Remarks to Software Forum Dinner Meeting
February 19, 1997
by Kenneth L. Hess
(c) Copyright 1997, Kenneth L. Hess
All Rights Reserved
Our Agenda
There are as many viable business strategies as there are grains
of sand at the beach. My strategy just represents one of those
grains. Most of what I say applies to productivity products. Some
things would not apply to an entertainment product. And, I'll
assume the founder wants to sell the company or go public. That
being the case...
Company Background
I founded Banner Blue in my spare bedroom during September 1984,
then sold it to Broderbund in May 1995. I left the company in
November of 1996, having been responsible for over 200 product
releases (including rolling releases).
Through 1996, Banner Blue has shipped over 2 million copies of
software. FY 1996 sales were approximately $23 million.
Org Plus, introduced in 1985 to make corporate organization charts,
was the company's first product. Today Banner Blue is focused
on serving the market to help people find their ancestors then
organize and present the information they uncover.
Primary products:
Prominent Awards:
My Bias: The Bootstrap
These comments will focus on a bootstrap, an organization funded
by the founders. In other words, an organization with no outside
investors. My comments also assume the founders aren't wealthy!
Banner Blue was funded with about $20K of my money, not counting
my time.
In some areas, the source and amount of funding makes no difference.
In others the difference is quite significant.
Let me turn philosophical. Throughout history: railroads, automobiles,
semiconductors, computers, even financial services -- all required
substantial amounts of capital and large organizations. Even today's
farm requires large amounts of capital. Not in software, not on
the web.
To my mind this is a wonderful time, highly favorable to a bootstrapped
startup in a variety of software and web-oriented markets. Our
time is one in which pure thought (the entrepreneur's brain) working
through an instrument requiring limited capital (a single computer)
can create vast wealth as if from nothing at all. In this realm
of the pure entrepreneur, size retards the creative process and
homogenizes the end result. The world has been turned upside down.
Today's world belongs to the entrepreneur.
Why a Bootstrap?
Not every product is appropriate for bootstrapping. But, the advantages
of a bootstrap are so great you should seek out such business
opportunities.
The math is compelling:
| Founder's Equity | Employee's Equity | Investor's Equity | Company Sales | Market Value | Founder's Net Worth | |
| Bootstrap | 85% | 15% | 0% | $10 million | $ 20 million | $17 million |
| Investor funded | 15% | 15% | 70% | $10 million | $ 20 million | $ 3 million |
Of course, venture investors don't want a $10 million dollar company.
They want a $50 million dollar company:
| Founder's Equity | Employee's Equity | Investor's Equity | Company Sales | Market Value | Founder's Net Worth | |
| Bootstrap | 85% | 15% | 0% | $10 million | $ 20 million | $17 million |
| Investor funded | 15% | 15% | 70% | $50 million | $100 million | $15 million |
Now the investor-assisted founder is catching up. A key question:
What are the odds of building a $50 million dollar company versus
building a $10 million dollar company? -- The odds are much longer.
It's another way of saying the founder's expected value is much
lower in a venture-funded startup!
The truth: I didn't do this math until later. I bootstrapped because
I didn't want investors meddling in my business! And, that's not
a bad reason to bootstrap either.
What's Changed Since I Founded Banner Blue?
The technology has changed.
The markets have evolved; you would found a company to meet different
customer needs.
But, the principles of founding a successful business are essentially
the same. I think you'll see that's proven by Banner Blue's success
on the Web.
Ken's Checklist for Building a Company
This checklist is about getting the odds in your favor. Fitting
together all these pieces of the puzzle is what separates a good
business plan from mere speculation.
1) Are you focused on creating the product?
2) Are you the world expert in your product niche?
3) Does your product meet viable new product criteria?
4) Do you have the force of will to make things happen regardless
of the inevitable obstacles?
5) Do you need help?
6) Are you spending money wisely?
Then once you've shipped, continue to ask:
7) Will today's task contribute to or diminish the organization's
focus?
8) How can I broaden the market?
9) Is the company's scale appropriate to the task?
10) Is it time to sell?
Are you focused on creating the product?
What can a startup do better than a larger organization? Create and build products. A startup can do this with more elegance and originality and with greater speed. The act of creation is what generates value.
