Berberian's Blog

My Trip to Monterey

This past week we went on a family trip to Monterey with some friends. I was excited to get out of town - not only for the change of scenery but also to play with Renee's Christmas gift - a new DSLR with HD video. My job in the family is to make sure my wife and daughter have coolest gadgets - maybe a little self serving - but they are like minded so it's a win-win. Below is our first attempt at using HD video - enjoy the show (especially the orcas making a move on a little seal!).

Monterey from Paul Berberian on Vimeo.

Partner Dynamics and Nuclear Warheads

MAD - Mutually Assured Destruction - not only is it a Cold War strategy - it is my method of dealing with partner dynamics.

For example, three of you start a business. One founder takes the role of CEO (highly recommended, otherwise it confuses the investors - co-CEOs seldom work). In the typical organization, the CEO gets the final say when there is a disagreement - unless his/her co-founders decides to go nuclear.

The principle is simple: you and your partner(s) each possess one nuclear warhead for the life of your business - just one (you can’t buy or build more). In all matters the CEO has the final word - except if one of the partners launches his/her warhead. At which point - for that one decision - the matter sides with the one that partner. If multiple parties launch, then the CEO must launch to set the matter right.

In practice it has worked well for me. When it comes to warheads everyone is equal which keeps the dynamics of a true partnership. Everyone can win a huge decision - once. As such, the warhead becomes so precious that it never gets used - the mere threat of a launch sets off a series of diplomatic discussions. Using the warhead is a signal that the partnership has broken down - the ultimate wake-up call that something is wrong. It is designed as a measure of last resort - everyone fears being in a company post detonation. If a warhead is detonated, it will be the beginning of the end.

Here is a real life story. I was the CEO of Raindance - Todd my partner/co-founder had the only warhead left in the company other than me (the hired senior management do not get warheads only partners/founders). We had a member on the senior management team that was very disruptive (a relatively new hire). I wanted to give the dude some time to work things out, Todd wanted him gone. We talked and argued about the matter but I stuck to my position. One day Todd had enough and said he was ready to push the button and launch his warhead. In the past 6 years Todd never even threatened to launch until this day.

I was shocked. I went home that night and thought about how I misread his willingness to go along with my decision - I was losing his trust and confidence. The next day I came in and negotiated a deal with Todd. I decided to fire the guy but I needed 6 weeks to stabilize the leadership team - Todd agreed with my time-line as a compromise. Todd was happy, he backed down and all was right with the world - the missile was still in the silo. Getting rid of the guy was absolutely the right decision.

If you respect your partners - MAD works - at least in my world.

Closure or Just Another Day

I went for a walk yesterday with my friend Jim. We stopped by the post office to get my personal mail and I noticed an envelope I have seen numerous times over the last two years but never opened (I’ve let Renee have the honors).

That envelope contains a check from the individual that hit us head on July 28th, 2003 (administered by the State of Hawaii). On that date, he was released from jail at 8:00am. He decided to get high on crystal meth and go for a drive. He walked away from the crash with minor injuries - impact speed of over 120mph – we didn’t.

Jim asked what I would do if I saw him. I thought about it for a split second and said, “Nothing. Maybe I would say something lame like, ‘What goes around comes around – have a nice life.’ I have no grudge – I don’t even know his name.”

Today I opened it (it is all he can afford to pay based on his life circumstances). As you can see he will remember us for a very long time – at least 100 years at this rate.

How the Pie is Sliced – My Simple View of Startup Economics

Many years ago, I was discussing with my father the appropriate chunk of equity to give some new partners in my first startup – they were negotiating for equal ownership. He offered this observation: Only man distributes things evenly – God doesn't give everyone the same slice of pie, why should you – if you put in all the money, you should have the largest ownership stake.

That makes since – but as I interact with many new entrepreneurs, I still encounter those that think/hope they can hold on to their precious equity. It is a rare situation where a founder owns the largest piece of pie by the time the company is sold (if they use outside financing).

Look at this very simple table:

Entity	Founding	Angel	Series A	Series B	Series C
Founder 1	50%	35%	21.4%	11.9%	5.3%
Founder 2	50%	35%	21.4%	11.9%	5.3%
Option Pool		10%	10%	10%	10%
Angels		20%	12.2%	6.8%	3.0%
Series A Group			35%	19.4%	8.6%
Series B Group				40%	17.8%
Series C Group					50%

 

There are numerous assumptions with this basic model. I assume that with each round more options are placed into the pool to attract employees. The amount of dilution is not set in stone (green box) – but from where I sit, it's about right +/- a few points either direction. If you need to bring in a CEO expect to give up 5% if it is later in the company life – more if it is earlier (up to 10%) – this may come from the option pool if there are enough shares to accommodate the hire (btw COO 2%-3%, CFO 1% -2%). The investors from one group will usually participate in subsequent rounds to maintain their ownership stake. It is common to get some options from round to round as a reward for a job well done – but usually they do not make up for the dilution from the fundraising.

