BUSINESS INTELLIGENCE vs. FINANCIAL REPORTING – Business Tactics

Situation (continued from prior post): Ok, you finally closed that institutional round of funding, have begun the process of productizing the core functionality that will become the new software business, you have a strong Board of Directors in place, and you are building out the development, sales and marketing teams. One of the first big hires you make is Jim West, a top software sales guy who got tired of the selling large ERP systems and wanted get back to the high energy, high impact, high reward environment of a nimble emerging software company.

During his first week on the job, Jim comes into your office and says “Given the potential customers you have circled, my existing relationships, and the company contacts my new sales team will have, I think we could have a pipeline of over 100 potential clients for the new platform. I am sure we can nail a high percentage of these prospects but we have to be really careful that we don’t over promise and under deliver with respect to certain key things: (1) delivering on the functionality that we sell and the capabilities of the software, (2) the time to implement and expected “go-live” with the full functionality, (3) the stability and up-time of the new system particularly given that we are delivering it on a SaaS basis, and (4) the cost with respect to the core system, implementation, on-going maintenance, and any upgrades. If we don’t stay “on-it” with respect to these things from the start, we will have some very disappointed customers – a bad thing for a new software business.” You respond, “Jim, thanks for the heads up. I definitely agree we have to track and hold the team accountable in those areas. In addition, we have other critical things to measure: (1) Pricing and profitability of the new system and the additional modules we are building, (2) Utilization and efficiency of our services and implementation teams particularly given that every implementation will be different, (3) Detailed sales pipeline tracking, (4) The true cost of development and the product roadmap as well as the cost of maintenance, and (5) Making sure everything syncs up with the annual budget and multi-year plan. All that and we have to track some of those things on a weekly even daily basis.”

As Jim walks out of your office, seemingly satisfied that you understand the importance of his concerns, you contemplate how your CFO is going to handle the new demands. Historically, your management reporting consisted of reviewing the existing key customer projects, progress with the handful of new client prospects, and the P&L and Balance Sheet from the accounting system. The CFO’s world is about to change dramatically.

Business Intelligence level management reporting systems drive forward looking vision, educated decisioning, and accountability. Business Intelligence looks forward through the learnings of the past.

Too many companies view management reporting as printed financial statements and spreadsheets with sleep provoking commentary about how one line item went up or down compared to prior history or budget. In those unfortunate scenarios, 80% of content describes the past leaving the executive team and Board to navigate the ocean ahead through a hazy fog (whether they know it or not). Big opportunities and challenges appear quickly in the company’s field of vision and the organization has to react before the full impact on the business is completely understood. A company that strives for business intelligence level reporting will maximize the clarity of how future events – new strategies, big customers, new products, acquisitions, etc. impact the company, its business model and its prospects.

OK, what does Business Intelligence (“BI”) level reporting mean? We could debate the specifics, but at a high level BI reporting takes the myriad of data about an organization and its sector (financial, operational, industry, etc.) and distills that information into communications that clearly present the most critical components of business performance and makes recommendations for actions in a way that drives effective management decisioning. I know, that sounds like a bunch of management speak – Here is one simple visual example:

With BI level reporting, the 2010 financial forecast evolves from a sea of numbers that only finance types can wade through into a usable document that raises fundamental questions about the business and drives management decisions. The above should also include commentary that provides insight on the implications of the data and makes recommendations for action. This example was pulled from an actual 2010 budget for a mid-sized company.

How do you build BI level reporting?

• Work with each business unit (sales, marketing, development, production, CEO, Board etc.) and agree on the key business information and frequency necessary to track day-to-day, quarter-to-quarter performance and progress on key business unit milestones.
• Determine how best to produce this information given the existing IT and accounting / finance infrastructure – strive for maximum automation. Scope out any necessary changes to current IT systems required.
• Work back from the key milestones and prepare reports, dashboards and KPIs that will measure performance and allow you the lead time to make corrections if things aren’t going as planned. Strive for conciseness, clarity of message, and a dashboard mentality.
• Build the company’s budget based upon running out the key milestones, metrics and dashboards (new vs. existing customers, price / volume, development roadmap, utilization, staff efficiency, etc.) so that the business units understand the budget in terms of their day to day performance and tracking.
• Determine other critical information that the team needs to understand the levers of the business – profitability by product, customer, business unit, geography; key trend lines; major potential initiatives that might not be budgeted, etc.
• Leave capacity for the ad-hoc analysis and reporting that will certainly come up – “Customer X wants this additional unplanned functionality”, “There is this huge deal in Germany - how should we price it and how long will it take to implement?”, “If we moved 20% of our development to India, what would be the impact?”, “If we raised an additional $10mm, how much faster could we grow and what would the business look like in 5 yrs?”.
• Take the time to get behind the numbers and communicate clearly – do not just prepare spreadsheets and dashboards and distribute them. It is the role of finance to understand what the numbers tell the organization about the business and communicate that clearly to the team – many of whom look at a spreadsheet and get lost in the detail. Insightful commentary that accompanies the dashboards and reports will keep the team engaged and focused.

As you can imagine, the above bullet points, which are not all-inclusive by any means, represent a ton of effort. Effort required not only of the F&A staff, but of the business units and the executive team. That said, if automated properly, once built any changes should update the entire management reporting package and dashboards with minimal effort. When combined with insightful analysis and recommendations by the finance organization, the entire management team becomes “students of the business” and has clear visibility how best to achieve its goals and how to react when unanticipated opportunities and challenges present themselves. Additionally, the F&A function becomes a critical strategic function, not just where they “count the beans”.

BI should be transformational. Properly executed, the entire management team should have the tools to understand the most important levers to pull to maximize business impact, have information when it is actionable, be able to communicate complicated information clearly to non-finance types, and be able to openly debate the best course of action. Without that, not only will the company’s view of the future be foggy, it could be blind to the implications of very important opportunities or obstacles. (The link below shows that nicely.)