(Note the things that aren't on this list: train employees, affect
public policy, contribute to charity, build an industry trade
group, save the world, get your name in print, make spiffy presentations,
...)
This seems so simple, but many companies put their primary focus
on sales objectives or worse.
Technology investors (now we're talking about someone buying the
company) buy sales growth. But, sales are a derivative of product
creation. Sales objectives are for sales forces. Banner Blue didn't
have a sales objective until it was about 7 years old because
it didn't have a sales force until quite late.
Are you the world expert in your product niche?
To create something new, you have to know everything that already
exists. Otherwise you won't know whether it's new or not.
To create something better, you have to know why things are done
the way they are. And, how they could be done.
A world expert can effectively communicate the benefits of the
new product to prospective customers. They can write the sales
pitch. (Others may polish it...)
Being the world expert is vitally important to meeting the new
product criteria I'll discuss in a moment. If you aren't the world
expert, you're just kidding yourself about your chances for success.
New Product Criteria
The first two criteria help insure a low cost of sales.
1) Solves a single, known problem
Why a single problem? Swiss-army knives are hard to sell and prone
to featuritis. Also, keep in mind that all the components of a
Swiss-army knife were sold individually before their incorporation
into the multi-purpose tool. Simplicity and elegance are the objective.
Why a known problem? People who know they have a problem are looking
for a solution. And, it's VERY expensive to convince someone they
have a problem when they aren't aware of it.
Let's look at some of the other words in this criterion:
"Solve" means 10X better than the alternative. An order
of magnitude better. 1.2X better, 1.7X better, even 2X better
-- that's the realm of the big, established company. That's the
realm of a startup when it upgrades. Small incremental improvements
are a matter of opinion. 10X improvements are undeniable. 10X
improvements generate the kind of growth that proves the worth
of a startup.
1.2X improvement doesn't even get your customer to raise his head
from what he's doing. A 2-3X improvement may get them to look
you in the eye. 10X improvements cause people to reach for their
wallet.
Org Plus is easily 10X better than drawing by hand or drawing
manually on a computer, especially when updating the chart. When
I was at HP, there were customers who would pay $10K to get a
standalone terminal and a plotter that allowed them to draw orgcharts
manually. These people were looking for a solution and they gave
Org Plus a very quick start.
Family Tree Maker produced 10X prettier output than any other
computerized solution. But it really took off when we redefined
the market and offered a solution for finding your ancestors that
was 10X better.
Of all the business ideas I see, this criterion is most seldom
met. Many people think a modest, incremental improvement sufficient.
Others mistake an idea for a solution. Customers buy solutions,
not ideas. You have to be the world expert to get it right.
Who is the ultimate judge?
The customer judges the solution. HP used to talk about the "next
bench". Product ideas were tested on the engineer at the
next bench. If he liked it, it was a good idea. If you try that
with a consumer product, prepare to be humbled.
Banner Blue has replaced the "next bench" with canvassing
in stores and written surveys to customers and prospective customers.
We also like to write an ad or an upgrade letter as we're finalizing
a feature set. Will it sell?
An example: I was really excited about my initial forays on the
web. I was about to visit home and I just knew the web would be
what it took to get my Dad to use the computer more. So I checked
out some neat sites related to his various hobbies. At home, I
showed them to him one-by-one. "Does it have this?",
he would ask. "Well, my weekly newsletter has that."
And so on. Not a single site improved on his periodicals. None
met what I call the "Dick Hess" test for web sites...
10X---they were 0.5X!
2) Has no significant competition
The cheap way to be the market leader, with disproportionally
large market share and profits.
With no competition the first release doesn't have to be perfect--a
tremendous advantage for a startup. In general, time to market
supersedes perfection. But even without competition you'd better
fix it fast. We did two upgrades within the first year for Org
Plus. Family Tree Maker was similar.
If you listen, your customers reinforce your position as the world
expert.
The next criteria is a good cross check on the first two.
3) Makes good use of the computer, web, as the case may be ...
For a computer, Chris Crawford called this "crunch per bit".
Higher number crunching per bit of code being the figure of merit.
For the web it's something else... This criterion is a good check
that you're doing something useful.
The original Org Plus did about 1000 calculations per box in the
org chart before printing it. These were things like centering
text, positioning the box, positioning the lines, ...
The next three criteria represent what your product can do to
keep you in business.
