Morettini on Management

General Management and Marketing Advice for Software and Tech Companies

Category: Business Development

Partnering

Forming Partnerships, or Strategic Alliances, is one of the key elements that make up the business development function in technology companies. I believe that alliances are underutilized, in many ways. Conceived and executed properly, alliances can greatly extend the partner companies reach in the marketplace.

VARIOUS AND SUNDRY PARTNERSHIPS

There are many types of collaboration that fall under the umbrella of “Partnering”. Let’s examine a few of the most common:

Third Party Programs—Probably the best understood category of partnering. Partnering in this manner is generally low risk, but low reward for both parties. A program usually consists of many smaller partners gaining modest benefits from a larger company. The larger company gains (or at least the illusion) from having a large number of partners working with their product/technology.

Industry Consortiums—Represents another well-understood category. Mild benefits are usually obtained by the participating parties, including some publicity, a stamp of approval, and the opportunity to network with other consortium members. The unique aspect of this form of partnering is its one-to-many relationship, as opposed to “one-to-one” or “one-to-few” relationships found in most partnerships.

Sales Agents—Many people might not consider sales agent relationships partnerships, at least not strategic. But they certainly are. There is usually a minimum of entanglement here, simply a contract that provides a commission for sales generated or leveraged. The product doesn’t change hands between the partners, and there is often less training and support involved, relative to other partnership types used for product distribution.

Service Agreements—These agreements occur when a company doesn’t want to relinquish the sales function for its products, but for some reason it needs a third party for servicing. These agreements are common in high-end hardware markets, where 24/7 on-site support is critical. Storage Hardware or Mainframes are good examples. They are also seen in more commodity markets, where a company has decided that service/support isn’t their core competency, and that a third party can handle service/support at a lower cost. The use of Indian Call Centers by PC manufacturers such as Dell is a recent example of this concept.

Distribution Agreements—This is a common, but often poorly executed form of partnership. The errors usually occur when the Channel partner is treated like an end-user, rather than the true partner they should be viewed as. Distributors and Resellers need to be treated as an extension of a company’s sales force. Sadly, they often are not, leading to such misguided policies such as channel stuffing and over-distribution, which lead to problems that become extremely difficult to resolve.

Joint Marketing—Cooperation on marketing matters should be where most companies reap the greatest benefits. Partnering in this area is really low risk, can have great benefits, and is a great way to get started with a new partner. There are so many ways that companies can cooperate in joint marketing; the list is really only limited by your imagination. Some of the ways I’ve been able to utilize these types of partnerships include discounted product promotional bundles, trade show space cost-sharing, joint press releases (of course!), sharing of prospect and customer lists, referrals, and joint direct mailings. The great thing is that there are many areas to explore, to find overlap in the two companies interests.

Product Integration—Integrating the products of two companies is what often comes to mind when you think of partnerships. It can make great sense, and the potential rewards are great. However, there are some reasons for caution, prior to jumping straight into this, as I’ll discuss below.

POTENTIAL PITFALLS

As discussed above, a partnership or alliance can take many forms. As a result, there is a lot of confusion and disagreement as to what even constitutes a “good” partnership. Let’s take a closer look at two partnering categories, and some common missteps:

The PaRtnership

You see a great many press releases go out trumpeting the partnership between company A and company B. The release goes on to discuss the great benefits that will accrue to customers and the two companies making the announcement. The language tends to be vague and laced with terminology like “synergy” and “market leading value proposition”. More often than not, that initial press release is the high point of the partnership, and little is heard about it subsequently. You may have heard the term “slide-ware” to describe products that exist only in PowerPoint. This type of partnership is the alliance equivalent to slide-ware—I call it a “PaRtner-ship.”

Product Integration Fiasco

On the other end of the partnership spectrum, technical folks usually think of alliances in terms of product integration. Technical integration can be the basis for a great partnership. However, it’s a lot of work and a big commitment for both parties. The danger is that the partners too quickly dive head long into the product integration work, basing their decision on an impulsive belief that it “makes sense”.

In a typical scenario, the two products are complementary, and from an engineering (and often customer) perspective it looks like a marriage made in heaven. Several dangers are lying in the weeds, however. First of all, any product development effort runs a high risk of failure. When you put together two disparate engineering teams who have never worked together on a project, that risk rises exponentially. Usually both engineering departments have their own product releases to worry about concurrently, which are always higher priority. Lack of communication, low priority, cultural differences and ego can easily conspire to lead to a failed integration project, or at least one lacking the features to be of much leverage in the market. At this point, the partners have spent a lot of money and precious engineering resources with little in return, leaving finger pointing, and a search for scapegoats as the next step.