-Bob

Click here to see a video of what can happen if your visibility isn’t quite clear; http://www.youtube.com/watch?v=-9vrD5dmPms

RAISING MONEY (Finding the right partner) - Business Tactics (second in a series)

image from the NSCD

Situation (continued from prior post): After you and your fellow founders spend much time brooding over the pros and cons of raising money to build the product suite vs. bootstrapping it, debt vs. equity, etc., you decide to raise $4mm of growth equity capital. At the end of the day, the decision hinged on (i) the opportunity being just too great to raise only a small portion of it (inquiries from the key clients have intensified recently), (ii) timing – you are a bit concerned that another web / software company may get to market first, and (iii) the somewhat risky nature of the project that makes “putting up the company” as collateral for a bank loan outweigh the lower cost of debt financing.

Over the subsequent weeks, you prepare a presentation on the industry and the business, what you have done, the milestones you need to hit to succeed, the team you need to build, and what the numbers look like. You also built a highly detailed monthly financial plan that clearly forecasts the key drivers of the business and the dashboard that you will use to measure your performance against that forecast. With that material, you speak with several dozen potential investors – most of which are venture funds, although a few strategics are interested in tracking your development.  After several rounds of preliminary diligence, you have received letters of intent and term sheets from several VCs.

Two of the firms, ARB Ventures and Operating Growth Ventures (OGV), stand out from the pack. ARB has an impressive track record and has been around some of the biggest software / internet success stories in recent years. ARB has a large fund and at $4mm, the investment in your company will be by far the smallest in their portfolio. The partners are a bit on the arrogant side and at times are not the best listeners. They have spent the least amount of time digging into the core business, the numbers, and the milestones. That said, the pre-money value of their deal is 33% higher than all other term sheets. You know the devil is in the detailed structure of the security, but that valuation difference is meaningful to you and your partners. Contrasting ARB, OGV has been around for many years and, while it has had some significant success during its life, it has stayed away from raising larger and larger funds. OGV tends to stick with industries and technology that it knows well and does significant diligence on every investment. Their list of preliminary diligence requests was almost overwhelming, but in all conversations with them, it was apparent that they fully analyzed all information provided and had a strong grasp of what the company had to do to succeed. The partners were calm, listened well and were genuinely interested in the intimate details of running the business. Further, through its LP network, OGV has deep connections with a dozen key potential customers of this new product line. While nothing is assured, they could help grow the business in many unique ways. Unfortunately, OGV’s pre-money value of the business is in the middle of the pack. Each firm wants an exclusive to move forward – who do you go with?

Find the partner that truly brings operating benefit and maximizes likelihood of success – that is more important than getting a higher early round valuation.

Valuing private businesses is not an exact science. While much complicated and not so complicated math, diligence and research can be employed to come up with values, virtually all of it is based upon different expectations of the company hitting certain performance hurdles over the coming years. In most cases, differences in initial valuation (and the “paper” value to shareholders implied in higher valuations) when the company is young can become moot when compared to the long term value added of the right investor. The investor that brings true operating expertise (as opposed to just words), industry contacts, access to key executives, and reasoned counsel at the Board level can bring long term value to the Founders and existing investors that can far exceed initial valuation differences.

Here is a simple example (using the “Situation” above as a guide relative to size and numbers): Suppose ARB proposes investing $4mm to purchase 20% of the company vs. OCV proposing $4mm to purchase 25%. The implied pre-money values are $16mm for ARB and $12mm for OCV, or $4mm (33%) more “paper” value to the existing investors at close under the ARB deal. That is an unusually large valuation discrepancy for a business of this size. Offsetting the higher ARB valuation, you believe that OCV would truly add operational benefits over ARB given their industry expertise, contacts, knowledge of the business drivers, and their reputation of being a respected advisor to portfolio companies. While difficult to quantify, you believe that OCV could increase the likelihood of hitting or exceeding your plan by 20-25%. Using different discount rates as a surrogate for increased likelihood of success or reduced risk to the plan, if OCV reduces the risk of the plan by 20% (ie. a 20% discount rate vs a 25% discount rate), then you and your existing investors are better off in today’s dollars going with OCV. Here is the very basic math:

  

 

While the above example simply shows that a lower discount rate means higher value today, something we learned in college, it illustrates the importance of having a group of investors and Board of Directors that add operating value to the business. Different investors / partners bring different operational value with the best ones maximizing the likelihood of success.

Here is a list of what I believe are the most important things to cover in choosing the right investor:

Do they bring value other than money? Almost all firms will talk about how they are really operators and bring incredible value to their portfolio companies. Your fiduciary responsibility to your existing shareholders is to cut through the words and slideware and do your diligence on the investors. You need to determine how real that value added is. It should be tangible – past experience / learnings from investing in the industry, customer / industry contacts that drive revenue or reduced cost, direct operating experience that improves the business, technical expertise that improves the product or the way the company approaches development, QA, BCP, access to strategic partners that can expand the breadth of the business, etc.

Do your diligence on them. Speak with executives from their current and past portfolio companies. Understand how they act as Board members – did they stay up to speed on the key business drivers and industry dynamics? Did they provide strong and relevant counsel? Did they really deliver on the “operating benefits” that they sold prior to funding? How did they respond and help the business in tough times? Did they communicate regularly with the CEO, or were they only engaged around quarterly Board meetings? Were they really “long term” investors like they said prior to close, or did they push for a quick exit.

Are they on the same page strategically? Do they share your same view of not only the direction of the industry and the opportunity, but on the major components of the company’s growth strategy and the tactics of how to get there? How deeply did they diligence your business, the way you manage it, how you set and track milestones, your technology / the application(s), your development methodology, how you go to market, how you will measure success, etc. While it is a bit obvious, the right long term investor will have done their homework, gotten intimate with all aspects of your business and success drivers, share your strategy and agree with your tactics.

Past investment success in your industry. How deep is their experience in your sector / industry? How successful have they been with their past and current investments? As you look at their portfolio, does your company fit well within an overall fund strategy or does it stand as an outlier – in a different sector, in a new market / channel, much earlier or later stage (revenue size, cash flow), a much smaller or larger investment, a different control position? Being different is not necessarily a bad thing, it could be a very good thing, it just is an additional data point you need to consider that could reflect how they might act as an investor / Board member in the future.

Is there a cultural fit? A bit of an intangible, but a cultural fit with your key investors is critical. You will likely be spending a ton of time with them over the coming years – figuring out how to capitalize on huge opportunities and hashing through tough problems. You don’t have to be best friends, but there has to be a mutual respect, complementary communication style, and shared passion in the business. Importantly, both of you – the investors and you as management – have to be good listeners. Having mutual respect and listening to each other is the best way to maintain a constructive dialogue and ultimately make the best decisions for the company.

