With the equity gap widening, start-ups are looking to find new ways to stretch their scarce resources.
Cash burn is a problem for any start-up - and contrary to common belief, the components that really drain your bank account can't always be anticipated. 'Let's just say we blew in the region of a million dollars on recruitment, redundancy costs, and staff ups and downs,' admits the CEO of one start-up, explaining how desperate attempts to land its first sales had forced it to hire and fire a succession of expensive employees.
With the so-called 'equity gap' continuing to cause problems for smaller technology companies that don't qualify for venture capital funding, implementing tight financial controls could be the main factor that ensures your seed capital keeps you in business. Long gone are the days of plush offices, fancy cars and state-of-the-art equipment. Now more than ever the old accountants' warning - if we halved our revenues and doubled our cost base would we survive? - is starting to ring true.
The existence of an equity gap in London's capital markets is nothing new. In April 2003 the Government announced a consultation effort dubbed 'Bridging the Finance Gap', a joint initiative between the Treasury and the Small Business Service. The document says: 'SMEs seeking equity pass through different stages in the funding life-cycle, typically starting with personal capital, often supplemented with bank debt and equity from friends, family and other private investors including 'business angels'. Only a small minority raise equity in amounts over �250,000 from these sources. Above this threshold, SMEs must generally look to the formal venture capital sector to meet their equity funding requirements.'
But this is where the problem emerges: 'Many commercial venture capitalists are reluctant to invest in small amounts (a �1 million threshold is often cited) for a variety of reasons, principally high fixed transaction costs, shortage of available exit options, and a perceived greater risk in investing in early-stage companies. Although the UK has one of the most developed private equity markets in the world, it has increasingly focused on later-stage deals.' The document notes that while the overall number of private equity investments has increased by 17 per cent since 1997, the number in the �500,000 - �1 million range has declined by 10 per cent.
From the VC's perspective, there's a simple explanation for this phenomenon. Glenn Stone, corporate finance partner at Grant Thornton, says: 'Raising capital is very hard today - and I'm saying that as someone who can get in front of VC funds. Venture capitalists have become almost as risk averse as the banks. Some are not at all interested in start-ups. They won't even talk to you unless you have a pipeline of sales. They call it risk capital, but really [what VCs are offering is] development capital - and yet they still want VC returns.'
The Government's answer to the problem is to attempt to mirror the US, where state-aided Small Business Investment Companies account for nearly 60 per cent of investments. After more than 150 responses to Bridging the Finance Gap, the resultant output calls for, among other things, the creation of Enterprise Capital Funds (ECFs), the bidding rounds for which recently closed. These will add to the existing Regional Venture Capital Funds (RVCFs), the largest of which is London's �50m Capital Fund. But with the RVCFs designed to invest sums of less than �250,000, and the success of the ECFs still to be evidenced, the best option for many entrepreneurs is to make seed funding stretch as far as possible.
It's not, as one investor recently put it, necessary to 'prepare for poverty', but start-ups need to be ready to tighten their belts until regular sales start coming in and the business gains some stability. 'Starting a business is more than a full-time job,' says Geoff Sankey, managing director of the Capital Fund. 'It's a life activity and it absorbs most of your waking hours.'
Boxout: Controlling costs: the start-up's perspective
1) Ensure major suppliers have a vested interest
One business that has been through the experience of stretching out a �250,000 DTI-backed Loan Guarantee Scheme loan is hospitality and charity technology provider Eproductive. Chris Cowls, CEO and co-founder, recommends ensuring suppliers are pulling in the same direction as the business. 'Our technology partner is now an equity stakeholder, which means all of the key players have an interest in the success of our venture.'
Cowls says keeping its main supplier onboard has been one of the key factors in its delivery of Internet-based management control systems. The ongoing commitment of suppliers can be critical to the success of any small business, so giving them a vested interest in the success of the business is a good safeguard of future wellbeing.
2) Keep a lid on people costs
People costs are often the largest single item on a start-up's P&L, but they're not always managed as well as they could be. For one thing, smaller businesses often don't have time to carry out formal performance reviews - yet these can often give both employer and employee the chance to step back and assess their work. It's not just about analysing someone's performance in their job - it's also about establishing whether the employee's skills and knowledge are being put to the best use. Many tasks and activities are carried out as a matter of routine, even if the original objectives have long since changed. It's also worth assessing what value each employee creates and asking yourself whose job would go if you had to make redundancies - that may give an interesting perspective on how well you're deploying your human capital.
