Tulip mania swept Holland in the 1620s. And in the flower frenzy, speculators bid up values to unheard-of heights. As a matter of fact, the price of one black tulip bulb went as high as the cost of a typical five-story row home along the banks of Amsterdam's canals. How could such a thing happen?
The answer to this question may be found in the more recent Internet mania, which drove company prices to stratospheric levels as well. When looking at the values that are placed on businesses under the cold and objective light of hindsight, their absurdity depended on two factors: a lack of truthfulness on the part of entrepreneurs about the prospects for their businesses and a willing suspension of skepticism on the part of venture investors.
This perspective comes from Guy Kawasaki, founder of venture capital investment bank Garage.com and raconteur of the New Economy. His storied past includes seven books and a stint at Apple Computer, where he was one of the individuals responsible for the success of the Macintosh computer. With regard to the current state of affairs, Kawasaki, 46, says, "Somewhere along the line, boundless optimism for the future turned into fabrications and delusions." But, he says, investors have caught on and are now ready to catch the lies entrepreneurs typically throw at them, often bringing the initial meeting to a screeching halt. According to Kawasaki, there are some lulus out there; here are a few lies that have been heard over the past two years of modern-day tulip mania:
Lies To Avoid
Lie #1 "Our patents provide a significant barrier to entry."
Kawasaki says that isn't the case. "Investors who are going to put real risk capital on the line have a larger interest in your ability to execute than they do in your attorney's ability to duke it out in court," he says. That's a point well-taken. So remember, the investor makes money when you make money. And when you're in court, you're not making any money.
So, the reasoning goes, investment capital is going to follow companies that have actual plans to get their products or serv-ices out in the market, not the ones that have figured out how to prevent the competition from gaining a foot-hold. "If your idea is so good that it makes money," says Kawasaki, "others will follow and determine ways to get around the 'protection' of your patent."
A Better Spin"Our patents will buy some valuable time to establish ourselves in what we feel is a very viable marketplace."
Lie #2 "The household-name technology companies are too big and slow to threaten our market."
When he hears this one, Kawasaki doesn't know whether to be angry at the entrepreneurs' arrogance or frightened by their naivete. "Whatever the root cause, it's still a lie," he says, "because if that's what entrepreneurs really think, they're not being truthful with themselves."
In fact, even the most casual observer of trends in the business world must realize that Microsoft's biggest problem is the antitrust actions that it's instigated by more or less cornering the market for desktop application software. In no uncertain terms, large companies are definitely forces to be reckoned with-wounded or not. "None of today's giants got to be where they are by being battleships in a bathtub," says Kawasaki. "They're lean, they're mean, and they deserve respect."
A Better Spin"We understand that Sun Microsystems (or Oracle or Intel or SAP) might enter our market, but we feel if we establish a reputation for quality early on, they would see us as a buyout candidate rather than a bug to be squashed."
Lie #3 "We're doing a deal with AOL."
"We all are," says Kawasaki. "But the fact of the matter is, it's not a deal until there's a signed contract. And there are far fewer of those than there are 'negotiations underway.' "
The corollary is that agreements with larger companies aren't the panaceas entrepreneurs might like investors to think they are. The fact is, a big company with large legal, marketing and development resources can dither away your very limited resources even when they're attempting to be your ally. It's wrong to think any one agreement is the silver bullet to wealth.
A Better Spin"We may have an agreement with the world's largest player in this arena. It's important, but it's not the destiny of this company. We think our idea will succeed regardless of whether we are in partnership with them."
Lie #4 "Our projections are conservative."
If you're new to the arena of raising money, there's only one joke about projections in a business plan. It goes like this: Every plan is right on. It shows next year's expenses and last year's revenues.
"What entrepreneurs sometimes fail to grasp about the financial projections exercise," says Kawasaki, "is that it's not a test of future earnings per se. Investors know you aren't going to make the numbers. But they pay close attention to the projections because it gives them a window to what you're thinking: where you want to take the company, what you think it will take to get there, and how well you understand what it takes to sell in your industry."
A Better Spin"These projections are our best estimate of what the future could look like. And there are some developments underway that make us feel very good about these numbers."
Lie #5 "We only need 1 percent of the market to make us profitable."
OK, let's follow the logic here. Say we're talking about the aerospace industry. Getting 1 percent of the market isn't easy because the market is so complex. There are business jets, cargo planes, fighter jets, military transport, passenger jets and so on.
It isn't just aerospace. The market for any product or service is so fragmented and specialized that talking about 1 percent really isn't intellectually honest. "Nor is it particularly constructive thinking," says Kawasaki. "Who wants to back a company that only wants a tiny fraction of the market? Tell me who you're taking the point from, because that's who I want to fund."
A Better Spin"We're operating in a very big market. But because of our experience, we've been able to segment it down into a niche where we can easily see all the boundaries and take a big slice of that pie."
Lie #6 "My attorney says I can't talk to you unless you sign a nondisclosure agreement."
Many entrepreneurs are afraid to say, "I don't trust you," so they make it sound like the directive comes from counsel. Kawasaki would go one further and say that no matter whose rule it is, it's a bad one. "If you're trying to raise money, you've got to talk, not keep secrets," he says.
In a departure from what you may have learned is safe business, Kawasaki says entrepreneurs who insist that investors sign nondisclosure agreements just don't understand the rules of engagement. "Investors aren't in the idea business," he explains. "They're in the implementation business. They fund management teams to execute on ideas. Many teams can have the same idea, but it's the best team that gets capital."
The exception to this rule might occur with respect to a corporate venture capital investor-like a business that makes software but also makes investments. Such an entity can execute on ideas, so exercise a little extra caution when approaching them.
A Better Spin"I probably don't need to tell you that what we discuss here is confidential, so I don't mind answering any of your questions. However, if there are any companies like ours in your portfolio, I need to know ahead of time who they are and how I'm protected from the possibility of sensitive information about us getting to them."
When it comes to selling your pitch to investors, the bottom line is honesty. What follows from that must be your ability to follow through. Remember, investors have seen many entrepreneurs in their time. They're in the business of evaluating not just the businesses, but the entrepreneurs who claim they can make them fly. And these days, there are few companies or entrepreneurs that can inspire the mania of days gone by.
David R. Evanson is a principal at Financial Communications Associates Inc. and author of Where to Go When the Bank Says No: Alternatives for Financing Your Business(Bloomberg Press). Call (800) 233-4830 for ordering information.