How to get the most out of your investors / Board:

Make sure the Board and the new investors look at the business and measure performance the same way the management team does: Everyone needs (i) to be on the same page as to how success is defined – short term, medium term, and long term, (ii) to agree on the key business milestones that will drive that success, and (iii) to get information on a timely basis. Not only will it focus all of you on the right business drivers, it is the difference between reporting and analysis as “business intelligence” vs. plain old financial statements. That isn’t to say that the Board should get the same reports that management uses to run the business, but the Board reports should highlight the same key metrics the management team is using to track itself.

Build a financial model / business plan that is detailed, forecasts the key business drivers, sets forth the milestones that will determine success, and communicate progress clearly and often. The financial model upon which success is based must be highly detailed so that it reflects that true drivers of the business. Take the core fundamentals that you track on weekly / monthly / yearly basis and drive those out several years: number of clients, existing vs. new clients, seats of the product sold, price per seat, hours of consulting, development hours, staffing needed to drive that growth, hardware & equipment needed to support that growth, etc. The detail doesn’t need to result in a 50 page financial model, but it does need to be detailed enough to allow you and the Board to track progress on the key milestones and to manage the likely variability of the business. Among many other things, you need to understand clearly the revenue implications of more or less investment and the cash implications of more or less revenue.

Set performance goals that are a big stretch, but realistic – then do what you say you will do.  Anyone that invests in or runs growth companies is highly goal oriented. The rush of excitement and accomplishment of building something from scratch or taking an organization to the next level is addictive and contagious. It is why we do this and it is why we can attract talented staff and sophisticated investors. That said, it is difficult to build a “winning culture” and achieve great things without a foundation of credibility related to goal setting and measuring and rewarding performance. That foundation requires that you set goals at the employee level, at the business unit level, and at the company level that stretch the organization well beyond its comfort zone but allow for frequent “dancing in the end zone” when milestones are achieved. Setting unrealistic goals erodes management credibility with investors, the Board and staff and ultimately damages company morale, resulting in a culture of disappointment rather than a culture of success.

View your investors and the Board as partners and advisors – not just groups that have funded your plan. If you have built your business to a certain level, you know that you don’t have all the answers and you need to rely on trusted advisors. (I believe the most successful C-level executives subscribe to the “Dirty Harry School of Business” – ie. Know your limitations. Therefore they surround themselves with smart people and seek constructive input freely.) This requires that you have open lines of communication with your Board. While it is still your responsibility to run the business day-to-day, you should set up regular informal and formal communication. Use them as a resource – after all, you sold them a portion of your precious business – make the most of them. Squeeze as much value out of them as you can. That will require you to keep them updated frequently on the progress of the business and let them know about good things and bad things before you have had full opportunity to determine a course of action. If they are the right investors and there is mutual respect in each other’s skills, then this should not be a problem.

Final words

OK, so you have decided to sell a portion of the beautiful business you have created. From the beginning you have been focused on building the company for the long term – don’t let potentially ephemeral “paper” value at one point in time prevent you from bringing on the investor / partner that adds the most value over the long term. Make sure that investor does their homework before close, understands the drivers of the business (and things to avoid), brings significant operating value to the core business and is a trusted advisor that you respect. If you then set stretch goals (not unrealistic ones), make sure everyone is on the page with respect to strategy and tactics, provide access to key information and intelligence about the business and its progress, and have open communication, then you should be able to get more than your money’s worth from the new investors.

-Bob

A couple funny examples of how having the wrong partner can be a problem.

http://www.youtube.com/watch?v=m5gCbvfw0T4&feature=related

http://www.youtube.com/watch?v=QTBAEcTNgNU&feature=related

RAISING MONEY (When do I do it) – Business Tactics (first in a series)

Situation: Over the last 5 years, You and your partners have built a nice sized internet services business – web design, e-commerce infrastructure, SEO, maximizing and managing social media, etc. for large to medium sized businesses. The business now employs about 30 people handling several dozen projects and you have gotten some nice recognition in your local market. Given the service / “pay by the project” nature of the business you have been able to fund the business with very little capital other than the sweat equity you put into it during the first year.

On three of the most recent projects, the clients were asking for similar web activity tracking functionality. They were not easy projects and took more time than usual, but the ending functionality was pretty impressive. As part of building out the functionality, you realized that it could be possible to build a software platform that accommodated those client requirements and more with the ability to plug-in additional functionality through future software modules. You estimated that it would take a group of 6 experienced software developers about 18 months to build the platform, document all the requirements and processes, map out installation and conversion protocols, and set up a roadmap for future modules. Additionally, you would need to build a small maintenance and support team, as well as potentially hire a software sales staff (you need your services staff working on existing projects and doing the installations and conversions.)

You are pretty excited about the prospects – you know several dozen large clients that would likely buy the platform and be great references for you as you build out this new business. You are also very tempted by the huge potential revenue growth that a software business unit could generate, revenue acceleration you would never get if you stayed as a services company. That said, the added investment in staff, technology and equipment would require you to raise $4 million just to get the product launched and the maintenance and sales teams put in place. After that it is likely you will need additional capital if the platform takes off. You don’t have the money, but you know half a dozen venture firms that you could approach. That said, raising outside capital means two things – (1) significant dilution and (2) someone else has a say in the business. Your two biggest fears. What do you do?

Maximize the likelihood of success - Don’t be afraid of dilution or outside opinions. Focus on valuation (cost of capital), the strength of the partner (what they bring beyond money), and hitting key milestones (doing what you say you will do).

One of the main reasons many young companies fail is that they are under-capitalized. Being under-capitalized doesn’t just mean a lack of cash in the bank to cover normal operations. I define it as “lacking sufficient capital and capital sources (i) to weather anticipated and unanticipated changes in the market (changes in the competitive dynamics, changes in the economy, changes in client needs, etc.), (ii) to capitalize on market opportunities that will require investments in staff, production capacity, product development, new markets, new business units, etc., or (iii) to fund normal operations over the long term.”