In addition, it takes much more than good product integration for commercial success by the partners. If there isn’t a solid plan for marketing cooperation and distribution (see above!), even technically elegant product integration partnerships will leave both parties disappointed. Alliances that are born from product integration, unless carefully thought out and efficiently executed, can lead to disappointment by one or both of the partners.

There are many “gotchas” involved with working together to push and pull the combined solution in the market. It helps to have some practice working together prior to making the big bet on technical integration. That’s why I often recommend to my clients that product integration be a step down the road in an embryonic partnership, not a beginning.

PARTNERSHIPS MAKE SENSE—BUT EXECUTION IS KEY

So are partnerships to be avoided? Not at all! They are one of the areas that can make be a huge differentiator for your company in a competitive market. But the take-away message here is that too many partnerships are conceived as great ideas—and peak right there. Like most business activities, the devil is in the details, and execution is the key to success. When I’m working with smaller clients with limited capital for marketing and sales, I often recommend an aggressive partnering program. If executed correctly, the company and its partners can gain cost-efficiencies and marketing economies of scale far exceeding their own siz
e. But I have two key pieces of advice before you embark on a new partnering program:

1) The very definition of a partnership is a “win-win” relationship for BOTH parties. Takers don’t build winning partnerships—givers do. Offer to take the first step, do the first piece of the project. A partner that believes you are acting in his best interests will be very impressed, and willing to provide support that you never dreamed of. Build that relationship by being the first to “give”; the trust you build will came back to you multiple times and set the stage for a profitable, long term partnership.

2) Do start, but start small. I’ve discussed above the many pitfalls of moving too fast. It’s best to pick something easy, with obvious benefits to both parties. Working successfully on a small project creates momentum, and helps build the trust and familiarity that is crucial to success on more ambitious future projects. I will often suggest a simple list swap of prospects as an initial step. If either party views even that with suspicion, a blind mailing can be done to each other’s list, where the actual lists don’t change hands. Building a prospect or customer list is very capital-intensive; by partnering with just one other company, you can both double your lists overnight. It’s almost a certain Win-Win, creating excellent leverage, and no financial investment by either party. It’s easy to succeed, and sets the stage for discussions on additional collaboration.

I’m sure you get the picture—does this make sense to you? Post me a comment below so we can get this discussion going.

Follow Phil Morettini and Morettini on Management via Twitter, Facebook, LinkedIn, RSS, or the PJM Consulting Quarterly Newsletter. Contact Phil directly at info@pjmconsult.com

4 Comments by admin on July 19, 2005
filed in Business Development, Business Models, Corporate Strategy, Distribution Channels, Mergers & Acquisitions, VARs
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Strategic Fundraising

Almost every company goes through it, except for the fortunate few. Some people have gone through it multiple times. While never easy, raising money for the second or third time (assuming success the first time!) is a picnic, compared to the first time.

The questions that run through an entrepreneur’s mind are nearly endless. Do I even need the money? Is my company fund-able, regardless? How much do I need? How much should I try to raise? What’s the best time to start raising money? What type of investor should I approach, and what are their expectations? How should I go about approaching them?

I could fill up the rest of a page with salient questions an entrepreneur might have. This might be the most daunting process in the minefield of difficult steps to forming and building a winning high tech company.

So you’re a new entrepreneur, with a great idea, a prototype, and a vague notion that you might need to raise some capital. Where do you go from here?

NO COOKBOOK FORMULA

Well, like most things that really matter, there’s no easy answer. It depends on what type of company you’re trying to build, your own control and risk/reward mentality, as well as the dynamics of your market.

For discussion purposes, I’ll focus on an embryonic software company. Most of the discussion will be just as relevant to a later stage business, or an early stage manufacturing business. In a manufacturing business, you’ll need to raise more money to fund manufacturing in the ramp-up phase. But the initial fund-raising is very similar.

