focused on sales teams, but he said that he only hires sales reps that consistently, year over year over year have beat their quota, president’s club material. They’re expensive, but any one with less of a track record ends up being equally expensive or even more expensive if you take into account the opportunity cost.
• Pay attention to your product feature performance. He told us that, in the beginning, they spent 1/3rd of their R&D and website space on Tina, a virtual concierge, and it didn’t work at all, so they cut it in 60 days (while his competitors dragged on).
• Pay attention to what people say about your company online. Monitor forums, social networks, and protect your reputation.
• Pay attention to the cash flow. “Everybody should consult on the side” when getting started.
• Do more detailed market research than you would naturally be inclined to do. He explained to us how he has spent almost 2 years researching the market and interviewing 75 exec-prospects for his new high end marketing solution. Iterate over the feedback you’re getting and tweak the product designs before you get more feedback.
• Selling is an “attention paying” activity. He’s a big believer in Sandler Sales Training, which he calls “a sales method for engineers”. This means focusing on the sales prospect and his problems, not your spiel. Focusing on asking questions you know the answers to, and you can solve. Focusing on what makes a difference in your prospect’s life (reputation, credibility, bonus…). Focusing on starting at the right organizational level (at the top).

I could list a lot of things that we’re dong at Ringio to follow this principle, but one that that we’re driving home hard these days is paying attention to our active evaluators and doing everything in our power to increase our chances of turning them into paying subscribers, playing with promotions and messaging and incentives, and understanding really deeply who our customers are and why they’re buying.

I thought I’d recap some of the key insights, as I found them valuable.

Origins and Product

• Duke and his cofounders started really young, in his very early 20s from his college dorm. In his own words: “You couldn’t escape tech innovation at Cornell in the late 90s and early 2000s…”
• The first few years of Parature were very lean, focusing on turning fanatic users of their chat product into paying subscribers. Those early users were mostly “mom and pop” online retailers who were trying to humanize the shopping experience.
• They stumbled upon SAAS almost by accident. They were trying to be very frugal with buying licenses for servers and they found that by putting more than one customer on a server the costs were lower than the competition. He mentioned his chinese heritage as playing a role.
• Their ticketing product (which is now probably the core of their offering) came out of discussions with Michael Chasen, the CEO of Blackboard, who gave them a chance to convince him of buying a yet to be made competitor to Remedy, which was a lot more expensive. Instead of booking PS hours they focused on licensing the technology… and that’s how the product was born.
• As time went by the used a “bowling pin” approach to product development: find 2 or 3 customers that could be knocked down with a feature, then build it.

Fundraising from Angels and VCs

• From ’01 to ’06 Parature was built into a $4M run rate, 30 person, 300 customer business only on Angel funding.
• Meeting Ching Ho Fung at a conference was serendipitous and they created a great relationship and won themselves a core angel investor, a mentor and a networker.
• Ching Ho would tell Duke that VCs would come to him once the business had traction, but it took a while for Duke to internalize this information.
• Eventually, a barrage of VCs would come knocking on Duke’s door for a Series A, and they ended up raising $13.5M from Valhalla and Sierra. Duke wanted an West Coast VC (probably to help with valuation) and the West Coast VC was a lot more comfortable with the investment once they understood that there was a local VC to do the play by play.
• What finally made Duke go for a Series A was when some executives from SFDC came knocking with a (somewhat) lowball offer for the business. It then became clear to him that they were winning at least 50% of the deals vs. RightNow, but they were only seeing <20% of the deals in the market, because they had 4 sales people and RightNow had 30. They used the VC’s capital to throw money at the problem of rapidly accelerating sales (my experience observing at Angel is that there are smarter ways of doing this, see Sales Learning Curve [PDF] ).
• Another key learning was that Ching Ho made them practice board-level accountability by setting quarterly goals and then reviewing together whether they were met or not, a sort of rehearsal for the time when there would be professional VCs in the board.
• In July 08, a few months before the collapse of the financial markets, Parature raised a $16M Series B from Accel. He entertained us with the stories of how he negotiated the term sheet (he says he probably got a 10% bump on the valuation and negotiated away some of the preferences). You could tell by the passion of his narrative that he obviously enjoys negotiation quite a bit. It made me wonder how different profiles of founder would deal with this, or if it is the case that investors should only put their money in the hands of founders with a great panache for negotiation.