Dilution and amount raised aren't necessarily linked. Money raised is more a function of the opportunity and investor. A huge opportunity requires an investor that can fund the company to success – a smaller opportunity requires a smaller investor. Each investor, however, needs a piece of the pie that makes sense for their fund. It is unlikely a VC with a large fund will put in a little bit of money early on for a small stake – they need to invest proportionate to their fund size and anticipate future rounds of financing.

So how do you protect your equity? Grow as fast as possible with the least amount of money. If you think you'll need lots of cash – resign yourself to dilution – and raise money when you can. The lowest a founder/CEO will be diluted is around 5% - that is no investor will dilute you to 1% (unless they don't like you) – they will grant options to make your ownership stake interesting to keep you engaged in the business. Other positions will likely fall below the CEO. When I was at Raindance, by the time we went public I had about 4.6%. If you can get to profitability very quickly – do so – it will help with future fundraising, maybe even eliminate the need altogether.

So how do some companies raise gobs of cash with less dilution – it's simple they are having huge success. If you are dominant in your field and you are growing like crazy, you'll be able to give up less equity with each round. If, however, you are doing well but your victory isn't certain –then expect dilution. If you are doing just OK – then it gets harder.

Other ways to protect your ownership: grow slow and use profits to fund expansion, use debt if possible (think credit line, home equity or rich uncle), fewer founders means fewer slices of the pie, go further with less and of course there is always the chance to sell early if the right deal is on the table.

I know there are numerous examples of companies that don't have this type of dilution (those are the ones everyone talks about)– but the bottom line if you aren't on fire – dilution will happen – and from there you'll just have to sell for more to make your piece interesting for you.

 

The First Time...

There is always a first - first kiss, first bungie jump, first heart attack.  In flying – there are a lot of firsts.  As a passenger in a private plane, I suggest you fly with pilots that aren’t doing things for the very first time – it may not be more safe (the pilot may still be reckless), but it will make you feel better.

Last week I took a walkabout to inspire my creative thinking.  I chose to fly myself from Rocky Mountain Metro (KBJC) to Burbank (KBUR).  I asked my good friend, Peter Hoskins, if he wanted a free round trip since he is doing the commuting thing anyways (maniaTV’s offices are in Hollywood – Peter their CEO, is moving out west next month).  Peter was more than happy to go – and has flown with me in the past (he’s not a pilot).

The trip out was fine.

The morning of the trip back there was a low cloud layer over the entire LA basin – only a few hundred feet thick but low enough so that you couldn’t leave the airport unless you were on an instrument flight plan.  Flying through clouds is normal – but it also can be disorienting if you don’t keep your head in the cockpit and fly by the instruments alone.  In fact, a very high percentage of small aircraft accidents (maybe the highest percentage) occurs when pilots get disoriented in the clouds, lose control of the plane, only to then execute a sudden, unexpected, fiery, final landing.

I’m an instrument rated pilot.  I’m current in all my flying requirements to fly by instruments. I’ve trained for flying in the clouds in a simulated environment and I’ve actually flown in real clouds (just a little bit 11/700+ hours  - not much opportunity to fly in clouds in CO either it’s ice or thunderstorms and both are killers) – but always with an instructor – never alone.  Wait I did go in the clouds once with another, less experienced pilot – but that didn’t go too well.

So this early morning in Burbank, Peter is waiting for me in the lobby of the FBO and I approach him and say, “Dude it’s cloudy.  I have to tell you something – I’ve never done this before without an instructor.  I’ve trained for it and I think I can do it – but you have to know this will be a first.  We can wait until the clouds lift in five hours and overnight in Vegas or we can go now – either way I’m happy.  I also have to tell you I’m a little nervous.  So what’s your decision?”

His reply was perfect, “Dude – you’ve trained for it, you seem safe, let’s give it a go, I trust you wouldn’t do anything you weren’t confident about.”

So we go and I explain to him the process of what I was doing – more as a verbal checklist for me than a way to calm him down.  We get in the plane, start the engine, get our clearance and it was different than what I expected – which made me more nervous.  I planned to fly to X then Y then Z and they told me to fly to G then S then L.  So I had to sit there and figure it all out in real time.  The night before, I familiarized myself with the flight plan - now that plan was all wrong.  So we sat in the plane, on the tarmac with the engine running while I studied the new routing.  At one point, I even whipped out my cell phone and called my instructor to ask questions (he also gave me words of encouragement – but I’m sure that made Peter nervous).