FUNDRAISING BASICS

First of all, let’s quickly cover the various categories of capital sources. There are many variations and shades of gray with respect to funding sources, but the following are representative of the basic categories available to new software companies:

1) Self-funding
2) Friends & Family
3) Angel Investors
4) Venture Capital
5) Strategic Partners

Hopefully, these categories are pretty self-explanatory. Next, let’s look at what TYPE of company the entrepreneur is trying to build:

A) Lifestyle Company
B) Solid Single
C) Home Run

A Lifestyle company is one in which you are often intermixing your personal life with your company life. There may be family members involved in the business, your write-offs and accounting are more aggressively aimed at reducing taxes than showing profits, and you aren’t interested in or planning to sell the company anytime soon. Solid Singles and Home Runs are similar to each other; the major difference is market size/opportunity.

Lastly, let’s talk about what outside investors look for in a fund-able venture:

I) Management
II) Market size/opportunity
III) Defensible differential advantage

The three items listed above are all crucial, but they aren’t equal in importance. Professional investors look for strong management teams, but if there are holes in the current team, it isn’t necessarily fatal for many investors. They’re happy to help you fill out the team. Many, in fact, prefer it this way. But having a large market opportunity and strong differential advantage are non-negotiable in the eyes of investors. They are looking for big returns. It’s a long-held view among institutional investors that their own management time is the limiting factor in their own business. As a result, they don’t feel they can afford to invest in “solid little businesses”. If you don’t stack up as having big potential in both of these key areas, almost every professional investor will take a pass.

YOU HAVE TO LIVE WITH THEM, TOO

Another important consideration that many entrepreneurs fail to consider is how well potential investors fit with the company’s management. Management teams are often so focused on “getting the money” that they fail to consider that you “have to live with them”, as well. It’s a bit like getting married. You may be thrilled to attract the most prestigious investor (like the best looking potential spouse), but end up with business philosophy and personal conflicts that severely retard the company’s development. This isn’t a used car transaction, where the sale is made and the parties walk away. You and your investors are now intertwined, but may or may not have the same interests.

So ask yourself: Is this a good match?

Are you seeking a “hands off” investor, or someone that will get involved with the details—providing business guidance and contacts—for better or for worse? Many VCs, for example, have successful business backgrounds and networks that can make them invaluable as advisors. There’s another group, however, that don’t have the background or skills to run a company. Yet their arrogance leads them to believe they are eminently qualified to drive even the most strategic of decisions. Are they going to be so involved that it will take up much of your scarce management time that is needed to build the business? On the other hand, are the investors so busy that you won’t be able to get their attention when you need them? Which type do you want on YOUR board?

It’s true that the money that you raise is a commodity—but the people relationships that come along with it can make or break your company. Early stage fundraising, taken as a whole, is NOT a commodity function.

THE LIFE STYLE COMPANY

Now let’s look at the simplest case study. An entrepreneur has conceived a software business using his knowledge of a particular, very specific, vertical market. It’s a market he knows well, and there’s almost no direct competition. Unfortunately, the market, while attractive to him, is not large by software category standards. Yet the market is plenty big enough to support a very profitable company, particularly since there is almost no competition. He’s proven to himself that he has a solution that the market will embrace, allowing the building of a business. Yet he thinks he needs a little additional capital, to ramp it to the point of the business being self-supporting using it’s own cash flow. What should he do?

This is the classic example of a lifestyle company in the making. Sophisticated outside investors will have no interest, unless it’s for personal/hobby reasons. And since there is little competition, and as a result, little time pressure—fund it yourself. Take out a second mortgage, use lines of credit, or get an SBA loan. If you really have to, raise some money from supportive friends or family members.

This example makes up the great majority of software companies worldwide. There are many, many solidly profitable software businesses that will never be on the radar screen of the investor community. These companies often exist quite nicely, enjoying solid and relatively stable profitability with revenues in the $1-10M range. That’s fine—the problem lies when the entrepreneur doesn’t know what he has, or won’t accept it. He thinks his baby needs to grow up to be a fast-growing player. But it’s generally the case that the market is too small. There is little need to be distracted by trying to raise funds from outside investors—and it’s fruitless to try. It will only be a waste of time for the company and investors. And if by some chance it IS funded, there will end up being a lot of turmoil and hard feeling when the company doesn’t meet the lofty expectations that were needed to sell the funding deal. I’ve seen many great little companies screwed up in the attempt to become something they’re not.