Some reality check

A few things to keep in mind, though, as one ponders the lessons from his talk, are:

• Entrepreneur does not equal “founder of a VC fundable startup”. There are many solid small business opportunities worth pursuing that simply don’t have the large market potential and huge return that a VC would expect in a business that they would want to fund. Very few entrepreneurs in the Mid Atlantic own businesses that will ever qualify for a $13M Series A and a $16M Series B.
• While Duke made the case that the dilution of multiple rounds of investments was worth it (as the Blackboard CEO would put it, “I’d rather own 2% but be the CEO of a publicly traded company”), I don’t think that it is that clear cut. There is something to be said for building a business to a reasonable exit that creates a solid return for the capital that is already in the business, especially for a first-time entrepreneur.
• There are probably other perspectives on Parature’s story also worth considering (the old adage about “history is written by the victors”)

My key take aways

• Get yourself a Ching Ho. Invest time in finding and developing a relationship with those who could become real angels for your business: people with a depth of experience, a breadth of connections in the institutional investment world and a true coaching spirit.
• Focus on building your business. You will only get a great deal from VCs if they are coming after you, and best kind of traction is revenue, new customers, new deals. So don’t go waste your time chasing investors, focus on customer acquisition.
• Learn to be a great story teller. Duke has done loads for his business and for himself by learning how to tell their story, and connecting with audiences. At the end of the day, customers buy from people, investors invest in people, so if you can be persuasive, genuine and passionate, you’ve won half the battle already.

The last twelve months of my professional life have been the most exhilirating, rewarding and challenging of my 11 year career. As I restlessly worked on Ringio, the most valuable lesson I learnt was: Never go it alone.

First I have two amazing partners: Ashish and Michael. Ashish brings a wealth of technical expertise, but more importantly, he is a no-nonsense commonsense decision maker and a tireless doer. Michael is a nuclear-powered dynamo, but more importantly, he knows what counts the most at each stage.

Without them, the business would probably be in bad shape. But they’re here, and that has meant the world to me.

Then there’s the team:

• Alberto Perez, without his leadership our engineering project would have never got off the ground or through the finish line
• Nico Nombela, his technical ideas underpinned the brilliant architecture of our service
• Alberto Vilches, whose mad skills and inventiveness made it possible to use so many leading edge technologies
• Mario Muñoz, who made it possible for us to have a great mobile application
• Quique Torres, who infected the team with his enthusiasm and passion
• Hwi Lee, who made one of the best interaction designs I’ve ever seen in a telephony product
• Jae Mun, who contributed a sharp visual design to all our interfaces
• Sukanya Thirthamattur, who tirelessly uncovered and whacked out bugs
• Gerry Preville, who accounted for every dollar and cent
• Joe Boyle, who made it possible to have proper legal documents
• Mike Sweeney, who put together a brilliant website
• Andy Abramson and the Comunicano team, who cheered for us and gave us a real persona with the media

Last but not least, all our investors, who trusted us with their hard-earned money with so little to show.

When I sit down and count all the people who have lent their ideas, their time, their passion and enthusiasm, their feedback… the lesson is clear. Business is a tough and lonely place, so never go it alone.

To all of you: thank you for making this dream a reality. Ringio Rocks!

Sometimes piracy as a business model delivers value beyond getting the goods for free, it delivers convenience. And that is a point that many times escapes content publshers who associate their rights over content with the rights of how that content is consumed and impose on consumers restrictions that consumers find unacceptable.

Sometimes we get so caught up in judging the morality of illegitimate industries that we forget to learn some of their highly innovative methods.

My American friends tease me when I tell them that, in Spain, you do business with ham. So here is proof: at a tech company I recently visited, employees were given the choice of getting hi-end headphones or a cured ham leg as a Christmas gift, and even among geeks, over 60% chose the ham leg.

This passion for all things pig is hard to understand for outsiders. At least, until you taste it. Prosciutto is no match for spanish ham. In reality, what people love is to gather around good food and there’s no better opportunity than to do this that at year end. Hence, in Spain, 50% of ham consumption happens in December.

This is also a fantastic, historic time to buy ham, as with the economic crisis there is an oversupply, and ham manufacturers are selling at below-production cost.

So head over to Ibergour and grab a good leg.

In bike-speak, I’m what they call a clydesdale, an overweight dude who picks up biking to get fit. I’m glad to see that it’s a trend among techies. Our 100% sedentary jobs and our natural inclination for things intellectual makes it possible to go through life without making any physical efforts. I’ve met fit techies too, but the ratio definitely favors the well-built kind.

Here it goes.

