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Sizing Up a Start-Up
Michael Wolff founded Wolff New Media; it cratered; he wrote Burn Rate. Jerry Kaplan founded Go Corp.; it cratered; he wrote Startup. Adam Osborne founded Osborne Computer Company; it cratered; he wrote Hypergrowth. You know the old story: "If you can, do. If you crater, write a book."
You can understand their motivation. The book gives you the chance to make a few bucks off a failed venture, occupies some time while your emotions cool, and gives you a chance to blame the failure on somebody else. I have to guess that some rudimentary form of this effect drove Daniel Rippy to write Sizing Up a Start-Up. He tells us only a little about his own professional background, except that he was a product manager for a "software start-up" in Seattle that burned through $25 million in investor cash and "had little to show for it."
Rippy's employer seems to have fallen apart with less drama than the almost tectonic failures engineered by Osborne, Kaplan and friends, and his book is somewhat more modest as well. He attempts to explain the rudiments of evaluating startups for others who might want to work in one but who lack the ability to identify a good one. He also provides basic advice on stock options, startup lifestyles, and other topics of interest to anybody contemplating joining an early-stage company.
Though Rippy's advice applies to any young company, he concentrates on technology start-ups, especially software and dotcom. As such, he talks a lot more about identifying a good venture capitalist (which a nice dotcom will have), as opposed to measuring positive net margins (which no dotcom has). High tech startups also provide most of his examples and quotes. Rippy quotes executives of a number of technology companies on topics ranging from sizing up a management team to evaluating your own tolerance for risk.
Most of his advice is quite general. He explains that earlier stage companies are riskier, and that you'll probably work long hours. In a few places, he becomes quite specific, for example, analyzing the strengths of different venture capitalists. He missed a trick, I think, in failing to discuss some of the specific data most valuable to people who have adopted a start-up lifestyle. Where's the table of startup filled neighborhoods in New York City, San Francisco, and Austin, cross referenced by nearby all-night restaurants and gyms?
What's Good?
The best things in this book are also the most basic and practical. If you don't know how to value a stock option, you should figure it out before starting at a dotcom. If your potential employer hasn't actually shipped a product yet, you should probably remember to ask how many months of cash they have in the bank. Of course, these topics are more obvious to most people now than they were in the giddy days before April's collapse in NASDAQ.
The quotes from other people were generally insightful, though Rippy's stable of experts is smaller than it looks at first. He returns to the same people over and over again for more quotes.
What's Silly?
Rippy presents a spreadsheet for calculating your "tolerance for career risk". It's a bit like a spreadsheet designed to determine, in strict mathematical terms, precisely how much prettier you think Boston is than Springfield. The question is fuzzy; the inputs are fuzzy; the output is fuzzy; don't pretend it's physics.
Worst Bad?
His half-baked theories of organizational evolution and some of the space-filling material. Rippy spends chapters on the difference between "organizational infancy" and "adolescence," etc. The filler is quite obvious, and sometimes laughable. To bulk out what is essentially a brief comendium of common sense, he includes lines like "Your base salary must be at some acceptable level because you need to cover your living expenses on a day-to-day basis." (Really!?!? Oh no!)
Is it for you?
Are you thinking about maybe joining a startup? Do you know the difference between qualified and nonqualified stock options? If not, buy the book.
Stern is the president of Information Markets Corp. You can purchase this book at FatBrain.
OK, New York City:
Anywhere, and everywhere, any time of day or night.
The city does not sleep.
From Silicon Alley,
Bryan
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Oh, today is completely different. In the 1960's and 70's (when Brooks wrote MMM) the theory was "If one woman can have a baby in nine months, nine women can have a baby in one month." Today's theory is "If one woman can have a baby in nine months in normal time, on woman can have nine babies in one month on internet time (she'll just have to put in some overtime)." (Ever notice how it's *on* internet time, not *in* internet time? That's because you have to be on something to agree to that sort of schedule.)
Brian's first law: kludges multiply.
Avoid .coms at all costs. I am presently searching for a job in Silicon Valley, and there is no way in hell I will be joining any startups. 99% of these companies are obviously in it for the hot IPO. Look at HotJobs.com, for instance. Half the search results say "Hot Pre-IPO Startup!" Guess what? I don't even bother reading those listings. I know if I actually got one of those jobs, the likelihood of me searching for a new job in the next six months is pretty good at this point.
Another thing is, I work at a company that has made a transition from publishing two magazines to launching a major web site. We just received $10 million. And you know what? I now hate the job I used to love. No longer is it the relaxed, flexible, non-corporate entity it was a year ago. Now, we have hired suits as CTO and CFO, and it sucks. Good bye 3+ week vacations, hello 2-weeks. Good bye flex hours. Hello micro-management of how long everyone works.