Great ideas and businesses need capital to develop and grow. In many young companies, that first capital comes from a Founder, friends and family, and business acquaintances. These early investors typically have a passion for the product / service and work closely to help the company grow. They have personal stakes in the business, financially and emotionally, that they protect dearly – sometimes to a fault. Assuming a company gets through the minefield of problems that confront the emerging business and is able to carve out a niche, land clients and build a viable business model, it often arrives at a crossroads…..

“Do I keep doing what I am doing and grow at X rate given my limited capital and cash flow, or do I bring in new money to capitalize on an opportunity, defend my market position, and accelerate my growth?”

In many cases, making that acquisition, building that new product, expanding production, hiring a new team, etc. requires capital a company does not have on its balance sheet. Some companies can borrow, some have to raise equity (sell a portion of the ownership), some have to do both. At that time, the company is forced to look at its business, the markets, and key milestones, etc. and weigh the benefits and cost of staying the course or bringing in new capital. Often the following thoughts go through a Founder / CEO’s mind as they wrestle with the above question:

On the “keep doing what you are doing side”:

“Bringing on debt at our stage adds a level of financial risk I am not comfortable with.”

“I won’t have to give up any ownership – I don’t want to be diluted.”

“Under the current market conditions I don’t think a new investor will pay me what I think their stake is worth” or said another way, “I would rather sell equity after we reach the next business milestone which appears to be right around the corner.”

“New capital will mean I have less control over the business, and I am not sure I trust VCs.”

“We are cash flow positive now, growing and investing is risky, particularly if we start burning cash again.”

“If I just tweak what I am doing now, I might be able to slowly invest in the growth opportunity and not have it distract the rest of the business.”

“I really don’t care that much about growing large – staying mid-sized still allows me to meet many of my personal goals.”

“Instead of making that acquisition, we will build the product / functionality ourselves.”

On the “bring in new capital side”:

“I will be able to capitalize on a major market opportunity and accelerate growth.”

“Competition is intensifying, new capital and a new partner will allow us to stay ahead of the game.”

“I will be able to bring in expertise that I need to take the business to the next level.”

“I will have a deep pocketed partner that can help me navigate uncertain business and financial waters.”

“I will have a partner that can introduce me to business people and opportunities I would not have access to otherwise.”

“I am OK with having a smaller piece of a potentially bigger pie, particularly if it increases the probability of success.”

Many owners / founders struggle with the concept of diluting their ownership stake, and naturally, the price that stake should be worth. While price and value are critically important and determine the amount of dilution, I contend that the struggle around dilution as a concept typically gets more focus than it deserves. It is the responsibility of the owner / founder / CEO to maximize the value of the business for all stakeholders. While bringing on new capital will dilute the various ownership stakes (dividing the company pie into more pieces), if done properly and with the right new partners, that capital should significantly increase the likelihood of success and ultimately make the ending pie bigger than it would have been in a capital constrained position.

In considering new capital, focus on three things: (1) make sure the cost of that capital is “market”, which may require you to hire an advisor to assist in valuing your business and comparing different sources of capital, (2) make sure you are bringing in the right partner - a partner that brings in more than just money, and (3) have an intimate understanding of the business milestones you need to achieve and how you are going to achieve them once you get the capital. Most of your energy should be spent on those points and you should spend a ton of time on them. If you come up short on any one of these points, you risk permanently damaging the business.

There are many examples of companies that ...

-Tried to build the software business on their own and missed an opportunity because it took too long;

-Didn’t bring in the capital necessary to hire the best developers in the business and struggled with product quality;

-Didn’t have the production capacity or working capital financing when the “tipping point” actually happened and they got massive orders from their top 4 prospects that they could not fill;

-Didn’t invest heavily enough to grow the business when they had a competitive advantage and now they are being marginalized as the big competitors come into the market with big balance sheets;

-Chose a partner that eagerly invested money at a great valuation, but didn’t understand the business and rendered decision making ineffective;

-Did not raise money when the capital markets were vibrant because they didn’t need the money for another year, only to see the markets freeze up and access to money disappear;

-Set overly optimistic goals or poorly thought out milestones in the desire to get a maximum valuation, only to significantly underachieve expectations and then lose control of the business.

Avoid being in this group by seeking partners (those with money and those without) that can best help you navigate evolving client / consumer needs and a dynamic competitive environment. Critically evaluate opportunities to grow your business, the milestones you need to hit to capitalize on those opportunities, and the money it takes to get there. Also recognize that capital isn’t always easy to access at the precise moment you need it – “raise it when you can, not just when you need it” is a good mantra to follow. If a certain opportunity or competitive situation requires that you raise money, make sure you thoroughly assess the costs and benefits of different kinds of capital. That may require you hire an advisor. Once the cost of that capital is reasonably known, focus more on how that partner is going to help you grow the business beyond just giving you money and less on the fact that you will be diluted and have someone else to whom you need to listen. Lastly, set realistic stretch goals for the team and create opportunities to ring the “success bell” often. If you do that, you will have then maximized the likelihood of success and be asking the right question - “How big of a pie can we and our new partners create?”

-Bob

Click here to see a great video of exactly how to plan for the right partner (you will want to pass this around)

KNOW YOUR BUSINESS AND BRAND DNA – A Key Fundamental Business Tenant

Ask the following questions of yourself, your business, your organization:

At the absolute core….

     What is the reason you do what you do and what are you trying to accomplish?

     What is the need you are trying to fulfill?

     Why do your clients / customers purchase your products and services?

The answers to these (and other) questions determine the DNA of your organization. Why it exists, why customers buy the product / services, why employees work there (why the good ones stay), and why you will be successful over the long term (assuming you have a viable business model).

You should be asking yourself these questions when you are formulating your idea, in Year 1 when you are frantically accumulating customers and refining the product / service, when you are raising private or public money, when you are the largest in the market and others are copying you. While this might seem obvious, I believe most organizations focus on this only when starting up, or when compelled by new management, owners, or a change in brand strategy.

As a leader / founder, it is critical that you decide what parts of your original vision and mission for the business are “sacred” and what others can and should evolve as the market changes, as your consumer’s tastes and needs change, and as your business matures. In that way, your organizational DNA lives and grows yet stays true to a fundamental vision or ideal. The successful company must observe what its customers and employees are doing through the lens of its core mission and goals. You should then evaluate whether your current practices or any major project you are considering are consistent with and therefore reinforce your core DNA, or confuse people as to what you really are.

