The perceived low barriers to entry and promise of network effects encourages many to enter software space with an Entrepreneurial Arbitrage approach. Web apps, portals, social networking and the like have attracted many, but this approach is starting to spread to other markets with higher entry costs and for which the network effects are less clear, such as what I call Social Acceptance Network Effects or SANE (more on that in a future blog).
In my experience, there’s two types of technology start-ups out there. Those that focus on being purchased by the Googles and Microsofts of the world and those that are focused on building products protected from the Googles and Microsofts of the world. I always advice companies to adopt the latter approach for three reasons:
- Putting many eggs in one basket: its tempting to customize “just a little more” to cater to the suitor’s needs—if the suitor doesn’t come through, the start-up is stuck with extras that are merely distractions from a real business model.
- The perceived success (likelihood of success times net cash received) is much lower than folks think: for every MySpace, there are 10 unknown failures out there.
- Acquisitions take a long time. It is easy to think that an interested acquirer is a once-in-a-lifetime chance. You can still build your core product around sound, protected business principles, and when the time is right you can still sell your company.
There’s diet cola version of Entrepreneurial Arbitrage: building to a potential partner’s specifications. It is a fine line between being a good partner and being distracted from building that initial prototype or beta version, in the case of software.
Bottom line(s): focusing on building the first product is always first priority, and Entrepreneurial Arbitrage threatens that needed focus. Building to be bought is exciting, but its also like playing the lottery. If the company isn’t acquired, there’s little future left since little effort was put in to a sustainable business model.
1 comment:
Right on! (…and your bottom line comment is a great summary).
I'm astounded that companies come to us (for interaction design consulting) and describe their business model as "being bought by MS/Google/Cisco/etc. Imagine how stupid that would seem if your kid was on the sidewalk with a lemonade stand and said, "I'm not selling lemonade; I'm trying to get purchased by Rita's Water Ice, Inc." or "I'm not really interested in cutting lawns; I'm trying to get acquired by Trugreen." Nuts.
Even if you have a secret goal of getting acquired, why would you not focus on a sustainable business model? If you don't, you're just insuring you'll have no leverage in an acquisition. If your only model for success is acquisition, your only strategy is to play suitors against each other -- you can't walk away from any of them. and if there's only one suitor; you're screwed.
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