Is this all worht it? Not really? I'm not sticking around for another 3 years for stock options that may be worthless. Hell, the new suits got all the shares anyway. How much will I get?
Moral of the story? Stick with the established companies that you know will be around in 5 years.
Groupthink says:
Capitalism: Bad!
Anything but: Good!
In all seriousness, what exactly is it that you are trying to say? I don't see a coherant argument. All I hear is a gripe about capitalism supported by a vague and, possibly, misleading argument.
He's not entirely incorrect. Though I don't have the statistics onhand, Wall Street and the venture capital community has gone mostly sour on E-commerce now. They are like that. There is a herd mentality with them. There may well be a backlash now, but that's just the point. One day E-commerce is redhot, at the exclusion of most everything else, the next, it's the plague. Insofar as venture capital goes, it's not exactly the most rational behavior.
The fact is that venture capital has performed poorly historically; their success is a very recent phenomenon. However, I'd accredit that mostly to the stock market buying the same crap they have. It's (or was) a matter of turnover. They could invest 5 million in a single DotCom and quadruple their money in the space of a couple months because the market was receptive. When it's not, you'll find the vast majority of these venture capital firms do very poorly. Whether or not this particular behavior makes sense for the particticular venture capital firm is debatable, but the point is that it a significant economic cost. While one sector soaks up 90% of the available venture capital, other promising sectors suffer. Likewise, when that sector goes cold, the VCs run from any mention of it, meaning that opportunities will be lost there as well. Just to be clear, I do believe in our capital markets on the aggregate, but venture capital tends to be a poor vehicle for this.
Thanks (no direct reply email).
:)
Dave
I write a blog now, you should be afraid.
Interesting figures, I just can't work out where they came from. Can I request a minor tutorial-ette on calculating what happens to stock options when purchased by a larger company, both publicly traded and privately held?
:)
I'm currently putting together the business plan for a company whose basic idea is to get lots of top notch intellectual capital together then get bought. Cisco fodder, in other words. So you can see the interest.
Cheers,
Dave
I write a blog now, you should be afraid.
Would the book have prevented oh-so-many IPOs from starting up?
The Economist pointed out a few issues back that even with the "End of the Internet Gold Rush", dotcom startups actually fail at a significantly lower rate than other sorts of businesses.
They called the fact dotcoms have started to fail at a faster rate good news as it shows that investors are starting to get more cluefull and that the wheat is starting to be separated from the chaff.
I think the difference today, as opposed to a year ago, are that investors are starting to want to see a little more concrete evidence of potential. That's not necessarily a bad thing, given the huge number of startups that seem to have no business plan whatsoever.
The cake is a pie
That's kind of what I was getting at. When you get taught (as opposed to learn) Software Engineering they talk about design, testing, etc. These are all great and I really want to be able to do them as much as possible but most of the time people in the industry just seem to laugh (or cry) when you ask them about these practices. I guess the people doing it right don't have time to hang out on Slashdot? :)
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This isn't necessarily silly at all; the question of "how risk-loving are you?" may be "fuzzy", but such things as "how many months' living expenses can your savings cover?", "do you have dependents (alternatively could you rely on the support of others)?", "what size of family do you plan to have?", "when do you want to retire?", "what student debt do you have?" are not. Making a spreadsheet to work out your ability (not desire) to bear career risk is a perfectly sensible step and indeed is one of the first things you learn as a financial planner. There are numerous questionnaires which have been designed to give a much better answer to this than "suck it and see". I don't know anything about this book, but to dismiss spreadsheet based financial planning on purely a priori grounds is, well, silly.
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that Wall Street and everyone with their personal retirement funds are actually investing in more than a few tiny gems in a big vat of snake oil.
Yes: this is the whole business of venture capital. It's worth it to buy a huge vat of snake oil if you can be reasonably sure there are a few gems in there. Hell, some people crunch ton after ton of rock and mix it up with cyanide, just to get a few flakes of gold. Some companies sign a thousand bands in the hope of discovering one Nirvana. It's not a particularly unusual way of doing business outside the engineering industry.
there was a similar gold rush every time some big technology came around
More accurately, there's a "gold rush" of this kind all the time. Which makes it not a "rush" at all. All the journalists and such calling the Web investment fad a "Gold Rush" seem to think that this pool of VC money literally came out of nowhere. It didn't. It's the standard pool of VC funds which used to be invested in biotechs, in leverage buyouts of supermarkets, in mining companies, etc, etc, being pointed at a media-connected industry, and thereby getting noticed by the media.