If you are not constantly evaluating how your messaging and business practice reinforces your DNA, you run the risk of gradually losing focus on the core reasons you exist. As mentioned in the Focus posting, the biggest challenge to most growing organizations is not finding ways to grow, but managing a myriad of opportunities that present themselves. This isn’t just the “Don’t go international yet”, or “Don’t launch that new product yet” lesson, it gets to the basics of your core product / service. You need to be intimate with your DNA and stay disciplined to know exactly how to describe your core product / service, how to position your product with your customers, how to communicate your competitive differentiation, and how to build corporate culture with your employees. 

Let me highlight an example of a great company that I believe has lost sight of one part of its DNA as a result of extraordinary growth:

Starbucks: I needn’t highlight the meteoric growth of Starbucks as a business. In short, the company was started in 1971 when three academics opened the first café in the touristy Pikes Place market in Seattle. The goal then was to give consumers (i) the best cup of coffee possible at the store, and (ii) supply them with beans so that they could brew excellent coffee at home. By 2009, Starbucks had grown to over 17,000 stores in 49 countries and almost $10 billion in revenues.

Clearly, moving from an artisan coffee shop to 17,000 stores around the world requires superhuman vision, discipline and flexibility. To his credit, Howard Schultz (who joined in 1982 and ultimately became the CEO that drove its growth) was intensely focused on maintaining quality, culture and mission as well as being a remarkable visionary. (The Founders originally only wanted to sell beans – Schultz pushed to get into the beverage business.) But even with his focus and commitment, meeting customer expectations of (i) super premium quality and (ii) not having to wait more than 3 minutes for a cup of coffee and investor expectations of constant double digit profit growth, proved very difficult. I will not review the various machinations of Starbuck’s growth strategy – selling music, expanded food menu, ice cream, etc. there are others that have done far more work on that. What I will ask is “What is Starbuck’s DNA?” and “Are its current mission, strategy, and actions in line with its DNA?”.

Starbuck’s DNA: How would you answer the three questions at the top if you were on the Starbucks’ Board of Directors? Here is how I would answer them:

What is the reason you do what you do and what are you trying to accomplish? Starbuck’s goal is to improve people’s lives and benefit communities by providing the highest quality products (mainly coffee) and a retail environment that facilitates community and business interaction. (Note that these are actually two very related but different business ideas.)

What is the need you are trying to fulfill? Consumers desire a high quality coffee beverage as part of their daily routine and enjoy having a quiet place to interact with friends and business acquaintances. Other options are either lower quality or non-existent.

Why do your clients / customers purchase your products and services? Thanks in large part to Starbucks, consumers now appreciate a high quality cup of coffee and are willing to pay premium prices for it. That said, at $3-$4 per cup, quality is everything. There is clearly a convenience factor and certain consumers will trade off quality for speed & convenience. These needs (quality vs. convenience) can conflict. Additionally, Starbucks is a great place to meet because there is always one close, it is relatively inexpensive space (only requires a small purchase) and the atmosphere is highly conducive to interaction.

Starbucks’ original mission (ca. 1982): "To establish Starbucks as the premier purveyor of the finest coffees in the world while maintaining our uncompromising principles as we grow." One interesting quote from Founder Jerry Baldwin: "We don't manage the business to maximize anything other than the quality of the coffee." In 1991, the Los Angeles Times named Starbucks as the best coffee in America.

Starbuck’s new mission as of 2008: "To inspire and nurture the human spirit - One person, One cup, and One Neighborhood at a time." The mission then sets forth how the company pursues this mission through its Coffee, Partners, Customers, Stores, Neighborhood, and Shareholders.  (See the links below.)

My thoughts: Both missions are admirable and aspirational. In my view though, I believe the demands of meteoric growth have forced Starbucks to sacrifice the quality of its product (the DNA expressed in the original mission ) for speed and convenience. Recall, if you can, back in the early 1990’s when Starbucks actually was the best coffee one could reasonably find without a trip to Italy. Whether it was drip coffee or a fancy espresso drink, quality was everything. Again, at $3-$4 dollars a cup, it had to be. Quality takes time, patience, attention to detail, training and costs money. Over the years, convenience, speed and efficiency took precedent over taking the time to brew the coffee perfectly every time, get the foam just right, or really understand the difference between the various coffees in the store. What is interesting is that due to the pressures of growth (opening more locations, driving more volume through the store, etc.) Starbucks trained the consumer to value convenience and speed over quality. When one used to require a perfect cup of coffee for $3-$4 dollars and was willing to wait, one is now willing to pay the premium to know that there is a store within 300 yards and one can get a caffeine hit in less than 3 minutes.

Starbucks now competes based on convenience and speed (and price) rather than quality. The result is companies that also specialize in convenience, speed and price soon become competitors – See McDonalds, 7-Eleven, Dunkin Donuts, etc. Obviously this is a massive “red ocean” of competition (in marketing parlance) that I believe puts Starbucks in a vulnerable position long term. That said, this opens the door for other more nimble companies to grab the quality positioning and steal consumers – See Blue Bottle, Espresso Vivace, Gorilla, and Ninth Street (frankly, Nespresso makes an infinitely better coffee and it is owned by Nestle).

So… Decide which components of your vision / mission are “sacred” and listen to the market, your consumers and your employees – get intimate with your DNA. Then make sure all activities from sales and marketing to new product development and employee hiring reinforce that DNA. If you do that, you might sacrifice some near term growth opportunities, but consumers will know what you stand for and you will build a healthier organization and stronger brand over the long term. Otherwise, your long term future may be at risk.

-Bob

Some interesting Starbucks reference documents:
http://www.mhhe.com/business/management/thompson/11e/case/starbucks.html
http://en.wikipedia.org/wiki/Starbucks  

LEADERSHIP - A Key Fundamental Business Tenant

Situation: You have been working 14+ hour days on a very important request for proposal (RFP) for the mid-sized company for which you work. You haven’t seen much of your family, and your spouse is starting to get pretty agitated with you. While you explain to her how the extra time you put into this proposal will really benefit the company and its ability to land some key new accounts, it is increasingly falling on deaf ears. You and your team are among the highest performers in the company and have been motivated in large part because you know your efforts really make a difference. Recently, you have been wondering if being the “A-team” is really worth it.