THE SOLID SINGLE

Now we’ll examine the next step up—the solid single. This opportunity often presents itself as a larger vertical market than the life style company typically pursues. Another possibility is a horizontal, yet still niche, product. These are often the situations where the most difficult strategic decisions reside. In fact, the great majority of software companies who seek outside funding probably fall into this category. The market size is just on the edge of what the professional investors will consider. And while there is a differential advantage, it’s not at the level that you’ll be able to “knock their socks off” in your slide-show pitch. There’s worrisome competition, but it’s not completely over-crowded with 75 venture-funded companies. What’s a management team to do?

This is a tough call. Every situation is a little different, but my general advice is to work your way up the 5-part funding tree discussed earlier. Fund it yourself as long as it’s not crippling your progress. Then do a round starting with Friends and Family, as well as Angel Investors that are easily approachable via your immediate network. Once you go through this funding, hopefully you’ve built a rapidly improving business with good growth prospects.

It is at this point you may be able to attract money from a VC or private equity firm that has a later stage, more conservative risk/reward profile than the typical early stage VC. Professional investors might see in your company one that may not be a 10X return, but one that may be a 2-5X return in a shorter time frame, with less risk. And this later funding may work to your benefit, because the opportunity in front of the company may be such that you need to manage dilution of your stake carefully, to ensure that at the end of the day, it’s been worth your while. A strategic partner may be even a better fit here. Often a company in this situation may be able to attract funding because their product is important to the prospects of a larger partner company, filling out a total solution or providing a key technology the larger company can’t quickly or easily replicate. In this situation, the company may even get a richer valuation that the “Home Run” scenario which we’ll look at next.

THE HOME RUN

Lastly, there’s the classic Venture-funded company, the one with “Home Run” potential. These are the companies that VCs are out seeking to fund. These are the hot young companies that you often read about in the newspaper or trade journals. A high profile engineer, or someone else well known has started the company, with some cache in their field. The technology of the company appears to have breakthrough potential. The market is new, expected to grow to be very large, and is very newsworthy. But the competition is expected to be very intense, both from established players and a spate of new startups. This is obviously a very different situation than the two discussed above.

In this situation, you’ve got to go get the money. Time is of the essence. Getting established in the market early is crucial, and economies of scale usually become important as well. So a company in this situation typically needs to raise as much money as possible, as early as possible. All the steps are compressed here; and the time between funding rounds may be only a few months in extreme circumstances. It’s best, if possible, to skip the more casual funding sources and go very quickly to where you can raise large amounts of money very early—the VCs, and possibly strategic partners. Care needs to be taken on how you approach VCs, however. Unless you know them personally, never approach them directly. It’s one of the peculiarities of the VC community, and considered perverse by most people outside the VC community. The VC community has their reasons, although their rationale is certainly arguable. But no matter–it’s one of the rules of the game. Always approach them through a service provider (Accounting firm, Law firm, etc.), or another entrepreneur who has been successfully funded by the VC firm in the past.

Until you can get a commitment from institutional investors, however, take money from wherever you can get it, within reason. Self-fund, friends and family money and Angels may all come into play if there is a delay in getting the institutional money to buy in. Don’t worry very much about dilution in this case. The choice is often one of potentially ending up with a small, valuable percentage of a company with a large market cap, versus a large percentage of a failure. As you can see, the advice in this scenario is almost the complete opposite of what I’ve recommended in the two previous examples.

A STRATEGIC DECISION

But it’s all fund-raising, right? Why such different advice?

The advice varies because fund-raising is one of the most strategic activities facing an early stage high tech company. Many entrepreneurs view raising capital as a generic operational activity, like choosing a bank or leasing office space. It’s viewed as just a necessary evil, because every business needs money to survive and prosper. This discussion was intended to demonstrate that raising money should be viewed as one of your most important strategic functions–a decision that is taken with an eye for its effect on your competitive position. It’s really as important as choosing the best technology platform to adopt, or what marketing mix to use to outflank your key competitor.

I know that there are many of readers out there who have run the fundraising gauntlet—give us the benefit of your wisdom! Post a comment below.

Follow Phil Morettini and Morettini on Management via Twitter, Facebook, LinkedIn, RSS, or the PJM Consulting Quarterly Newsletter. Contact Phil directly at info@pjmconsult.com

3 Comments by admin on July 9, 2005
filed in Business Development, Business Models, Corporate Strategy, Financing, General Management, Startup/Early Stage
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US Government Sales & Marketing

What’s the difference between selling to the US Government and selling to the Commercial market?