Thirty minutes later we were airborne sailing through the clouds.  Everything went just fine (obviously I'm still alive) – it was easier than I expected and my nerves calmed down very quickly after takeoff.

Ok so check that one off the list – first time flying in the clouds without another pilot or instructor.  Thanks Peter for saying yes and not freaking out.

Zenie Bottle Lives Again as Spark...

Zenie Bottle site is back as Spark.  We sold the technology to Lifepics - they have re-branded it as "Spark" and integrated it with their platform.  Jim Booth has the story in more detail.

My Creative Walkabout

For the last three months I've been in a hole thinking about new businesses to start. I've set the bar is pretty high – I want this next business to have the potential to become really big (think several hundred Ms or a B). Many of my ideas tap out at certain revenue levels which make the ideas not that exciting. To spur my creative process, on Brad Feld's recommendation, I scheduled a trip to So. Cal. My purpose: meet some cool folks, hear their stories and become inspired. All the companies had one thing in common – the founders saw the beginnings of a trend in the market, realized it wouldn't hit mainstream for a couple of years and started their company so that when it hit they were ready. Below are the companies I visited:

Mir 3 – Amir Moussavian, CEO/Founder: Out of the five companies I visited - Mir 3 is the most mature. They have real revenue and thousands of paying customers. The trend: When stuff goes wrong people need to know quickly. Notifying them is getting harder as people become more mobile and use multiple devices. Companies and organizations (like schools) will most likely outsource that to a service provider. That was Amir's view eight years ago. It took longer than he hoped – but perseverance is paying off.

Memeo – Hong Bui, CEO/Founder: In 2003 Hong realized that with all these digital cameras, mp3 players, and digitization of videos folks are going to need a way to manage large amounts of data. It seemed obvious to him that people were going to need to backup their stuff on something other than their main machine – like an external drive or a second computer. At the time, external drives were not really being purchased by consumers – but it seemed obvious that eventually folks are going to run out of disk and external drive sales to consumer would pick up. So he did a deal with a hard drive company and now Memeo is well on it's way to becoming a great success.

Net Seer – Dork Alahydoyian, VP Product Management: Net Seer is still in stealth mode but the trend they are focusing on is trying to make advertising within search more relevant by identifying related terms to a search query. Say you search for "scuba" they will be able to associate that term with "vacations, snorkeling, swimming apparel, Grand Cayman, nitrogen narcosis, etc…" They believe advertisers will pay more for ads that can be directed to the user in a contextually relevant manner. Accordingly, search companies will need to meet the demand by using tools that give more meaning to the average one or two-word search.

Topspin – Ian Rogers, CEO: Topspin was started in 2007 when two music-technology visionaries saw something happening in the industry that was odd – major record labels, faced with decreasing sales, are dropping their talent and focusing on just the top acts (they are trying to save their way to success – bad sign – always need to focus on top line growth). Many of these bands have nowhere to go and have to manage their careers by themselves. Topspin is building tools to help bands manage their business. The beauty of Topspin, unlike other music startups, their customers are the bands – not the fans. They don't need to "first get a million users" to succeed – each band already has a fan base that needs somewhere to go.

Oblong – Kwindla Hultman Kramer, co-founder: Since they are in stealth mode I'll refer you to Brad's post. Basically the trend they are seeing is one of inevitability. Like a seismologist that claims a major earthquake will happen in CA in the very near future (1 day to 100 years) – these guys believe that it is high time for a major innovation in how humans interact with computers. It's been 20+ years since the mouse came around. This innovation is going to take some serious brainpower and time – but it will happen and these guys are fired up to make that change happen. Visiting Oblong's facilities and seeing the demo simply blows you away – it's just bitchen. But unlike the others their trend is one that will play out over a longer time and will require both computing power to increase and people to embrace the new way of using a computer. It is a huge idea – they are truly a company of the future.

The net: All companies are focusing on a trend they firmly believe will become reality in the future. They all have incredible passion for their business. They all know exactly what they need to do in the next 12 months. They all have surrounded themselves with really smart people. OK I'm inspired, my turn.

Space Mountain Revealed - Walt Disney World

I've been to WDW too many times.  One of the best rides at the theme park is Space Mountain - a roller coaster in complete darkness. Last week it was busted for about an hour and they forgot to shut down the commuter rail type ride that goes through the middle of Space Mountain.  The lights were on and I snapped a couple of photos of the mystery inside.

