Strategy 101

Everytime I meet a startup for the first time, I ask the founders what their ambition for the company is.  Normally I have to clarify that “I’m looking for what the company will do for them at the end, not at some intermediate point”.  What I’m looking for is the end point – the destination.

Frequently I’m talking to idealistic young entrepreneurs that honestly answer that they don’t mind where they end up, they are doing it for the experience – for the journey. Other times co-founders look at each other and it is clear that not only is there no consensus but it hasn’t been seriously discussed before.  Both answers makes having a strategy impossible.

Strategy defines how you get from where you are today to where you want to go. Strategy tells you how you are going to get from Point A to Point B.  If you don’t know where you want to go then you cannot even have a conversation about strategy, let alone actually have one.

Many people get confused between tactics and strategy. Tactics define how you are going to hit some interim goal, strategy defines how the tactics combine together to achieve the ultimate purpose of why you founded the company. That should be in terms of you, afterall you’re setting up the company. What will the company have achieved for the founders when the game is over?

Do you want to exit the company through trade sale? If so, for how much? After how long? Do you want a comfortable lifestyle? What does that comfort look like? Do you want to leave a legacy? What legacy?

Imagine your friend says that they want to go on a journey – but they have no idea where they want to go. How can you decide if you should walk, drive, take a bus, fly or boat. How can they convince anyone else to join them? How much money will they need? This is all impossible until they eventually decide on an actual destination, then everything becomes simpler.

Whatever your destination, it defines the strategy, not the other way round. If your ambition is to trade sale the company for €10M then a strategy to raise €20M to fund growth is not compatible. Similarly if your ambition is to sell the company for €1 Billion then a strategy of bootstrapping the company is incompatible.

Once you know your destination it is normally possible to work backwards from that destination. For example if you are going to trade sale to €100M then who is likely to buy you? Why are they going to buy you?

  • For your IP?
  • For access to your customer?
  • For your revenue?
  • For your Profit?

Once you can answer these questions it becomes clearer what type of company that you need to build to achieve your ambition.

Strategy starts with knowing where you are and where you want to go

Investor & Founder Alignment is a Myth – Maintaining the Fantasy is Important to Both

It’s a common refrain among professional investors that founder and investor interests need to be aligned. The theory is sound – as long as the investor’s interests are also in the founder’s interests then the investor is protected by the self-interest of the founder. The problem is that this theory ignores reality. An investor’s success is only partly dependant on the success of the company whereas the founder’s success is solely dependant on it.

An investor’s success depends on the blended return of a number of investments. While they are generally over exposed to a market segment, they have their risk diversified within that segment. The founder’s return, on the other hand, can be thought of as binary. They either lose or they win, and there isn’t much of a middle ground.

I’ve seen this innate misalignment between investor and founder cause problems several times. Generally it only happens at the extremes – when the company is going very well or very badly. These are the moments where alignment matters most, as misalignment can come at a huge cost to the founder or investor.

Where the company is doing very well it often makes sense for an investor to increase the company’s chances of failure but also increase the potential returns. For an investor managing a portfolio this is a sensible action. As long as they increase the potential return by more than the chance of failure then the value of their portfolio improves. For the founder, with a binary outcome, this makes little sense – they should be more focused on minimising the chance of failure.

Example: Company ABC is worth €20M and the investor and founder own 50% each. The founder has no other notable assets whereas the investor has 30 identical investments (obviously a very contrived example). It is in the investor’s interest to try and 10X the company’s value even if there is an 80% chance of failure. Ideally the investor would do the same with every company in their portfolio.  However, for the founders, introducing an 80% risk of failure into their only asset of value is clearly a foolish thing to do.

This is a real problem. Investors have blocked the sale of companies that would have made their founders very happy because they thought a better sale was possible, and founders have pushed through sales that aren’t in investors’ best interests. Investors have encouraged and promoted courses of action to ‘pour fuel on the fire’ of promising companies even when doing so increased the chances of bankruptcy.  

When companies are doing extremely poorly and the only way forward is for the founder to continue spend more of their time in the venture, it’s in the investor’s interest for the founder to continue. The investor doesn’t suffer the cost of the founder’s ongoing investment, but gets to keep their investment ‘live’. Meanwhile the founder suffers the full brunt of the cost of continuing to work at the enterprise. From the founder’s perspective, a dispassionate analysis frequently suggests that shuttering the company would be the best course of action. Once again, different investment exposure results in misaligned interests.

It’s nice to think we stand together and together we fall/succeed but both investors and founders should be working on a different set of calculations and assumptions and recognising that they have different interests.  

Even though investor and founder interests aren’t aligned, it is still in everyone’s interest to pretend that they are. Founders want potential investors to think their interests are aligned so that the investor will put money in the company. Investors want founders to think they’re aligned so they can convince founders to take a course of action that is not in the founder interest.  Normally everyone maintains this fantasy for as long as possible but when things go very well or when the shit hits the fan, make sure you know what your interests are and don’t rely on the other party.