• Like Mark Suster says, be persistent. When I started biking I was in a lot of pain. Even a 4 mile commute would be major. But I kept on going, every day, and my body started getting used to the effort and (very) slowly rewarded me with added stamina. In business, getting to a goal is much more likely if you have a chance to iterate many times over the idea. For example, when it comes to product ideas, following the minimum viable product approach.
• Be prepared. I remember the beginning of my bike commuting was an unmitigated disaster. I forgot my shoes, or some clothes, or the bike lock, or … you name it, I’ve probably forgotten it or kept it at the wrong location. My task at hand (to bike from A to B), seemingly simple, got way overcomplicated because I didn’t have a supporting system. In business, you have to invest in the process to make the outcomes happen in a predictable way.
• Don’t be a loner. Every weekend I would go on these rides by myself. It was fun and everything, but I only made so much progress. Then I joined a biking club, the Potomac Pedalers. Going on rides with other people challenged me and helped me learn about how others, ahead in their cycling prowess, solved the little challenges. In business, you can operate solo, but then every problem is your own problem. You slow down your learning, and it’s harder to spot opportunities. It’s much better to be part of a team. And much more enjoyable.
• Don’t be afraid to ask. There’s so much to learn about biking, and it makes a difference too. Why do they wear those tights? Why do they walk in those funny shoes? Why are those saddles so thin? etc etc… So I’ve driven my friend Steve crazy, and every shop employee at all the local bike shops in herndon and reston… to get the advice. This has helped me so much in all the other goals. In business, you can do it the hard way, or you can ask somebody who’s been there before. But that requires work too. Work to build the relationships with mentors and advisors. And it also requires humility to realize how much you don’t know. And vulnerability to ask a potentially stupid question.

(This post is for my friend Steve)

[youtube=http://www.youtube.com/watch?v=uQGYr9bnktw&w=700]

Most memorable quotes:

Instead of being a sheepwalker –somebody who’s half asleep, following instructions, keeping their head down, fitting in — [...] someone stands up and says ‘not me. This one is important. We need to organize around it’

All tribe leaders have charisma, but you don’t need charisma to become a leader. Being a leader gives you charisma. Charisma comes from the leading.

What leaders have in common

1. They challenge the status quo
2. They build a culture, a secret language
3. They connect people to one another
4. They commit to the tribe

If you’re interested, here’s the book.

5 Approaches to building a development team

As you can see, I think Offshoring 2.0 is the smart choice. In upcoming posts I will flesh out more details about this approach.

I’ve been reading Unseen Academicals. If you do, you can’t but notice Glenda Sugarbean, the Night Kitchen cook. As Lord Vetinari says, “That’s a Sugarbean woman for you, little domestic slaves until they think someone has been wronged, and then they go to war like a queen, with chariot wheels spinning and arms and legs all over the place. [...] One can only hope she doesn’t take it into her head to enter politics.”

She reminds me of another great Pratchett character, Granny Weatherwax, the old witch who really can’t do magic, but somehow is more powerful than any of the wizards.

There’s something to be learnt from these characters about quiet leadership. How selflessly they can focus on the outcomes, how single-mindedly they fight for the right cause, how little they care for perceptions or what others might say. Their spirit of sacrifice.

My friend and ex-boss Mike Zirngibl gave me one of the most thoughtful gifts of my professional career, a little book by Mark Sanborn titled “You don’t need a title to be a leader“. I got it at a time when he must have seen me particularly turmoiled, when I exuded ambition from every pore. Funnily enough, he did give me a bigger title soon after. But I think he was trying to make me see that anybody who seeks leadership is scaring it away. That we all have a choice.

We either want change or we want recognition.

If you work for recognition, change escapes. If you work for change, you may never get recognition.

The only true recognition, though, comes from effective change.

And how you act defines you.

So you must chose.

If you do things to get noticed, you will dillute the impact of your actions.

If you do things to change the world, you must be ready to go unnoticed.

Eventually, though, the world sorts itself out.

Whatever you position may be, work to affect change for the better around you. Stay out of politics as much as possible. Focus your energy on the outcomes. Don’t worry too much about how things look. And, if you deserve it, recognition may eventually come.

In 2009 I will work out twice a week and eat more home-made food.

Why: “Even the least organized among us spends time and energy planning and strategizing about our career, personal finances and health. Why? Because we al think we might be forced to forfeit those things if we aren’t purposeful and thoughtful about them. [...] If we aren’t purposeful about our exercise and diet, our health could fail us.” Lencioni, The three big questions for a frantic family

In 2008 I stressed out majorly about work.

In 2009 I won’t lose any sleep over work.

Why: This year we achieved anything worth remembering thanks to the herculean efforts of 2 or 3 A+ players in the team. But now I have a top notch management team and it is so incredibly liberating to see them take it on themselves to deliver above and beyond.

In 2008 I put my job first and my family second.

In 2009 Lucas and Clara will get my best thinking and my best doing.