4) Development cycle of less than a year (3-6 months for the Web)
In my experience, if you go over one calendar year, your market
assumptions no longer have validity. For the web, it's probably
3-6 months!
Look at General Magic! They still haven't learned. They just announced
a new strategy (web-based no less) calling for products to ship
in 18 months. Good luck. That's what happens when you're spending
someone else's money.
I was involved in one project at HP that kept taking two years
to code. Well at about two years your platform tends to change
on you. Ooops! Restart. So after this happened several times the
product finally shipped--seven years after initiation. Needless
to say, the product was unsuccessful.
Long projects also bleed money.
5) Makes the required profit
If you bootstrap your company, you have to make a profit. It's
a matter of definition. Obviously, the estimated revenue potential
of the product has to cover your estimated costs and investment
needs.
Must provide customer support, but the cost must be reasonable.
6) Has built-in barriers to competition
MS story...
Do You Have the Willpower To Overcome Obstacles?
Force of will is perhaps the most undiscussed requirement for
success. And it's a tricky beast, more than worthy of study.
People don't do things just because you tell them to. There are
many steps to get the result you want:
Objectives are the first step. No matter how much time and energy
you devote to it, you can't ever understand what's going on inside
someone's head. That's why MBO and results are so important to
a manager. Results are the only objective truth.
The objectives must be realistic and they must be necessary. Otherwise
people will treat them as what they are-- silly. Dilbert's boss
is a master of the unrealistic and unnecessary.
We also tried to have incentives for meeting objectives or making
the extra effort. Those help a lot.
But people are people and they're going to wiggle. An objective
in the world you the entrepreneur has created is going to conflict
with an objective in an employee's world. Or, there will be circumstances
unaccounted for, requiring extraordinary effort to compensate.
Probably both, probably several times. It's inevitable.
You need to know when YOU can wiggle and when you can't. When
I believe that something MUST be done, there is no force on Earth
that can divert me from the task. When others are involved you
MUST be able to impose your will on them. It's your responsibility.
You have to say what's necessary, why it's necessary, and ultimately
you need to be correct most of the time.
It helps if you have an external enemy. A competitor is a good
foil. Make them the bad guy.
Do You Need Help?
A startup doesn't need to be a one-man show. Most have a small
core of key people. And, a weakness in one person can be made
up in another. Previous experience working together is ideal (although
not a guarantee of a good future working relationship under the
strains of entrepreneurship).
There is no precise metric, but for a good number of things, you
should be more capable than anyone you can hire. If you have lots
of holes or holes in vital areas you may need help. Consultants
can fill small holes, but you may need to add a member to the
team, or even abandon the effort if the holes are large. Your
destiny may not be as an entrepreneur OR you may find another
opportunity is better suited to your talents.
Personally, I investigated a number of businesses before taking
the leap. On one, I invested a substantial amount of time. It
gave me more confidence when I started Banner Blue and one of
the people involved in my investigation played a key role in Banner
Blue.
The job of building a company gets harder as the company grows,
not easier. You want to start with a strong team, because you
may not recover from a weak team.
On balance, the entrepreneurial team needs enough knowledge to
do the job, but not so much knowledge that fear takes over!
Spend Money Wisely
Profit. A bootstrap must have a positive cash flow (by definition),
even though this is much less important to someone purchasing
the company than sales growth.
"Just say NO" to things that aren't profitable -- and
be happy
Hire people AFTER you can pay for them. Don't hire them because
you wish you needed them. How many times have you seen that happen?
Develop products that will be profitable. A give away, market
share strategy is inappropriate for a bootstrap.
Do marketing that is profitable. Don't do a promotion just because
a distributor says you have to! Let some other sucker pad their
bottom line. Just say NO.
Play on being small, "We don't have a budget for that..."
Measure everything so you don't repeat mistakes
The 80/20 rule applies to money you spend. Many people inside
and outside the company want to spend YOUR money because of what
it does for THEM. You must ask what spending the money does for
YOU.
Focus
Focus, focus, focus. I hypothesize that an industry has a narrow
window of time during which it is advantageous to construct a
company with a broad portfolio of products. It's MUCH harder to
do than to build a single product company. It's like fighting
more than one war at the same time.
Deals, like unrelated product lines, are another way to lose focus.