It’s like night and day.

Sales and Marketing to the government is truly the flip side of commercial activities. You really can’t believe how different these markets are–until you’ve actually come from one side–and tried to go over to the other. I emphasize tried, because it usually doesn’t work out very well!

First of all, in the Government world the term “marketing” is a standard term. But its meaning in the government world is very different from its definition in the commercial world. When you hear someone talk about “Marketing” to the government—they really mean SELLING. That’s in large part because those businesses that deal primarily, or exclusively with the government really don’t do much in the way of marketing in the commercial markets sense.

Everything’s Different

In a traditional government contractor, there is usually no one with a sales title. There are often a couple of people with grand titles like “Vice President of Marketing” or “Vice President of Business Development”. These people have very little in the way of real marketing responsibilities–they are the chief sales people of the company. They are often former government employees, and in the case of a military contractor, frequently an ex-general or ex-colonel. Key to their hiring was that they are very well connected in the government or service branch that the company is targeting. Included in their charter are some “light” Marcom activities–putting together data sheets, and coordinating a few targeted trade shows.  That’s the extent of activities a commercial company would consider to be “marketing”. In addition to the dedicated “Marketing People”, much of the technical selling of individual deals is done at the project manager level.

Of course, it’s not just the sales & marketing functions that are so different in the government world vs. commercial. Almost everything is! The typical government contracting business model more closely resembles a grocery store, than it does a typical high tech company. Margins are very thin, but profit is pretty much guaranteed once you’ve secured a contract. Up front R&D (“IR&D;” in government terminology) is generally discouraged, as it’s a great way to lose money. IR&D; can also be funded by the government; that is utilized heavily but it has limitations. Spending an amount(without government funding) that would be modest in the commercial world on up front R&D can easily wipe out the thin margins that the government contracting business yields. The government contracting model works like this: Hire an ex-employee from the agency that you are targeting your “marketing” at. Leverage that relationship to secure the contract, with a minimum of up front product development expenses. Then hire the people to staff the project, and of course do a good job executing the project. Add new “marketer” from another agency–rinse and repeat.

So for those purely commercial readers out there, this must sound pretty different than what you’re used to. That’s only because it is! There is no Product Marketing/Product Management function in a true government contractor. In the government world your “market” is one customer, or a small number of customers, who are basically specifying the product for you. There are a few sales people, but as I mentioned earlier, they’re called marketing people. The actual marketing tasks are few and far between—collateral creation, trade shows, a party here or there.

Difficult to make the Jump

As you imagine from the discussion above, it’s difficult to move between the two worlds. That’s the reason that nearly EVERY government contractor that has tried to enter commercial markets in any major way has failed abysmally. Government-oriented companies typically don’t have the entrepreneurial cultures found in commercial high tech companies. They lack fundamental Market Evaluation and Product Planning skills required for success in the commercial world—because it’s not required in their core market.

Senior managers at Government contractors are often profoundly aware of all of this. They may intellectually understand that they need to do things differently for their companies to make the jump to the commercial side. But especially if they have been very successful in the government business, a difficulty emerges that won’t be obvious on the surface. And this can be the worst of all: Successful senior managers tend to fall back on their what I like to call their “Common Business Sense” when they encounter new or stressful situations. Often they don’t even realize that they are doing it. Unfortunately, when an executive with a government contractor utilizes their “common business sense” to make a decision involving a commercial business, the results can be disastrous. The “right way” of doing things in the two businesses are so fundamentally different that it might work out better if they took the OPPOSITE path from what their instincts told them. Not an easy way to do business.

Commercial to Government

So what’s a C-level manager in a commercial company, which would like to secure some government orders, to do? Given the different business cultures of the two markets, it seems pretty daunting. Those poor government guys who have tried to go commercial have had their hats handed to them—does the same fate await me?

Fortunately, it doesn’t necessarily need to be so bad. If you are selling services, or highly customized products, you may need to closely replicate the government-contracting model, if you are going to be successful. If you are selling fairly standard products, however, it may be possible to gain significant government business leveraging your normal commercial marketing efforts.