Trip Door

Today I had my first meeting with the founders of Trip Door, they are a TechStars company and I am their assigned mentor (not sure how happy they are about that). Their idea is to create a web service that allows frequent flyers to manage their award miles from all carriers, view available award travel seats and book award tickets all online. I think this is a brilliant idea since my wife, Renee, hates to deal with airline call centers (I, however, love talking to people on the phone for hours on end getting nowhere). They have some challenges, as do all startups, like convincing the airlines to open up their databases to such a service but they also have some interesting angles to get them to the promise land.

I'm really looking forward to working with Krista, Austin, Elliot and Nathan on their cool new business. Go get 'em!

What, Why, Can and How – Picking the Next Business Idea

So now that the Zenie Bottle business experience is behind us – the three of us (Steve, Jim and myself) are spending all our time coming up and evaluating new business ideas. Our evaluation process is pretty basic – we just ask the same four questions over and over again.

What is the business?

We try to describe the business as clearly as possible. Often times we draw stick figures on whiteboards articulating the flow of goods or services identifying who is doing what and when. A common answer to this question starts with, "A dude comes to this web site and clicks…" While this may not embody the big idea or vision, it helps us understand what we need to create to get the business going. Often when I meet with folks and listen to their business, I have to stop them and ask, "OK so describe the process – specifically, step by step…" Many times people get stuck at this question. If this is too hard to answer – move on or keep refining the concept. For some ideas it is OK to be a little vague so long as the cloudy area surrounds something that can be defined later like the UI or interconnecting with a 3^rd party. If there are huge chunks to the flow where there isn't clarity or the process seems utterly implausible, we drop the idea and move on.

Why do people care about this business?

Once we get comfortable with the business concept we ask ourselves, "Why does it matter?" Do people really want this widget or service? This is generally, where we spend a meaningful amount of time hunting down people in similar industries and asking their opinion about the idea. We try to test the concept with friendlies or potential customers. If the idea is great but people are unsure of the value – then it's time to move on to another idea. If we get positive feedback on a concept then we do a gut check – people like to tell you what you want to hear – is their feedback simply them stroking our entrepreneurial egos or is the idea genuinely valuable? With Zenie Bottle we had numerous focus groups and they all said great things – but in our gut we always felt like we had a demographic issue – everyone liked the idea for different reasons. All positive feedback – but different – is a bad sign. It shows that the value proposition isn't clear or universal. If we don't get almost universal, consistent feedback – we refine the concept or move on.

Can we actually build this business?

I can dream up some great business ideas – but for most of them, I'm not the guy to run them. Know your limitations in terms of funding, experience, ability to attract talent, geography, etc… For example, some of my ideas require a tremendous amount of capital – while I have raised money in the past – I probably can't raise $1B for some mega buyout. The other part of the "Can" question is around the technical and/or social feasibility. A couple of our ideas are fantastic but only after they have 15 million active daily users. While building huge social network ideas are possible, we feel that success in those businesses is largely due to luck or extreme skill in social networking – two things we most likely don't have. Other ideas may be wonderful but are on the cutting edge of science and/or require very specialized talent. I'm not patient enough to build a business that requires a ton of research. Still other ideas while not particularly technical or require getting the whole world to visit our web site, require large organizations to change their behavior in fundamental ways – like asking retailers to change the checkout process at the point of sale. Ideas like that the "Can" question refers to the likelihood of convincing someone to change – possible but the value proposition has to be huge. The "Can" question really is about looking inside yourself and knowing what you are good at and what you are willing to tackle.

How do we plan to make money?

The fashion today seems that you really don't need to know this answer at the start, especially if you are a web company. I'm too old school to dismiss this as unnecessary at the founding of a company. If you have the idea that brings value to some group of people, you should have a solid sense of how you are going to make money. Now I'm not saying you need a specific rate card established, but you should be able to identify the points of value in your business. This will necessitate that you understand the fundamental economics of the business and broadly identify how much scale you will need to become profitable. I have to know the numbers before we say yes – fully understanding that early financial models are not accurate – they at least help us identify the key operational and economic metrics. "How you make money" also concerns personal economics. Business ideas that require a lot of capital always mean less equity for the founders. So if my goal is to make $X I need to factor in how big a business we need to build so that when we exit my Y% gets me what I want. Some smaller ideas may actually net us founders more money.

We tend to revisit our answers to these questions for every idea several times (and perhaps even after we commit). Some idea that we tossed to the sidelines a week ago may come back to center stage as we get more information. Anyone going through this process knows that coming up with ideas is the easy part – picking the right one takes a little more time.