Steve Blank

Last week I had 15 Finnish entrepreneurs out to the ranch (Aalto University has a partnership with Stanford’s Technology Ventures Program.)  Monday we hosted 40 Danish entrepreneurs for dinner and today its graduate students from Chalmers University in Sweden.

Looks like the ice is melting in Scandinavia.

Welcome to the democratization of entrepreneurship.

Hermione Way of TheNextWeb grabbed me for a short interview below that covers the challenges and opportunities of startups outside of Silicon Valley and the never ending discussion of the “new bubble.” (Skip the first minute.)

If you have trouble seeing/playing the video click here.

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Carpe Diem

We’re now in the second Internet bubble. The signals are loud and clear: seed and late stage valuations are getting frothy and wacky, and hiring talent in Silicon Valley is the toughest it has been since the dot.com bubble. The rules for making money are different in a bubble than in normal times. What are they, how do they differ and what can a startup do to take advantage of them?

First, to understand where we’re going, it’s important to know where we’ve been.

Paths to Liquidity: a quick history of the four waves of startup investing.

• The Golden Age (1970 – 1995): Build a growing business with a consistently profitable track record (after at least 5 quarters,) and go public when it’s time.
• Dot.com Bubble (1995-2000): “Anything goes” as public markets clamor for ideas, vague promises of future growth, and IPOs happen absent regard for history or profitability.
• Lean Startups/Back to Basics (2000-2010): No IPO’s, limited VC cash, lack of confidence and funding fuels “lean startup” era with limited M&A and even less IPO activity.
• The New Bubble: (2011 – 2014): Here we go again….

(If you can’t see the slide presentation above, click here.)

If you “saw the movie” or know your startup history, and want to skip ahead click here.

1970 – 1995: The Golden Age
VC’s worked with entrepreneurs to build profitable and scalable businesses, with increasing revenue and consistent profitability – quarter after quarter. They taught you about customers, markets and profits. The reward for doing so was a liquidity event via an Initial Public Offering.

Startups needed millions of dollars of funding just to get their first product out the door to customers. Software companies had to buy specialized computers and license expensive software. A hardware startup had to equip a factory to manufacture the product. Startups built every possible feature the founding team envisioned (using “Waterfall development,”) into a monolithic “release” of the product taking months or years to build a first product release.

The Business Plan (Concept-Alpha-Beta-FCS) became the playbook for startups. There was no repeatable methodology, startups and their VC’s still operated like startups were simply a smaller version of a large company.

The world of building profitable startups ended in 1995.

August 1995 – March 2000: The Dot.Com Bubble
With Netscape’s IPO, there was suddenly a public market for companies with limited revenue and no profit. Underwriters realized that as long as the public was happy snapping up shares, they could make huge profits from the inflated valuations. Thus began the 5-year dot-com bubble. For VC’s and entrepreneurs the gold rush to liquidity was on. The old rules of sustainable revenue and consistent profitability went out the window. VC’s engineered financial transactions, working with entrepreneurs to brand, hype and take public unprofitable companies with grand promises of the future. The goals were “first mover advantage,” “grab market share” and “get big fast.” Like all bubbles, this was a game of musical chairs, where the last one standing looked dumb and everyone else got absurdly rich.

Startups still required millions of dollars of funding. But the bubble mantra of get “big fast” and “first mover advantage” demanded tens of millions more to create a “brand.” The goal was to get your firm public as soon as possible using whatever it took including hype, spin, expand, and grab market share – because the sooner you got your billion dollar market cap, the sooner the VC firm could sell their shares and distribute their profits.

Just like the previous 25 years, startups still built every possible feature the founding team envisioned into a monolithic “release” of the product using “Waterfall development.” But in the bubble, startups got creative and shortened the time needed to get a product to the customer by releasing “beta’s” (buggy products still needing testing) and having the customers act as their Quality Assurance group.

The IPO offering document became the playbook for startups. With the bubble mantra of “get big fast,” the repeatable methodology became “brand, hype, flip or IPO”.

2001 – 2010: Back to Basics: The Lean Startup
After the dot.com bubble collapsed, venture investors spent the next three years doing triage, sorting through the rubble to find companies that weren’t bleeding cash and could actually be turned into businesses. Tech IPOs were a receding memory, and mergers and acquisitions became the only path to liquidity for startups. VC’s went back to basics, to focus on building companies while their founders worked on building customers.

Over time, open source software, the rise of the next wave of web startups, and the embrace of Agile Engineering meant that startups no longer needed millions of dollars to buy specialized computers and license expensive software – they could start a company on their credit cards. Customer Development, Agile Engineering and the Lean methodology enforced a process of incremental and iterative development. Startups could now get a first version of a product out to customers in weeks/months rather than months/years. This next wave of web startups; Social Networks and Mobile Applications, now reached 100’s of millions of customers.

Startups began to recognize that they weren’t merely a smaller version of a large company. Rather they understood that a startup is a temporary organization designed to search for a repeatable and scalable business model. This meant that startups needed their own tools, techniques and methodologies distinct from those used in large companies. The concepts of Minimum Viable Product and the Pivot entered the lexicon along with Customer Discovery and Validation.

The playbook for startups became the Agile + Customer Development methodology with The Four Steps to the Epiphany and Agile engineering textbooks.

Rules For the New Bubble: 2011 -2014
The signs of a new bubble have been appearing over the last year – seed and late stage valuations are rapidly inflating, hiring talent in Silicon Valley is the toughest since the last bubble and investors are starting to openly wonder how this one will end.