A few years back, I was running a startup commercial software product group within a company that was otherwise a pure government contractor. It was a diversification effort for the company. Our sister groups within the company were all very successful, and extremely well connected within government contracting and procurement circles. I expected, and was promised, a lot of help in placing our products in large quantities within various government agencies and military branches. For a lot of different reasons, that help never materialized. But a funny thing happened—this startup software product group ended up with 40% of its revenue from US and foreign governments. This was without a government-specific product, no real marketing advantage provided by our well-connected parent, and no special government emphasis in our sales and marketing programs. Contrary to popular belief, if you have a great commercial standard product that has use within the government, the agencies and branches will find a way to purchase it. Our product was aimed at Network Administrators, and their needs were similar to their commercial counterparts. The government market is huge, and we did well in the government sector. With a few modest investments, however, we could have done even better. So what steps should a commercial company do to maximize its penetration in the government marketplace?

Tips for Success

Create a great product—Above all, your market research and product planning are the starting point to success. Make sure to include a few potential government customers in your upfront planning, which should ensure that you don’t miss any special requirements they might have. This is a huge market you don’t want to miss.

Have a modest entry-level price for your product—Even if in a production environment your product costs hundreds of thousands of dollars, or even millions, it’s very helpful to have a low entry-level price– ideally less than a thousand dollars per unit. This will allow a motivated prospect to acquire your product initially by “going around” the laborious, lengthy, confusing—and often competitive—contracting process. Even if you have to go through a contract later to secure the full production purchase price, the bidding process may then be “written to your specifications”.

Hire an experienced government sales executive—This can NEVER hurt. It really helps having someone who knows his way around your target agencies, to head your Government Sales Division.

Place your products on the GSA schedule via an established Government Reseller—Getting on the GSA (Government Services Agency) via your own company is a long and complex process. For most commercial entities, it isn’t worth the effort. It’s much easier to give up a few margin points to a reseller already on the schedule. It’s much easier for him to add your products. They won’t do much for you in the way of promotion, and I’ve found that being on the GSA schedule in most cases isn’t REQUIRED to buy your products (although some will tell you otherwise). But it does make it easier for the customer inside the government, and if nothing else, raises their comfort level. They will know that they won’t face a major hassle to buy your product.

That’s my take on selling to the US government. Hopefully there’s a nugget or two in there that can help you. Post a comment with a few of your own tips.

Follow Phil Morettini and Morettini on Management via Twitter, Facebook, LinkedIn, RSS, or the PJM Consulting Quarterly Newsletter. Contact Phil directly at info@pjmconsult.com

1 Comment by admin on June 17, 2005
filed in Business Development, Business Models, Corporate Strategy, Distribution Channels, Marcom, Product Marketing/Management, Software/Product Development, VARs, market research, sales
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Do High Tech Acquisitions Make Sense?

I was reading a while back about the proposed merger between two well known tech companies. Two major technology companies, one making a comeback from bankruptcy and the other mired in a long slump, with several years of negative predictions about their business prospects.

I am not an insider and didn’t know the specific details of this merger. It seems to make at least some sense, but the analysts  generally panned the deal.  I didn’t have enough solid knowledge of the situation to decide whether it’s a good idea from a strategic perspective or not.

What I do know is that it probably will fail.

ODDS AGAINST IT

Predicting failure is a pretty big statement for someone with limited knowledge of the specifics of a deal. But I can make that statement because numerous studies have shown that 40-80% of all mergers fail. That’s a whole bunch of investor money down the drain. And in High Tech, it seems like you have to look very hard to find an example of a really good merger or acquisition.

Of course, there are examples to the contrary. Computer Associates built a huge business and shareholder value with an aggressive acquisition strategy, over a long period. Cisco Systems has made many acquisitions of smaller technology companies, purportedly with great success. They profess to have the “secret sauce” on how to make acquisitions a success-and maybe they have. These are two high profile examples of large companies succeeding with M&A; as a major part of their strategy. But for every Cisco or Computer Associates, there’s probably 10-20 who have failed with a prominent M&A  strategy. Symantec made claims like Cisco for a long time, but ended up unraveling a number of their acquisitions. The recent HP-Compaq mega-merger didn’t pan out too well (especially for one former rock star CEO name Carly!).

TOUGH FOR THE UNINITIATED

So how do deals usually work out for the “average” company that might make an acquisition every couple of years or so? Not very well, in my experience.

I have been involved in numerous acquisition projects, both as a consultant and on the inside of an acquirer. I spearheaded one project internally which led to acquisition of a software company, which I then had to integrate into my business unit I was running at the time. You know what? The buying is much easier than the integrating!