It's business as usual. Don't believe the hype.
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The answer to all three questions schould be a firm yes or the project/company is in deep trouble.
I have seen so-called project leaders tell programmers to skip the design and specification phases of a development project to save time!!!!!
Of course as the delivery date grew near, those projects were no where close to having a finished product, and the jokers leading them called in expensive consultants to throw at the problem.
Actually it might be possible to build a very profitable consultancy carear on saving such projects.
Established companies trying to protect their market position against newcomers isn't anything new in our system; it's been that way here for over 200 years (probably closer to 300). In that time our system has become #1, and I would submit that it's 'because of' and not 'in spite of' the way it works.
Yes it has, so far. Unfortunately the time has come when the American Government has decided that the Constitution is an unfortunate oversight on the part of the Founders, who really meant to say that Big Government was what we should all have. And what does Big Government like? That's right folks, Big Corporations who give Big Donations.
There are a series of laws dealing with monopolistic behavior and improper means of competion. The laws (properly used) allow new companies to prosper--but only if they earn it with good concepts and management.
And the key phrase there is "properly used" I think. The American Government has shown precious few attempts at enforcing these laws in the face of corporate $$$ - the Microsoft case was nothing more than a sop for the masses who, for once, could see that they were being shafted. You won't see Time-Warner being taken to court by the DOJ, that's for sure.
Fortunately, the "dot com mania" on Wall Street has died down. Foolishly-spent venture capital is drying up, and startups are now being assessed on their ability to actually deliver some value, instead of simply having a Dot Com name.
History will record the last couple of years as the Internet's gold rush. Surely this has been a phenomenon of historical significance, probably the biggest since the Industrial Revolution. The next couple of years should be interesting to watch, now that the brick-and-mortar companies of old are starting to catch up with the Internet-only startups that hoped to replace them. Only the most well-managed of the latter will survive.
Does this mean that all start-ups are bogus? Of course not. But investing in one now, or taking a job at one now, is something to scrutinize carefully -- and this is something that this book will help to do.
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Ok...I'll bite. What's the difference?
The difference is basically when and how much tax you pay. Practially it can mean the difference between making money or losing your shirt.
With a non-qualified stock option, the IRS doesn't take its slice until you exercise the option (turn it into stock, in laymans terms). Income tax is payable based on the difference between the exercise price and the fair market value of the stock at exercise.
Qualified, or Incentive, stock options are basically not taxes as ordinary income on exercise, and are therefore far 'kinder' on your tax situation.
Be warned about non-qualified stock options. There have been situations where an IPO has collapsed and owners of non-qualifies stock options in the company have been left with stock which had a considerably lower market value than the tax bill they were presented with (which, of course, is calculated from the stock price at IPO).
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The gift of death metal does not smile on the good looking.
Oh boy,
The alternative to our silly free market system is very few companies that never fail, because they are propped up by the government. New industries in the US are financed by individuals (stock holders, initial venture capital then general public) who are willing to take a risk on a new market. Some companies fail, people lose money. Some companies succeed, people make money.
The fact that most new (and esp high tech) industries start and flurish in the US is specifically because of this cycle. The high rate of failure you state isn't because the people are incompetent, it is because there are enough people in the US willing to take risk on new ventures.
The high rate of failure is a side effect of success, not a warning sign of failure. The kinds of safe industries you are thinking of do have a low rate of failure (compared to high tech). Do they have a higher rate of failure in the US than in countries that prop up their larger industries to insure that even unsound companies stay afloat? yes.
I'll take our way over your pinko (had to say it once folks) solution.
-sb
.sig Karma out the wazoo, better to spend points elsewhere if this is above 2 or below 0
To me, the best question to ask yourself is not "How much money will I make if I work there?", but "How much will I enjoy working there?". In my mind, put away enough savings so some out-of-work downtine won't kill you and then take the job you are least likely to dread going to day in, day out. Especially if long hours are a possibility. I've worked at shitty jobs where I punched in my eight hours every day and got a good check in the end, and let me tell you, give me a long hours at an interesting job every time!
When looking at an employer, questions like "Is their technology cool? Is the guy I'd report to a jerk, or a nice guy?" are far more important to your quality of life than cash or, heaven forbid, stock options.
And never, ever, ever delude yourself into thinking that stock options are real money. They are basically just free lottery tickets. Make sure that you can live on the salary they offer you. I'm personally on my fifth set of stock options. Grand income from them all: ~$3000. Worry about them during negotiations, but be very, very careful about giving up too much salary to get them. Never assume that you'll be able to make up the savings, whatever later, once you cash them in. And they are something to put entirely out of your mind the minute you take the job. Pretend they don't exist. Pretend you didn't get any.