In addition, consider pay scales carefully. One business angel argues that no executive in a seed capital funded start-up should be earning more than �30,000. While reward should always be in line with the value an individual adds to the business, keeping a cap on salaries is an effective way to ensure costs don't spiral.
3) Control cash flow
Everyone knows that cash flow management is essential for ongoing stability, especially for businesses with high start-up costs such as software development. But how effective is your long-term planning? Rolling forecasts that look ahead six to twelve months provide a guideline for businesses to manage peaks and troughs in cash flow. Specific problems such as slow paying clients can also be managed through a combination of techniques, from payment incentives or penalties to concerted efforts to build a more mutually beneficial relationship. Those steps are often preferable to external solutions such as factoring, which comes with considerable costs attached.
4) Minimize fixed costs
'You need to keep an eye on your fixed costs' says Cowls, 'if only to keep them in check.' It's a truism that fixed costs can't be easily altered, but it's worth doing a regular review for the best deal on office rental, equipment hire, and monthly telecoms and IT.
5) Carefully evaluate asset purchases
Always ask whether the purchase of an asset is key to the development of the business or whether the leasing/rental option may be cheaper. But by the same token, don't cut corners in the wrong places. Cowls says: 'Don't scrimp and save on the wrong things. We've paid top dollar in outsourcing our servers because it's our clients' data and critical to our success. You need to pay good money for what's important'.
Written by David Longworth
Friday, February 24, 2006
Tuesday, January 24, 2006
A breath of fresh air
Marty Pichinson knows as much as anyone about why start-ups fail - after all, he's closed down 148 tech companies. Now, he wants to pass that knowledge on.
Short of turning up with a hood over his head and wielding a scythe, it's hard to see how Marty Pichinson could have created much more fear when he appeared on the doorstep of Silicon Valley's troubled start-ups in the wake of the dot com bust. This, after all, is a man who's helped close down no less than 148 technology companies, representing $5bn of investment. If anyone knows why businesses fail, it's him.
But while his company, Sherwood Partners (www.shrwood.com), still gets regular calls from investors to put troubled firms out of their misery, today Pichinson is building a reputation for himself as a friend and mentor for start-ups. True, his track record errs on the side of failure rather than success, with only 18% of companies saved from wind-down. But as he points out, often when he's called in it's because the investment has already been terminated. What he's now focusing on is getting into companies earlier so that he can head off problems before they become terminal.
In many respects, Pichinson is the entrepreneurs' entrepreneur. With a colourful background that encompassed a spell managing bands - they included the Miracles, albeit without lead singer Smokey Robinson - he moved onto restructuring companies in the garment industry before turning his eye to the technology scene. And while the tech collapse spelled the end of the road for so many entrepreneurs, for Pichinson it kicked off a period of frantic opportunity.
His experiences give him good insight into the kinds of problems that beset start-ups. From a cost perspective, for example, he says the problem is less about uncontrolled spending than about knowing what to buy. It's not uncommon for companies to blow five-figure sums on a telephone system when they could do it for a couple of thousand pounds. Likewise, they might get a great deal on office space by negotiating a multi-year lease, but don't insert the option to give six months notice - so when their business goes through a lean patch, they find the cost of switching to smaller property prohibitive.
What these start-ups lack, Pichinson argues, is advice - and he has plenty of it. 'Look at the Olympics,' he says. 'Twenty per cent of the countries - like Great Britain, Germany and the US - get 80 per cent of the medals. What makes the athletes special? It's the trainers and coaches. We're management's best friend - we're your trainer, your confidante.'
Pichinson describes his approach as 'extending the runway' for tech companies. Say you have 13 months of funding left - you don't know it, but it's going to take 15 months for your company to make it. Come month 12, there's every possibility your investors will pull the plug - but if you could make your original money stretch another four months, that would be the difference between success and failure. The scenario doesn't even need to be that stark: extending the runway can simply mean that start-ups make it through without the need for an additional round of funding.