One afternoon as you are contemplating whether or not to work late to tighten up the RFP and potentially insert additional client studies that would make the RFP stand out, you look out at the golf course view you have from your office. There is a foursome playing the hole near your building and you notice it is your boss, the CEO and two of the sales guys on the account for whom the RFP is being prepared. “Damn it!” you mumble. “Here I am killing myself and pulling in chits from my wife to stay late to make this RFP sing and those guys are out there playing golf. I know when the RFP gets submitted, the CEO and the sales guys are going to expect me to present the details that they should be explaining to the client. On top of that, the sales guys get the commission and the CEO is going to get a big pat on the back (and a bunch of stock) when we land these next accounts. You know what, the RFP is good enough – I’m going home.”

How does a leader get the best out of his/her people? Or conversely, how does a leader prevent his/her “A” players from working like “B” players?

Build a Team, Choose a Path and Motivate

While there have been countless books written on how to best lead, I believe all of it boils down to those three concepts. Trust, communication, setting an example, being decisive, taking responsibility, etc., are all critical to being a strong leader, but those characteristics have to drive (1) Building a Team, (2) Choosing a Path, and (3) Motivating people.

It is unfortunately unusual to find a leader that is truly effective and understands the importance of these three points. Often times whether due to poor mentoring, personal insecurities, fear, ego, rigid views around hierarchy, poor listening skills, or a host of other issues, many “leaders” fail to do one or all three effectively. Getting people to do what you want because they fear you (a la Kim Jong Il) is not leading. Leading is creating an environment where people come together naturally in the pursuit of a common goal and motivating them to perform at high levels of productivity.

Building a team:  One builds a maximally effective team by creating an environment where all members of a group feel their participation and perspective is valued, their input is considered and free communication fosters unfettered debate. I touched on this in the very first post – the foundation of building a team is trust. An effective team has Respect for each other, engages in open Debate, focuses on Logic not emotion, it is Business not personal, has a Clear Action Plan, and holds others in the team Accountable.

Choosing a Path:  Ultimately it is the leader who is accountable for the direction of the organization. Before choosing a path though, the effective leader should have an intimate grasp of the complexities of the organization, business, and the problem through diligence with members of the organization and its stake holders. This requires listening and thinking. The leader takes this mindful diligence and open team debate and arrives at his/her view of the right goal for the organization and the best path to take to achieve that goal. If there has been sufficient diligence and debate, whatever direction the leader arrives at (note the direction is not determined by group vote, but by the leader assessing all input), then there will be group buy-in and ownership of the goal.

Motivating People:  Motivating people is a complex endeavor. I believe the best motivators are actually those that don’t appear to be doing it. It is like the old Zen concept of mastering something without focusing on it. While there are many examples in sports of coaches motivating players before a big game to out-perform their expectations ...and then the Americans beat the Soviets... in the business world motivational pep-talks are valuable but don’t generally drive long term consistent motivation. As important as they are, corporate goals rarely generate the same kind of white-hot passion as winning Olympic gold. To motivate effectively over the long term, the business leader must build the right team, chose the right path, then by lead by example (inspire through actions). Leading by example could be as obvious as the leader going out and meeting with all the customers or staying late with the team that is cranking on the new customer RFP, or it could be something small like helping set up at a trade show or vacuuming the storage room. If the rest of the team knows that you are willing to do what it takes to reach the goal and you are not asking them to do something you wouldn’t do, then they will be right by your side, in many cases way ahead of you. Conversely, regardless of Knute Rockne-esque words, if the leader is not giving 100%, the team will lose its passion.

Obviously, a leader can also motivate using money, recognition, or other “compensation”. While compensation is certainly an important component of corporate motivation (as we all want to get paid for what we do), without the motivation resultant from building a team, choosing a path, and leading by example, the motivation will be fleeting. More often than not, companies use compensation to make up for lack of true leadership in their staff and then wonder why the improved performance didn’t last after the bonus check was cut.

So, if you want your staff to go the extra mile, add the extra zip to the customer presentation, or burn the midnight oil because “it will really make a difference”, then they need to know they are part of a team that they trust, are working for a common agreed upon goal, and see you right there with them. The great leader creates that kind of environment and in doing so turns the vast majority of the group into high performance A players that put in 14 hour days with a smile rather than 8 hour days with a frown and monster.com on speed dial.

-Bob

ADVISORS - Business Tactics

Situation: You have a small but growing web business selling bicycles you and several of your friends are buying used and fixing up. You just found out that a school district in the city did a “donate your old bike” program to raise money and they are willing to sell you 500 bikes for $20,000. You know you can turn around and sell these for $40,000 with a couple weeks of re-habbing. That said, they need to know in 48 hours or they will sell them to a salvage place. Fortunately, you have been working with a local bank to put in place a line of credit for this kind of big purchase. The bank is well respected by people in the community and has been around for a while. After providing the bank with tons of information about your business and your personal situation, they are willing to give you a line of credit. You just received the loan documents.  Knowing you should, you slog through the papers - while pretty complicated, it all sounds fine to you and you grab your pen. Just before you press the tip to the paper, you think…hmmm I could have my friend Jim who used to be a banker read this just in case, but I wouldn’t want to trouble him to get this done in the time I need. You sign. You get the money, you buy the bikes, the world is good…

Two days later, while you and a team of friends are covered in grease working the new bikes, the bank calls you and says they have had a change in strategy and, pursuant to section 6.c of the loan agreement, they are accelerating payment on the $20,000. "Please come down and pay us by the end of the day...Huh?!?!?!?” Shocked, you pull out the document and on page 12 you read section 6. entitled “Other Provisions”. 6.c says “In the sole discretion of the lender, in the event that the lender feels insecure, the lender may accelerate all outstandings under the line of credit.” You scramble, and fortunately you are able to borrow $20,000 from your friends to cover it.

You might think this is an extreme example – it is not. Two years ago, I had a friend who was running a business much larger than the bike business above that, before he pressed the pen to the paper, called me. I read the loan document and that exact language was in the agreement. The bank was using the “insecure” language to give them a broad “out”. This is a very reputable bank and they weren’t trying to screw my friend, it was just their boilerplate language that was there to protect them. Fortunately, I told him to go back to the bank and have them change that section and about 5 others. They did and he got a loan that he could live with…the world was good.