Why: In 2008 our family life was unfocused. As the CEO of the family I winged it, crossed my fingers, hoped that everything would work out. But we weren’t purposeful. In 2009 we will focus on having real fun together and enjoying our weekends to the max.

In 2008 I lived a split life between two ideas that could make me rich.

In 2009 I will cast my lot with one and hope for the best.

Why: In 2008 I tried to hedge. I followed the advice of people who haven’t dared starting something new for themselves. In 2009 I will commit to one of two things, and stick with my choice for the next 3 years.

In 2008 I let many good thoughts evaporate.

In 2009 I will blog.

Why: Because I learnt so much from other entrepreneurs out there who not only do a remarkable job, but care enough to share it with the rest of us.

To all my friends and colleagues: keep me accountable!

The main lesson it teaches about leadership is that it really is about building high performance teams. Performance comes from great teamwork and the principles of teamwork are simple to understand but hard to follow. They require persistence and discipline.

To me, the book is so refreshing because it validates my long held intuitions about leadership. That being ‘political’ or ‘playing the executive role’ as some like to say is actually distortion or dysfunction, and ultimately leads to a high price being paid: the lack of performance.

The basic framework looks like this:

I won’t spell it out for you. You can read the book in one 2 hour seating.

Healthy teams at work feel like healthy human relationships elsewhere in life. A collection of individuals who are good listeners, can be frank and sincere, accept their faults and keep each other accountable, who can put the collective good ahead of their own goals and who use their brains at all times.

There’s a lot in the book about how teams overcome these dysfunctions but there seem to be two salient points:

• The leader must drive the correction of the dysfunctions by:
  • being genuinely vulnerable
  • not protecting members from conflict
  • being comfortable with making less than perfect decisions that may turn out to be wrong
  • stepping back and letting the team serve as the first and primary accountability mechanism
  • setting the tone by focusing on results
  • reserving rewards and recognition for those who make real contributions (and not self)
• The most effective way to work on correction is by spending quality, focused time together. The book suggests:
• • Annual three day offsite
  • Quarterly 2 day offsite
  • Weekly staff meeting – 2 hours
  • Ad hoc topical meetings – 2 hours

During the intro, the most interesting part, the host introduces academic research on team dynamics that shows that the most important predictor of a team’s performance is not a) the skill of the most talented individual or b) the average skill of the team’s individuals, but c) the person in the team with the worst attitude.

In other words, a few bad apples ruin the whole bunch.

Listen for yourself

http://podcast.thisamericanlife.org/podcast/370.mp3

Start at 2:03 and then listen till 14:00

There are 3 prescribed bad behaviors:

• Being a slacker – Not carrying one’s part of the workload
• Being a depressive pessimist about all team outcomes
• Being a jerk — Abusing others verbally

The academic research

This gave me a lot to think about.

• Who are the bad apples on my team?
• Am I a bad apple in the management team?
• Do I show “bad appl-y” behavior myself sometimes?
• When I see it on others, do I act like the son of the diplomat mentioned in the podcast? (12:40)

The most interesting finding: (13:12)

A group leader can change the dynamics and performance of a group simply by going around and asking questions, soliciting everybody’s opinion, making sure every one is heard.

• Each project you start has unaccounted for activity that goes beyond the “we’re done” moment
• As your projects gather more success, there’s more scrutiny, so things slow down
• You have to deal with undoing prior mistakes, which takes time
• Your past projects have set a standard that now you fear not surpassing.

As it relates to software releases, this couldn’t be truer. We’re just in the first few days after a major release and we find that:

• It took as long to go from paper to software as it took to go from software to shippable software
• It took twice as long to design the software as it took previously, as we became more sophisticated in our requirements gathering and design
• It took a third of the software engineering time to refactor the previous version and clean up.
• With v.1 we had no customers at the time of the upgrade, with v.1.5 we had several hundred with very clear expectations from us.

1. Key business metrics are CMRR (Contracted Monthly Recurring Revenue) and Cash
2. It takes $300k of CMRR to climb the Sales Learning Curve , stop at 3 sales reps until at least 2 are making $100k MRR quotas
3. Separate your hunters and farmers, as soon as you climb the Sales Learning Curve, ramp-up using account managers
4. Channels don’t work for SAAS
5. North America only until $1M CMRR
6. One data center only (I love this one!!)
7. Single instance, multi-tenant
8. Savvy online marketing is a core competence of every successful SAAS business
9. Constantly trade off cash vs growth, maximize your recurring revenue run rate
10. Be prepared to cross the desert, R&D and Sales expense upfront, so fund 4+ years of runway.
    

It took us 4 years to learn these lessons experientially!