Much of the advice Pichinson gives combines established business practice with an understanding of common start-up failings (see box). His approach to time management, however, is guaranteed to raise eyebrows. This, after all, is a man who did a time management study on himself and discovered that he could save 46 minutes a day by keeping his Treo handheld by his side - now, if he's queuing for the movies, he uses the time to fire off emails. But his philosophy is rooted in practicalities. From a personal perspective, where previously he'd spend two or three hours when he got home every evening on the computer, now it's 30 to 40 minutes. From a business perspective, his focus on 'Return on Time' reflects a simple fact of life. 'Time is not a variable,' he says. 'You either manage it, or you lose your company or your relationship.'
That might explain why Pichinson struggles to understand how many European entrepreneurs can take a three or four week holiday but don't take their mobile phones with them. It's nothing to do with a culture that confines many Americans to just two weeks' holiday a year - after all, Pichinson himself takes seven weeks. The difference, he says, is that no-one knows when he's on vacation. 'When I'm skiing, the first thing I do when I get off the ski lift is check my email and voicemail. What's the big deal?'
Five pieces of advice from Marty Pichinson:
� Work out your business model and plan, and make sure you're accountable to it. Follow the model and if you're not going to make a particular goal, readjust it on a daily basis if necessary
� Don't overpay on anything, including people. Make sure every pound is well spent
� Communicate at all times with your management team, personnel, investors, attorneys and mentors. You don't know it all
� Make sure you don't oversell to customers - if you don't deliver, they're not going to be your customers
� Don't be pigheaded - you're not going to be the best in the world, you're not going to be bigger than Bill Gates. 'Always be polite to everyone. It's a very viral industry, and there's no room for jerks.'
By Keith Rodgers, Webster Buchanan Research
Short of turning up with a hood over his head and wielding a scythe, it's hard to see how Marty Pichinson could have created much more fear when he appeared on the doorstep of Silicon Valley's troubled start-ups in the wake of the dot com bust. This, after all, is a man who's helped close down no less than 148 technology companies, representing $5bn of investment. If anyone knows why businesses fail, it's him.
But while his company, Sherwood Partners (www.shrwood.com), still gets regular calls from investors to put troubled firms out of their misery, today Pichinson is building a reputation for himself as a friend and mentor for start-ups. True, his track record errs on the side of failure rather than success, with only 18% of companies saved from wind-down. But as he points out, often when he's called in it's because the investment has already been terminated. What he's now focusing on is getting into companies earlier so that he can head off problems before they become terminal.
In many respects, Pichinson is the entrepreneurs' entrepreneur. With a colourful background that encompassed a spell managing bands - they included the Miracles, albeit without lead singer Smokey Robinson - he moved onto restructuring companies in the garment industry before turning his eye to the technology scene. And while the tech collapse spelled the end of the road for so many entrepreneurs, for Pichinson it kicked off a period of frantic opportunity.
His experiences give him good insight into the kinds of problems that beset start-ups. From a cost perspective, for example, he says the problem is less about uncontrolled spending than about knowing what to buy. It's not uncommon for companies to blow five-figure sums on a telephone system when they could do it for a couple of thousand pounds. Likewise, they might get a great deal on office space by negotiating a multi-year lease, but don't insert the option to give six months notice - so when their business goes through a lean patch, they find the cost of switching to smaller property prohibitive.
What these start-ups lack, Pichinson argues, is advice - and he has plenty of it. 'Look at the Olympics,' he says. 'Twenty per cent of the countries - like Great Britain, Germany and the US - get 80 per cent of the medals. What makes the athletes special? It's the trainers and coaches. We're management's best friend - we're your trainer, your confidante.'
Pichinson describes his approach as 'extending the runway' for tech companies. Say you have 13 months of funding left - you don't know it, but it's going to take 15 months for your company to make it. Come month 12, there's every possibility your investors will pull the plug - but if you could make your original money stretch another four months, that would be the difference between success and failure. The scenario doesn't even need to be that stark: extending the runway can simply mean that start-ups make it through without the need for an additional round of funding.
Much of the advice Pichinson gives combines established business practice with an understanding of common start-up failings (see box). His approach to time management, however, is guaranteed to raise eyebrows. This, after all, is a man who did a time management study on himself and discovered that he could save 46 minutes a day by keeping his Treo handheld by his side - now, if he's queuing for the movies, he uses the time to fire off emails. But his philosophy is rooted in practicalities. From a personal perspective, where previously he'd spend two or three hours when he got home every evening on the computer, now it's 30 to 40 minutes. From a business perspective, his focus on 'Return on Time' reflects a simple fact of life. 'Time is not a variable,' he says. 'You either manage it, or you lose your company or your relationship.'