And this, I believe, is where the great majority of mergers and acquisitions fail. People at the top fall in love with the “deal”—the strategic fit, the potential boost in short term revenue, the new products added to the portfolio, and generally with the “numbers” of the deal. Investment Bankers and M&A consultants emphasize the financial terms and other “hard” aspects of the potential deal—to the near exclusion of the “soft” factors of the deal. Most of all, I think it’s easy for senior management to become “deal-junkies”—quickly addicted to the adrenaline rush that comes with deal making. Unfortunately, all of this tends to obscure a really important fact. In High Tech, when you acquire a company, you don’t really gain ownership of the people—the key factor that makes a company in our business a success or failure.

MANY PATHS TO FAILURE

The integration of the two organizations and their employees is almost always an afterthought. No one gives much thought to this aspect until Senior Management has already decided they want to do the deal. Then it’s time to start to figure out how two, often disparate, cultures will mesh. In reality, these steps should be reversed—the cultural fit should be studied very closely at first, then other factors of the deal should be examined. IF THE CULTURES DON’T FIT–USUALLY YOU HAVE A DISASTER ON YOUR HANDS. It won’t matter how well the numbers work, how much cost you can take out, or how much geographic or product synergy you envision. It will be a disaster.

There are many other ways an acquisition can turn out badly. Let’s list a few:

Integration of MIS: There have been many good companies that have struggled (or even choked to death) trying to integrate incompatible back office systems

Product Integration: This is especially true in the case of software companies. A software company “takes out” a competitor. They then spend the next five years trying to integrate the two code bases. Or they kill one of the products, alienating the user base they just acquired. This one occurs over and over again.

Overlapping Brands: The HP-Compaq merger is a good example of this problem. HP paid a huge price for Compaq, and much of the value was in the Compaq brand. Did they need another brand—and what have they done with it since the merger? Customers then didn’t know which brand of computer they should consider buying—HP or Compaq. They kept both brands, and didn’t segmented them in any meaningful way. This causes confusion as well as duplicitous expenditures. What’s worse, many times one of the brands is simply ditched—which is the equivalent of throwing millions (or billions!) of dollars of brand equity out the window after your purchase.

Dueling Managements: This is symptomatic of that really funny deal, the “merger of equals”. No one decides who will run the company until after the merger is final. This results in an internal “struggle to the death” for control of the company for the next year or two, while the remaining competitors run past.

Channel Conflict: Maybe both companies have large dealer networks with a lot of overlap. Or the acquirer is primarily a direct seller, and the target primarily sells through the channel. These issues can be some of the toughest to manage. If done poorly it will lead to large, sudden revenue reductions.

Exit Strategy for the Target: Often times there doesn’t even need to be “cultural” people problems for disaster to strike. If the acquired company views the deal primarily as an opportunity to “cash out”, there will be a mass exodus of key people to the nearest beach, people that you need for the acquisition to make sense. Or worse yet, they stay and become working zombies until their obligation runs out. It’s pretty hard to put effective “golden handcuffs” on everyone.

IT’S THE PEOPLE, STUPID

There are many more ways to failure than I could list. But they are all minor in scope compared to the likelihood of the “culture clash”. To begin with, all of the people in the company being acquired are “freaking out”. Will I have a job? Will I being doing the same thing in the combined company if I keep my job? Will I have the same benefits? Who will I report to? I’ve heard the managers in the new company are raving lunatics who eat their young! In the acquiring company often the same fears exist to a slightly lesser extent. All of this leads to suspicion and distrust between employees of the two companies.

Even a proposed merger is an opportunity for the rumor mill and imaginations to run wild. Key talent is now open to exploring what opportunities might be available in the outside world. Sometimes the brain drain might start almost immediately, well before the deal is even consummated. So the problems begin early on. The stage may be set for failure, and the ink isn’t even dry on the merger agreement. All the while the guys in the Executive Suite are toasting themselves with Scotch, and patting themselves on the back. Eventually they get around to forming a committee to look at “integration issues”. But management focus often doesn’t really shift to this potential culture clash until the merger is consummated–and the fires have already started.  Productivity crawls to a halt, while new turf battles emerge. People you don’t want to lose are leaving left and right. The guys at the top don’t know what hit them–until the wall of fire is too high to extinguish.