Most prospective deals never even come to fruition--the proverbial
goose chase. Best to screen them out early. Most deals to make
a little money on the side, don't. They just serve as time-consuming
distractions. Yet some deals are important. Which ones?
Abstractly, I have described a business method that one could
call create and control. We create our own products and
our own environment and we have a strong desire to control their
every aspect. People or things that disturb the ability to create
or control incur my wrath. That method has many implications for
deal-making.
Banner Blue's great deals, Automated Archives and Genealogical
Publishing Corporation, served a strategic purpose and preserved
our ability to create and control.
Banner Blue's worst deals, with Heath Printers and one I've been
asked not to mention, served a strategic purpose and did not preserve
our ability to create and control.
This is a different tune than I sang five years ago when I spoke
about our desire to have a diversified portfolio of products.
We introduced several other products in unrelated areas. There
was a cost to losing our focus as shown in the table below. We
returned to focus and got higher growth... Should have had two
companies... Sell Org Plus early, then new company for Family
Tree Maker.
| Year | Growth Rate | High-level Strategy |
| 1986 | 853% | Focus |
| 1987 | 105% | Focus |
| 1988 | 13% | Focus (subset marketing) |
| 1989 | 35% | Diversify (Family Tree Maker) |
| 1990 | 23% | Diversify |
| 1991 | 36% | Diversify (Mercury, Movie Guide) |
| 1992 | 22% | Diversify (Brochure Maker) |
| 1993 | 26% | Diversify |
| 1994 | 55% | Focus (superset marketing) |
| 1995 | 57% | Focus (superset marketing) |
| 1996 | 40% est. | Focus (superset marketing) |
Note: Subset and superset marketing are discussed below.
Much precious management time was consumed searching for attractive,
new product niches during the period of 1989-1993. Development
resources were devoted primarily to new products. The results
speak for themselves.
Broaden Your Market
It's important to give your existing customers what they want,
but sometimes it's better to give them what they need. To grow,
you must broaden your appeal, giving your prospective customers
what they want . And, that may be quite different than what your
existing customers desire. You must broaden the market.
Geof Moore (a Software Forum speaker last year) has written a
wonderful book that discusses these issues, Crossing the Chasm.
We did a poor job of broadening with Org Plus and an excellent
job with Family Tree Maker.
| Upgrade Process | Org Plus | Family Tree Maker |
| Surveys | Existing customers | Existing customers & prospective customers |
| Target of new features | Subset of existing market | Superset of existing market |
| Rate of upgrade | Excellent | Excellent |
| Result | Growth stopped | Growth accelerated |
Let me address a couple technical issues that relate to market
broadening: the product architecture and the rate of product enhancement.
When I look back over the 200 product releases I managed, the
product architecture takes on a unique significance. The data
structure and algorithms of a program, it's underlying architecture
constrain the degrees of freedom as you enhance the program.
A good architecture preserves the freedoms you ultimately need.
A bad one doesn't. You have to throw out the program and start
over. We had enhancements we wanted to make that were impossible
because of the product architecture.
Org (DOS) story... [printer drivers, formatter, ...]
OPW story... [addressed DOS deficiencies, but with spaghetti code]
FTM (DOS)... [capacity desired was a surprise...]
Architectural strategies: plan carefully and leave as much freedom
as you can imagine (the more closely you come to being a world
expert, the better you'll do) OR throw away the first version
when the program is still relatively small (not a bad strategy
on the Web) instead of waiting until it can't be fixed any more.
Obviously, if the marketing function and development function
are in one person or like Siamese twins, the odds of a good architecture
are improved.
Now, let me describe Hess's Law. You've all heard of Moore's Law
(as in Gordon not Geof Moore). It describes the rate of decline
in semiconductor prices per electronic function. Hess's Law is
analogous.
Hess's Law states that software functionality will increase at
approximately 30% every year, or prices will fall. (I reserve the right to adjust the percentage upon further study.)
Software is a lot like hardware. People expect to get about 30%
more every year (give or take) for the same price (more functionality
for a productivity product, more "realism" or content
for an entertainment product). When you add 30% more stuff, you
can maintain your prices, maybe even raise them. You'll also stay
abreast or even ahead of your competitors, because it seems no
one can add much more than 30% without burning out everyone who
works for them. Add less than 30% more stuff and you start falling
behind.