That might explain why Pichinson struggles to understand how many European entrepreneurs can take a three or four week holiday but don't take their mobile phones with them. It's nothing to do with a culture that confines many Americans to just two weeks' holiday a year - after all, Pichinson himself takes seven weeks. The difference, he says, is that no-one knows when he's on vacation. 'When I'm skiing, the first thing I do when I get off the ski lift is check my email and voicemail. What's the big deal?'
Five pieces of advice from Marty Pichinson:
� Work out your business model and plan, and make sure you're accountable to it. Follow the model and if you're not going to make a particular goal, readjust it on a daily basis if necessary
� Don't overpay on anything, including people. Make sure every pound is well spent
� Communicate at all times with your management team, personnel, investors, attorneys and mentors. You don't know it all
� Make sure you don't oversell to customers - if you don't deliver, they're not going to be your customers
� Don't be pigheaded - you're not going to be the best in the world, you're not going to be bigger than Bill Gates. 'Always be polite to everyone. It's a very viral industry, and there's no room for jerks.'
By Keith Rodgers, Webster Buchanan Research
Friday, August 24, 2001
Business Exit Strategies
The number of technology companies going public in the US is still way below its dot com peak, and many are now looking to alternative markets like London. That's good news for UK entrepreneurs
It's now six years since the dot com era got its first painful introduction to economic reality, and in many parts of Silicon Valley the memories of recession are fading fast. Today, home-grown Internet darlings like Google are once again driving the IT agenda. The hype factor is creeping back in the form of Web 2.0, the 'new generation' of collaborative Web initiatives. The housing market remains beyond the reach of most mere mortals, even in the midst of a market correction. And the future seems full of possibilities, with biotech, nanotech and clean tech all holding out the promise of great riches to come.
Nothing's ever perfect, however, and the good news has been offset by a couple of spectacular negatives. Silicon Valley icon HP finds itself embroiled in an extraordinary scandal after spying on journalists and its own directors to discover who was leaking boardroom secrets. At the same time, the options backdating furore, a hangover from the carefree days of the dot com boom that's hit Valley firms particularly hard, continues apace, with up to 80 companies now sucked in. Just this week, the former chief executive of Comverse Technology, who'd been sought around the world by the FBI in connection with allegations of options wrongdoing, was collared in Namibia.
While scandals make the headlines, however, there's a less dramatic issue bubbling that's ultimately far more significant for entrepreneurs - the state of the US capital markets. Despite the recovery of the tech sector, the opportunities for companies looking to go public in the US still look pretty poor. The volume of initial public offerings (IPOs) has dropped by 69 per cent from the years immediately preceding the bubble. By contrast, many non-US IPO markets are growing - and AIM, the London Stock Exchange's market for smaller companies, is doing better than most.
This contrast was borne out in a web seminar hosted last week by the US National Venture Capital Association and IBF Conferences. Stephen O'Leary, senior managing director at investment bank Jefferies Broadview, pointed out that the number of venture-backed IPOs averaged 52 per year from 2001-2006 in the US, compared to 178 before the bubble. Of those, just 20 are technology companies, compared to 89 before the dot com bust.
This slowdown contrasts with a rapid growth in mergers and acquisitions (M&As), which has quickly become the preferred exit path. Over the last six years, O'Leary said, there's been an average of 430 venture-backed M&A exits each year, compared to just 180 before the bubble. The only slight downside is that the activity is increasingly being concentrated in the hands of a smaller number of companies, with the likes of Cisco, VeriSign and Oracle repeatedly flashing the cheque book.
In the UK, by contrast, the markets are alive and kicking. Speaking from Jefferies Broadview's London office, managing director Charles Cameron said AIM has seen significant growth in the volume of IPOs over the last two years, with the average market capitalisation - the value of a company measured through its share price - reaching ₤63.8m so far this year. And increasingly, AIM is attracting the attention of smaller US companies. Almost 50 American companies are now on the market, most of them using it as their primary listing, and over 30 of those joined since January 2005.
So what is it that's keeping the volume of US IPOs suppressed and encouraging American companies to look abroad? As well as the fallout from the dot com bust and several technical factors affecting the way the markets operate, the harsher US regulatory environment in the form of Sarbanes-Oxley legislation is clearly an issue. In a week that saw Bernie Ebbers, former boss of Worldcom, and ex-Enron finance head Andrew Fastow begin 25-year and six-year jail sentences respectively, it's clear that the backlash against corporate corruption isn't about to ease off any time soon. By contrast, AIM takes a much more pragmatic, small company-friendly approach to regulation.