ACQUISITIONS CAN WORK—BUT SHOULD COME WITH A WARNING LABEL

I hope that all of this doesn’t come off as negative to the extreme. It’s only meant to caution. There are actually many good scenarios that can lead to successful acquisitions. Software companies who look to buy to fill a hole in their product line, or acquire technology to quickly jump on an emerging market segment, as a good example. These types of deals can make tremendous sense, if executed properly.

But in Software and other High Tech markets, product cycles are short, and differential advantages are fleeting. As a result it’s all about the people, since differential advantage needs to be continually re-created. So the next time you think about making an acquisition to solve a business problem or accelerate your growth—think about the people first.

I’d like to hear about your M & A; experiences—drop me a note.

Phil Morettini
PJM Consulting
http://www.pjmconsult.com/

1 Comment by admin on June 8, 2005
filed in Business Development, Business Models, Corporate Strategy, General Management, Mergers & Acquisitions

International Distribution of Software Products

Have your ever heard (or thought) the following? “We’re a startup software company. We’ll attack our home market first, then think about international markets.”

Wrong answer! (In most cases, anyway). I work with a lot of startups, and I hear the above all too often. Especially when the founder or CEO comes from a technical background. But this attitude is very unfortunate, and in some cases can stunt or kill a company that should have otherwise made it.

That’s because there is low-hanging fruit outside of your home markets, my friends. And if you leave it out there long enough, your competitors will grab it instead of you. I’ve sold an incredible amount of software in secondary markets such as Australia, New Zealand, Norway, Denmark, Finland, Sweden, Switzerland, Netherlands, Belgium and others. In the early 90s, I started up a group marketing a new Systems Management product. By the middle of our second year of operation, over 40% of our revenue was international, all while spending just a fraction of our marketing budget outside of the US. Let’s look at the specifics of US-based software startups.

US startups can access this low-hanging fruit relatively easily for a number of reasons. First, in the software business there aren’t the risks and costs associated with inventory that you would find in a manufactured goods business. The costs and risks are still there, but they are greatly reduced to the extent they aren’t a strategic issue. Next, most of your startup competitors have the attitude of the first paragraph, and are contentedly pounding away at their home markets. Next, it is far easier to adjust prices to local markets and set up segmentation fences through localization in the software business, than it is in a hardware business. In addition, if you are a US-based company, there will be some overflow effect from your US marketing efforts, since the US is the center of the software world. And last (but definitely not least) is the unique attribute of secondary markets: the ability to find good distribution Partners. Partners that have a head start in their markets, existing momentum that you can leverage.

We’ll come back to this last point in a minute. But first, let’s go back to our typical US-based software startup. This CEO is rather bold compared to his peers. He decides to dip the company’s toe into international markets. Where do they go first? Why, the UK, of course! It “feels” the most like home. And indeed, it is. The UK is the SECOND MOST COMPETITIVE and sophisticated market in the world. To add to this misstep, although the UK is officially part of Europe, from a cultural and marketing/distribution perspective, it is quite different. So this initial step doesn’t even provide quite the learning experience you’d like when moving on to continental Europe.

Let’s get back to that unique attribute of secondary markets, the ability to find good partners. I’ve highlighted partners because it is so important to find the right partners and treat them well. What you are looking to do is find someone to ACT ON YOUR BEHALF in this local market. Someone who will put out the effort, spend their own capital, and be just as committed to the product’s success in this market as you are in your home market. This isn’t easy to do, but the payoff is high if you get it right. Find the best potential partner, then structure the deal to get them excited. Give them high discounts, provide extensive sales and technical training. Do give them at least a short term exclusive. Set the deal up so that they aren’t competing with other distributors of your product or even you–just your common enemy, the competition. If you do this right, you will have created an order/revenue generation machine that will work for you for years to come–with very little ongoing investment. And might even be humming away while you’re still investing and pounding away trying to get established in your home market. This is contrary to what many will tell you, but it is true. I have done it many times across a variety of markets and products. I could write about this topic almost indefinitely, and of course, the devil is always in the details. But I’ll stop here. Tell me what YOU think!

Follow Phil Morettini and Morettini on Management via Twitter, Facebook, LinkedIn, RSS, or the PJM Consulting Quarterly Newsletter. Contact Phil directly at info@pjmconsult.com

1 Comment by admin on April 18, 2005
filed in B2C, Business Development, Corporate Strategy, Distribution Channels, VARs, enterprise software
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