Seek Advice

Regardless of your experience, energy level and commitment, the first thing any business person understands is that you need help. Until cloning technology advances sufficiently or your dream of the 36 hour day becomes real, you will not be able to do everything yourself. While obvious, this is often a difficult thing for driven entrepreneurs and CEOs of established companies to come to grips with. It might be the “I can do it” DNA that has made them successful, the belief that a leader has to have all the answers, they don’t want to bother their business acquaintances, or they are wary of people that get paid as consultants.  That said, a truly effective leader knows that he/she doesn’t have all the answers and they strive to surround themselves with a strong engaged team (that might be smarter than the leader in many subjects) and a broad network of willing advisors.

The most obvious areas where advisors play a significant role are Legal, Finance / Banking / Raising Money, Accounting, HR, Insurance, Web, etc. Also make sure you seek input on other core topics like Strategy, Branding, Operations, Sales, Marketing, etc. Seek out experts in all these areas. Tell your story to as many people as you can, always listen and consider how what they say might improve what you are doing.

There are endless vendors that look to get paid to provide you with services, advisory or otherwise. That said, in many of these cases you should be able to get a significant amount of free advice or work if you actively seek advice from your network of friends and business acquaintances. They might not be able to provide you the advice, but they probably can point you to someone who can. When you do have to pay for advice, you will likely be buying it from a vendor / advisor that is connected to your network and cares about building a relationship with you, not just selling you a service.

I want to spend a minute on this last point. Virtually all service providers / advisors will insist that they care most about “building a relationship”. I can’t tell you how many times I have heard this. Unfortunately in the vast majority of cases, “building a relationship” in their minds means they want to get to know your business so as not to sell you just one product, but to sell you every product they have. Getting to know you and building a relationship in this sense is highly one-way.

In evaluating advisors and vendors, look for that vendor that truly helps you build the business. They are out there. For example, I have worked with an accounting firm that, before they were even hired to do accounting work, provided highly valuable advice on systems, financials, tax issues, compensation challenges, personal financial topics and connected me with several parties that helped me raise money and grow revenues. All for free.

One interesting facet of this relationship is that my main contact person there is a tax guy, probably an area one considers very narrow relative to vendor advice. What makes this person so unique, and consequently my view of the firm so different, is that he is able to call on all parts of his organization to help - for free. He is able to “make the corporate elephant dance”. This reflects incredibly well on the firm. They are going the extra mile and truly building a long term relationship that is two-way. This firm is a trusted advisor and one with whom I will do business the rest of my career.

Thoughts on getting the best advice.

- Mine your network of friends and business acquaintances for advice or connections to experts.

- Go to all those boring business networking events and get to know the respected firms / people.

- When you meet someone with an expertise, tell them what you are doing and gain insight – they may offer to help.

- In evaluating an advisor, trust your gut as much as looking at their pedigree, firm or client list.

- Ask yourself if they will truly build a long term relationship, or will they be a “drive-by” vendor.

- Are they getting to know your business to sell you more stuff or so they can best leverage their network to help you (make their elephant dance).

- Do they help you in “non-billable” aspects of your business: Provide free services, introduce you to people that help build your network or business, refer business your way, etc.

- If you are bidding out work, make sure you have several strong firms competing against each other so that in addition to getting the best service, you are getting the best price.

- With any vendor, make sure you speak with many of their past clients and compare what you hear.

- Seek more than one opinion.  The video link below is an obvious example of that.

If you consider the above points, you will likely find people that are willing to give you very sage advice, in many cases for free. In order to get the sufficient expertise or depth of advice you may need to compensate some people for their input.  If you sufficiently canvas the people you know or know in the industry, you will likely be getting the best advice when you have to pay for it.

-Bob

Click here to see a pretty well known (though not necessarily respected) advisor get something very wrong

...and just to prove the above photo was not a fake.

FOCUS - A Key Fundamental Business Tenant

Situation: The Vice President of Sales for a young snack food company runs into the Founder’s office and says “I just had lunch with an importer who has done a ton of business in Asia. We were talking about how well our main product would do there and he said the only thing we would have to do is translate the label! What is really great is that he said he would be willing to buy a container so we would not be on the hook if it didn’t sell. If we sold a container of product, that would really make up for our being behind plan in our main US business this quarter.”

The Founder contemplates this idea. “I don’t know…. I am concerned about throwing a package change at Jim in marketing who is already overloaded with our new local marketing campaign. That campaign is focused on our core midwest consumers so that we can stop the high level of discounting we are doing to move product in that region. I agree our product would kill it in the international markets, our largest shareholder mentions it every time I see him. A full container would be the largest single order in company history and boy we could use that volume.”

What should they do?

FOCUS

One of the biggest challenges for most companies, particularly small to medium size ones, is managing the myriad of opportunities for growth that arise. Unfortunately, more often than not companies launch that new product, open that new region, hire that new executive, close that acquisition in the euphoric spirit of growth but sacrifice essential focus on the core competencies of the company or team, or the benefits its key products provide to its core consumers / clients. Maintaining focus is difficult for companies of all sizes, but small to medium size companies tend to lose focus due to abundance of opportunity and passion where larger companies often lose focus as they strive to bring growth back into the business. (I will focus on smaller companies in this post.)

One of the main reasons small to medium size companies have difficulty maintaining focus is that they are constantly bombarded with new ways to grow: new products, new markets, new territories, new customers, new technologies, new market trends, etc. Typically these companies have unique or innovative products and services that attract opportunity. They gain increased awareness in the industry, the media begins to notice them, vendors or customers pass along new ideas, friends and family enthusiastically forward ways to help out and the phone starts to ring. Additionally, one of the strengths of a smaller organization (ie. that decisions can be made quickly and the company can be nimble when attacking opportunities) can be a weakness in that new directions can get set without thorough analysis. Combine all of that with the intense passion and spirit that are required to make a young company successful, and the temptation to follow and act on every lead, market and product idea is great.