If neither you nor your competitors are adding 30% more stuff,
you're really in trouble because there will be a glut of undifferentiated
product.
I think the key here is simple. The need to offer 30% more every
year never goes away. If one has a strategy that doesn't address
the 30% rule, one doesn't have a strategy.
In both our major product lines, Banner Blue was adding enough
functionality. But as you have seen, it was the wrong functionality
in the case of Org Plus.
The Appropriate Scale
There is an appropriate size for everything including your company.
There are some wonderful, one-person businesses right here in
the Software Forum. Unfortunately there are many one-person businesses
that an ill-guided founder tries to make a ten-person business.
That is a strategy of failure.
Once you create your product and market it effectively, the environment
determines the appropriate size of your company. Many elements
of success are outside one's control. Alma (my second in command)
and I would often ask, "When is one of our products going
to take off?" We saw smashing success happen to others we
judged to be our equals or less. Ultimately, we reaped a reward
for building a solid foundation, not trying to build a monument
until market demand arrived. Banner Blue had the appropriate
scale at all times. We positioned ourselves for success with tremendous
investments in new ideas, but disciplined ourselves with a requirement
for ongoing profit. Consequently, our objectives emphasized product
development and profit. Growth targets (when we had them) were
seen as a necessary discipline for the sales organization and
not the primary focus of the organization. Finally, our time came.
It might not have. Be humble.
Is It Time to Sell?
Sell the company before it's single product limits growth. Asked
about when to sell, another wise entrepreneur once told me, "Trees
don't grow to the sky." That's all he said.
You sell a company when things don't look like they can get any
better. They won't.
Ken's Checklist for Building a Company: A Review
1) Are you focused on creating the product?
2) Are you the world expert in your product niche?
3) Does your product meet viable new product criteria?
4) Do you have the force of will to make things happen regardless
of the inevitable obstacles?
5) Do you need help?
6) Are you spending money wisely?
Then once you've shipped, continue to ask:
7) Will today's task contribute to or diminish the organization's
focus?
8) How can I broaden the market?
9) Is the company's scale appropriate to the task?
10) Is it time to sell?
Mistakes/What Would I Do Differently the Second Time?
Here's a summary of what I would change (with a couple new ones
we haven't discussed thrown in for good measure):
But We Avoided the Common Failure Modes
So, mistakes were made, but our success was great. Nothing is
ever perfect. We did a good job of avoiding the common ways companies
fail:
For small companies:
For large companies:
For all companies:
The Web
Family Tree Maker Online is a profitable, award-winning web site
(www.familytreemaker.com). It also represents a current example
of a business unit founded on the principles I have discussed.
| Focused on creating the product? | Yes, dedicated, small business unit |
| World expert in product niche? | Yes |
| Meets viable new product criteria? | Yes, as follows below |
| -- Solves, a single known problem | Finding ancestors 10X better (things you can't do with the PC software and things you can't do with available print media) |
| -- Has no significant competition | Has none |
| -- Makes good use of the web | --Many-to-many communication --Extremely low cost to distribute information --Searching capability |
| -- Development cycle <1 year | --Major upgrades every 3-6 months --Content changes real-time |
| -- Meets profit objectives | We said it had to make money by EOY and it has |
| -- Built-in barriers to competition | --Installed base of 800,000 users --Our database of ancestors |
| Force of will to make things happen? | Yes |
| Need help? | Yes, hired a UNIX guru |
| Are you spending money wisely? | Always |
| Focus? | The team works only on the web project |
| Broadening the market? | A major objective |
| Scale appropriate to the task? | Yes, a very small team |
| Is it time to sell? | Nope! |
But, How Do You Make Money on the Web?
Banner Blue is pursuing many alternatives:
1) Premium features available only to owners of the current shelf
product. Revenue comes from incremental upgrade sales. This is
working very well.
2) Online sales of physical goods. In this case, our Family Archive
data CDs. This is working very well.
3) Sales of data online. Success TBD.
4) Sales of services online. Classified ads doing surprisingly
well.
5) Sales of advertising. In due time.
6) Sales of subscriptions. Doesn't apply in current model.
What About Building Traffic?
Site traffic has been building steadily. The site obtains an extremely
high number of page hits per user visit. People use the site intensively.
We did some simple things:
Banner Blue also has results on a number of experiments:
SEF_spch.html
2/19/97