Whatever the causes, London tech firms have reason to celebrate. The more active a market is, the more options VCs have for an exit, so a healthy IPO scene should be good for investment. And for entrepreneurs thinking about their own long-term exit options, there's something of a comfort factor in AIM's growth. It can't be bad to know that US firms are prepared to travel thousands of miles to list on a specialist market based right on your own doorstep.
By Keith Rodgers, Webster Buchanan Research
It's now six years since the dot com era got its first painful introduction to economic reality, and in many parts of Silicon Valley the memories of recession are fading fast. Today, home-grown Internet darlings like Google are once again driving the IT agenda. The hype factor is creeping back in the form of Web 2.0, the 'new generation' of collaborative Web initiatives. The housing market remains beyond the reach of most mere mortals, even in the midst of a market correction. And the future seems full of possibilities, with biotech, nanotech and clean tech all holding out the promise of great riches to come.
Nothing's ever perfect, however, and the good news has been offset by a couple of spectacular negatives. Silicon Valley icon HP finds itself embroiled in an extraordinary scandal after spying on journalists and its own directors to discover who was leaking boardroom secrets. At the same time, the options backdating furore, a hangover from the carefree days of the dot com boom that's hit Valley firms particularly hard, continues apace, with up to 80 companies now sucked in. Just this week, the former chief executive of Comverse Technology, who'd been sought around the world by the FBI in connection with allegations of options wrongdoing, was collared in Namibia.
While scandals make the headlines, however, there's a less dramatic issue bubbling that's ultimately far more significant for entrepreneurs - the state of the US capital markets. Despite the recovery of the tech sector, the opportunities for companies looking to go public in the US still look pretty poor. The volume of initial public offerings (IPOs) has dropped by 69 per cent from the years immediately preceding the bubble. By contrast, many non-US IPO markets are growing - and AIM, the London Stock Exchange's market for smaller companies, is doing better than most.
This contrast was borne out in a web seminar hosted last week by the US National Venture Capital Association and IBF Conferences. Stephen O'Leary, senior managing director at investment bank Jefferies Broadview, pointed out that the number of venture-backed IPOs averaged 52 per year from 2001-2006 in the US, compared to 178 before the bubble. Of those, just 20 are technology companies, compared to 89 before the dot com bust.
This slowdown contrasts with a rapid growth in mergers and acquisitions (M&As), which has quickly become the preferred exit path. Over the last six years, O'Leary said, there's been an average of 430 venture-backed M&A exits each year, compared to just 180 before the bubble. The only slight downside is that the activity is increasingly being concentrated in the hands of a smaller number of companies, with the likes of Cisco, VeriSign and Oracle repeatedly flashing the cheque book.
In the UK, by contrast, the markets are alive and kicking. Speaking from Jefferies Broadview's London office, managing director Charles Cameron said AIM has seen significant growth in the volume of IPOs over the last two years, with the average market capitalisation - the value of a company measured through its share price - reaching ₤63.8m so far this year. And increasingly, AIM is attracting the attention of smaller US companies. Almost 50 American companies are now on the market, most of them using it as their primary listing, and over 30 of those joined since January 2005.
So what is it that's keeping the volume of US IPOs suppressed and encouraging American companies to look abroad? As well as the fallout from the dot com bust and several technical factors affecting the way the markets operate, the harsher US regulatory environment in the form of Sarbanes-Oxley legislation is clearly an issue. In a week that saw Bernie Ebbers, former boss of Worldcom, and ex-Enron finance head Andrew Fastow begin 25-year and six-year jail sentences respectively, it's clear that the backlash against corporate corruption isn't about to ease off any time soon. By contrast, AIM takes a much more pragmatic, small company-friendly approach to regulation.
Whatever the causes, London tech firms have reason to celebrate. The more active a market is, the more options VCs have for an exit, so a healthy IPO scene should be good for investment. And for entrepreneurs thinking about their own long-term exit options, there's something of a comfort factor in AIM's growth. It can't be bad to know that US firms are prepared to travel thousands of miles to list on a specialist market based right on your own doorstep.
By Keith Rodgers, Webster Buchanan Research
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