New Deals for Entrepreneurs
+8* ABL Column ThoughtsPublished August 27, 2010 at 4:00 pm No CommentsIs it easy to copy an Internet business? Can the “original” leverage copycats? Can investors and entrepreneurs have aligned interests?
The general consensus on those questions is often: copy is easy and has no merit; the original has little recourse; investors are aligned with entrepreneurs if those want to grow and sell fast. During the past few weeks, thanks to various research projects and encounters, I came to evolve to a richer viewpoint.
Is copycatting easy?
Quite frankly, if it was, everyone would do it, and companies would try and expand internationally a lot faster. You might have heard “execution is key”, I would like to add “…once you have adjusted the plan correctly”. Many copycats fail due to their sticking to a plan not suitable for their market. While starting with an idea proven somewhere else removes part of the risk, as a company in Europe specialized in “starting startups” explained to me, the culturization of startups and execution speed constitute most of the work.
Copycats are enemies
The world is often more complicated than when divided between good and bad guys. The “good guy” is often the “first bully” to reach prominence. Was YouTube the first online video site? Was Facebook the first social network? Pandora.tv in Korea was up 6 months before YouTube and Friendster was around since 2003. And there are surely other companies before them who tried and did not reach the same scale. So how do you get where YouTube or Facebook are? With visibility, scale and money.
In the US, the marketing machine is very well used by some startups, who get people excited around them when they barely have a few tens of thousands of users, or sometimes not even launched! This initial push gives them a lot of visibility for cheap, which in turn allows them to “own the mindshare” of the category they are creating, raise capital, and scale up. In a way, it is a form of self-fulfilling prophecy.
What the case of Groupon (a service offering “one deal a day” for group purchases) shows is that even when your model is easy to replicate and maybe thanks to this fact, you can expand faster thanks to copycats. In China, Europe, Japan, South Korea and more, dozens of copycats appeared earlier this year. Within a few months, leaders started to emerge. Some of them raised some funding – showing again how venture capital also fuels copy – and distanced the pack of those who did not.
Since Groupon is operating in the US and raised a lot more money, it was in a position to de-risk its international expansion at a reasonable cost by simply buying the copycats that were doing well. By doing so it acquired a capable team and saved lots of time. Maybe the price paid looks expensive, considering the local entrepreneurs took the idea and ran with it for less than a year, but if one considers the value not today but in just one or two years time, it is a very good deal with a much lower risk of failing than starting operations from scratch by hiring a hard-to-find local entrepreneurial-yet-salaried executive.
New deals for entrepreneurs: If you’re worth a million dollars
After meeting a handful of incubators and attending startup pitch sessions gathering hundreds of angel investors, it became clear that the world of financing for technology companies had evolved. While venture capital firms were calling the shots, the lower financial requirements of web companies has given a new scale to early stage investment: smaller amounts of money are offered by more people, and companies are aiming at reaching profitability faster than ever. At such stage, companies generally sell 5 to 10% of their capital at valuations generally in the 1 to 3 million dollars range.
Another interesting aspect of joining incubators and getting angels on board is the leverage of resources, knowledge and reputation it allows. Instead of a financier who will check on milestones, entrepreneurs can receive regular support from people who not only genuinely like what they do, but also have a useful expertise or human network to help the company develop. This is not making traditional venture capital irrelevant, but rather creates an early-stage filter for them, giving a better position to entrepreneurs when negotiating subsequent “growth” deals.
New deals for entrepreneurs: If you’re worth a billion dollars
At the other end of the spectrum, a relatively new investment company named has been offering a different deal: instead of going from rags to riches at a distant public offering, they are offering to entrepreneurs, and sometimes employees, to sell some of their shares before the elusive IPO. It is sometimes called a “partial exit”. Why is that attractive to entrepreneurs? Just like everyone, entrepreneurs worry about their personal finances: owning their house, paying off loans, ensuring their kids get a good education and ideally having enough money saved to not work again if they want to. Alleviating those concerns is beneficial to the company and its stakeholders as it allows them to focus more freely on growing the business.
Of course this type of deal is not for everyone: those investors are looking for a multi-billion dollar potential. Ideally in the tens, if not in the hundreds. Despite the large sum it would require to get a meaningful share, they see those deals as low-risk as they invest in clear leaders with fast growth at a valuation where there is little competition from other investors, while still having a huge potential. Maybe the company won’t multiply its valuation by ten, but if it doubles at least once it is already a good deal for them, and a welcome one for founders. It also allows those investors to focus on just a few very large deals. It happens so that Digital Sky Technologies (DST), the company which started offering those deals, is based in Russia. They invest worldwide. Interestingly, showing again how reasoning in terms of nationality is increasingly irrelevant, DST themselves received investment from China’s leading Internet company Tencent. For memory, the largest shareholder in Tencent is a large media holding from South Africa.
As was said to a TV anchor gone mad in the movie “Network” back in 1976:
“You are an old man who thinks in terms of nations and peoples. There are no nations. There are no peoples. There are no Russians. There are no Arabs. There are no third worlds. There is no West. There is only one holistic system of systems, one vast and immane, interwoven, interacting, multivariate, multinational dominion of dollars.”
This column was written for the magazine “China Electronics Business”
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