While this passion, hunt for opportunity and desire to find new ways to fill society’s needs are the essential engine of progress and innovation, the manager of a young company needs to balance that with a steely eyed focus on the mission of the company, the core market and consumers, and the key product benefits. Without that focus the direction of the company can shift frequently, the team can get demotivated, the organization can become highly inefficient, the customer can get confused and leave, and the cash balance can dwindle quickly. Here is just a sample of the repercussions:

- You will dilute your already scarce resources – money, people, time.

- The company will launch new products or enter new markets without sufficient research into the full implications to the business model, financials, organization, brand and long term strategy.

- Customers will become confused as to what the company truly stands for and what its products / services truly deliver. They will migrate away from you. This is death for a “brand”.

- The team will feel like the company direction shifts constantly, the place will feel unstable, even passionate employees will lose their desire to go the extra mile (because the work they did last month is not helping this month’s strategy.) The best people will leave.

- Corporate culture will be virtually impossible to build and maintain.

- Revenue growth and profitability will suffer as money spent on prior initiatives is lost as new initiatives become priority.

How do you not lose sight of organizational focus?

- Know the company’s core mission and soul. Why does it exist in the first place?

- Understand exactly the core customer need you are filling. Get granular with this. You may think your product or service has a dozen uses. That may be, but you need to focus your energies on the key one that sits at the core customer need.

- Know your customer and market cold. This is related to the prior bullet, but in addition to understanding the need, you need to understand the key customer and market you serve intimately and you need to target them with unwavering focus.

-Understand your true competitive differentiation - why your product / service fills the customer need better than the other alternatives in the market.

- Concentrate on doing these core things really really well in one market first. If you do this, you will get well known in your key market, build a core customer group of fanatics, and have a solid base upon which to expand. This means you don’t launch in Asia if you have not yet “owned” your key customers and markets.

- Communicate the core competencies and strategy with abandon. Communicate to everyone all the time. To your staff, your investors, your customers, your clients, the media. Do it all the time, in staff meetings, company meetings, sales calls, on company fliers, on the walls in the office, in marketing material. Be consistent. This defines you and helps you build a brand rather than just sell a service or product.

When considering new avenues of growth (products, markets, etc.) stay focused and be an incredibly good listener. Trust your team and let unfiltered debate take place. If you and the team are focused on your core competencies, then the company will make the right decisions about new growth opportunities and all members of the team will know that their tireless efforts are a part of a grand and well defined strategy.

-Bob

Click here for unbelievable video footage of what happens when you don't focus

TRUST - A Key Fundamental Business Tenant

Situation: Sitting with a group of people (a meeting, a cocktail party, a casual conversation, whatever) and one of the people in the group feels really strongly about the topic, seems to know more than the others, or has significant power over the fortunes of the others. You have something important to contribute that might contradict the prevailing wind of discussion, might add a relevant overlooked fact, or might just force the group to consider the merits of an alternative course of action. What determines whether or not you speak your mind?

TRUST

In all organizations, young / old, small / large, public / private, interpersonal dynamics determine whether a group maximizes the knowledge and skill of its members. If each team member trusts that his/her opinion will be respected and honestly considered and that everyone will be held accountable to “do what they say they will do”, then the group will benefit from open dialogue and will likely arrive at the best course of action. Without that trust, team members will play politics and only reinforce the view point of the strongest willed member or will only shallowly bring up opinions counter to the conversational trend.

You say, "Yea, I know this – it is pretty basic Group Think stuff…" Might be basic, but it is everywhere and personal insecurities make sure it is unfortunately the norm.

Trust in the Team: The foundation of a healthy and successful organization is building and maintaining a cohesive leadership team whose interaction is based on trust. It is the goal of the effective leader to snuff out the tendency of any group to orbit dominant personalities – particularly that of the leader. Trust is not created by saying “I will not fire you if you disagree with me”, or “my door is always open”, true trust is built over time through many interactions reinforcing the following:

- Respect: Team members know they won’t get their head "bitten off" if they speak their mind.  (See the picture above.)

- Debate: The team engages in energetic unfiltered debate around important topics (and doesn’t waste energy on trivial issues.)

- Logic: Debate centers around logic and fact, not emotion and personalities.

- Business, not personal: Each team member knows that everyone has the best interests of the team / organization at heart - all discussion is about the business, it is not personal.

- Clear action plan: The team and individuals commit to specific plans of action.

- Accountability: The team follows up on progress and holds one another accountable.

While seemingly obvious, in practice most organizations / teams fail in at least one of the above areas. The last two (Clear action plan and Accountability) are often surprisingly difficult. You can have unfettered debate, respect for your team members and focus on logic not emotion, but if you do not set clear action plans and hold the team members accountable daily and weekly, politics will prevail. People will realize that success is not necessarily based upon performance and will focus on the fact that some people are not equally pulling their oars. All members of the team must feel comfortable calling out missed deadlines - not meeting action plans impacts the success of entire team, not just the individual.

Diagnosing Trust in an Organization: How do you know if you have a “Trusting Team”? (Excerpted from Patrick Lencioni’s The Five Dysfunctions of a Team – Jossey-Bass 2002)

Members of a Trusting Team:

- Admit weaknesses and mistakes

- Ask for help and constructive feedback about their areas of responsibility

- Take risks in offering others feedback and assistance

- Appreciate and tap into one another’s skills and experiences

- Focus time and energy on important issues, not politics

- Openly address viewpoints of other’s performance in the group (no backstabbing)

- Have leaders that are good listeners and encourage a free flow of dialogue

- Look forward to meetings and other opportunities to work as a group

Members of a Team in the absence of Trust:

- Conceal their weaknesses and mistakes from one another

- Hesitate to ask for help or provide constructive feedback

- Say negative things about members of the team behind their backs & hold grudges

- Fail to recognize and tap into one another’s skills and experiences

- Are afraid to hold others accountable for lack of performance

- Have “table pounding” emotional or insecure leaders that dictate discussions

- Dread meetings and find reasons to avoid spending time as a group

The next time you are in a group setting, I encourage you to assess what type of group dynamics are going on. Does the conversation flow freely with people highly engaged, readily accepting constructive criticism and you don’t feel time passing? Or is the discussion dominated by one or two individuals with the others seeming like spectators until the topic gets to their area of expertise and you look at your watch every 10 minutes thinking you need another cup of coffee?

If you are in the latter group, there may be some very drastic things you will have to do to change the dynamics and culture of that organization. But that is for a future post…

-Bob