In the end, if you like your job and earn enough to live ok, that's all you really need. Everything else is just gravy. And in these techie negative employment days, I don't know that even job stability is all that important, assuming you've been smart, and stuck a couple month's salary in the bank.
The cake is a pie
As a consultant you are paid by the hour- this tends to help avoid the 80-hour work week, or at least make it financially rewarding. It also avoids burnout- if you're careful about choosing the right contract, a month or two of 12-hour days can give you the savings cushion for a month or two of downtime, or a week in Aruba.
If you do choose to become a consultant, there are a few major pitfalls to consider-
I do not deploy Linux. Ever.
Thanks, this is a really concise review.
In the review the book is compared to some other "failure" books. I think it really is cathartic to write about things that went wrong, it may even be the best way to understand what happened and (theoretically) how to prevent it.
I think this is what inspired "Mythical Man-Month" by Fred Brooks (IMO this is required reading). His motivation was, in part, to describe how and why things fall apart from an organizational perspective. There was some commentary on interdepartmental politics, IIRC, but it was mostly about configuration management and why the massive project he had tried to manage was so over-budget and behind its schedule. I guess it is a "related reading" for this topic.
Some people have suggested that the work he has done is no longer as relevant and that his organizational princicples seem kind of dinosaurish to a company running on Internet time, while others say the things he discussed are so ingrained in Software Engineering that we see the book as a cliche (something like a Platonic discussion of the ideal project environtment). What do you think?
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Of course in the kind of capitalist marketplace that you find in America, home of the startup, you pretty much have to expect that the failure rate of starting companies is going to be sky-high, especially when coupled with a market such as the "net generation" in which customer loyalty is at an all time low.
Classic economic studies show that when free market principles are taken to their extreme then the differential rate of success of new companies will fall to near zero, and the startup phenomenon has proven this to be as true in practice as it is in theory. When the market is completely unfettered, only companies with an extremely small risk quotients can succeed in entering the marketplace.
I hate to say it, but despite its past successes in promoting wealth and productivity, laissez-faire capitalism in America is now beginning to stifle the market and remove the potential for innovative newcomers to gain market share. The amount of capital liquidity is down as more and more companies settle into their post-expansion phase in which they attempt to stifle any up-and-coming competition rather than generate new sources of revenue.
Maybe it's time for some help for the little guy before the market stagnates and a country with a more balanced system of economic policy becomes the world's #1.
After an interview process and they show you around, you should have the option of signing and NDA and asking to see everything they have to offer in terms of the business model, projections, staff, and organization. If a start-up has a business model that fails in general assessment in *anyway* or fails to demonstrate good long-term goals, forget about it. Also, turn the interview around from yourself to the staff. Question your projected boss. What does he/she really know? Is he/she a technical type that has a clue about what you're going to be instructed to do, or is he/she just a figure head that works as an underling for the top people, pushing employees around. Are the higher-ups well educated people that you could truly respect? What about your potential co-workers? Are there a few that are confused by constructors? Are some of them installing RedHat for the 3rd time that same day? Usually lack-luster employees shows that management just wanted to get some quick help together for practically no cost just for the sake of impressing VC's. Bad. Also, observe the office organization model. It's usually a bad sign if everyone is running around between tasks in an aimless fashion. (Yes, that's vague, let me clear it up.) If you see someone who should be writing code stapling papers together in place of an office manager, bad sign. A good start-up company should have people hired for their respective positions and not unrelated ones.
When I say that you should be lofty, you should remember that a good start-up company knows talent and will relentlessly pursue talent. Why? They know that they will only succeed if they can convince the best minds around to join their team. A start-up that is doomed to fail is one that interviews talented employees, but says, 'well, you cost too much, we can find someone cheaper.' Bad. Always remember to turn questions back at your interviewer. If they really want you and your skills, they'll put up with quite a bit.
Lastly, make sure there is a lot of work to do! A start-up company should be busting its ass to become successful and beat everyone else to the punch. They should not be chaotic, but they should have their workload assessed and everyone on the team aughta be shoveling away at the pile, not standing around cubes with coffee mugs preaching how great they are. (Don't forget that if there isn't a lot to do, there's something fishy - and it might also mean that you'll not be needed for too long.)
This is just a collection of thoughts from my own meandering experience with start-up's. Don't be discouraged though! A friend of mine and I have gone through several of these things and it's incredibly frustrating. Many, however, will become successful and you'll know it when you join! Stick with it and someday you'll be cashing in on loads of valuable stock. :-)