Breathtaking Scale
The bubble is being driven by market forces on a scale never seen in the history of commerce. For the first time, startups can today think about a Total Available Market in the billions of users (smart phones, tablets, PC’s, etc.) and aim for hundreds of millions of customers. And those customers may be using their devices/apps continuously. The revenue, profits and speed of scale of the winning companies can be breathtaking.

The New Exits
Rules for building a company in 2011 are different than they were in 2008 or 1998. Startup exits in the next three years will include IPO’s as well as acquisitions. And unlike the last bubble, this bubble’s first wave of IPO’s will be companies showing “real” revenue, profits and customers in massive numbers. (Think Facebook, Zynga, Twitter, LinkedIn, Groupon, etc.)  But like all bubbles, these initial IPO’s will attract companies with less stellar financials, the quality IPO pipeline will diminish rapidly, and the bubble will pop. At the same time, acquisition opportunities will expand as large existing companies, unable to keep up with the pace of innovation in these emerging Internet markets, will “innovate” by buying startups. Finally, new forms of liquidity are emerging such as private-market stock exchanges for buying and selling illiquid assets (i.e. SecondMarket, SharesPost, etc.)

Tools in the New Bubble
Today’s startups have all the tools needed for a short development cycle and rapid customer adoption – Agile and Customer Development plus Business Model Design.

The Four Steps to the Epiphany, Business Model Generation and the Lean Startup movement have become the playbook for startups. The payoff: in this bubble, a startup can actively “engineer for an acquisition.” Here’s how:

Order of Battle
Each market has a finite number of acquirers, and a finite number of deal makers, each looking to fill specific product/market holes. So determining who specifically to target and talk to is not an incalculable problem. For a specific startup this list is probably a few hundred names.

Wide Adoption
Startups that win in the bubble will be those that get wide adoption (using freemium, viral growth, low costs, etc) and massive distribution (i.e. Facebook, Android/Apple App store.) They will focus on getting massive user bases first, and let the revenue follow later.

Visibility
During the the Lean Startup era, the advice was clear; focus on building the company and avoid hype. Now that advice has changed. Like every bubble this is a game of musical chairs. While you still need irrational focus on customers for your product, you and your company now need to be everywhere and look larger than life. Show and talk at conferences, be on lots of blogs, use social networks and build a brand. In the new bubble PR may be your new best friend, so invest in it.

Lessons Learned

• We’re in a new wave of startup investing – it’s the beginning of another bubble
• Rules for liquidity for startups and investors are different in bubbles
• Pay attenton to what those rules are and how to play by them
• Unlike the last bubble this one is not about selling “vision” or concepts.
• You have to deliver. That requires building a company using Agile and Customer Development
• Startups that master speed, tempo and Pivot cycle time will win

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For its first few decades Silicon Valley was content flying under the radar of Washington politics. It wasn’t until Fairchild and Intel were almost bankrupted by Japanese semiconductor manufacturers in the early 1980’s that they formed Silicon Valley’s first lobbying group. Microsoft did not open a Washington office until 1995.

Fast forward to today. The words “startup,” “entrepreneur,” and “innovation” are used fast, loose and furious by both parties in Washington. Last week the White House announced Startup America, a public/private initiative to accelerate accelerate high-growth entrepreneurship in the U.S.  by expanding startups access to capital (with two $1 billion programs); creating a national network of entrepreneurship education, commercializing federally-funded research and development programs and getting rid of tax and paperwork barriers for startups.

What’s not to like?

My observation. Startup America is a mashup of very smart programs by very smart people but not a strategy. It made for a great photo op, press announcement and impassioned speeches. (Heck, who wouldn’t go to the White House if the President called.) It engaged the best and the brightest who all bring enormous energy and talent to offer the country. The technorati were effusive in their praise.

I hope it succeeds. But I predict despite all of Washingtons’ good intentions, it’s dead on arrival.

Dead On Arrival
I got a call from a recruiter looking for a CEO for the Startup America Partnership. Looking at the job spec reminded me what it would be like to lead the official rules committee for the Union of Anarchists.

There are three problems. First, an entrepreneurship initiative needs to be an integral part of both a coherent economic policy and a national innovation policy – one that creates jobs for Main Street versus Wall Street. It should address not only the creation of new jobs, but also the continued hemorrhaging of jobs and entire strategic industries offshore.

Second, trying to create Startup America without understanding and articulating the distinctions among the four types of entrepreneurship (described later) means we have no roadmap of where to place the bets on job growth, innovation, legislation and incentives.

Third, the notion of a public/private partnership without giving entrepreneurs a seat at the policy table inside the White House is like telling the passengers they can fly the plane from their seats. It has zero authority, budget or influence. It’s the national cheerleader for startups.

The Four Types of Entrepreneurship
“Startup,” “entrepreneur,” and “innovation” now means everything to everyone. Which means in the end they mean nothing. There doesn’t seem to be a coherent policy distinction between small business startups, scalable startups, corporations dealing with disruptive innovation and social entrepreneurs. The words “startup,” “entrepreneur,” and “innovation” mean different things in Silicon Valley, Main Street, Corporate America and Non Profits. Unless the people who actually make policy (rather than the great people who advise them) understand the difference, and can communicate them clearly, the chance of any of the Startup America policies having a substantive effect on innovation, jobs or the gross domestic product is low.

1. Small Business Entrepreneurship
Today, the overwhelming number of entrepreneurs and startups in the United States are still small businesses. There are 5.7 million small businesses in the U.S. They make up 99.7% of all companies and employ 50% of all non-governmental workers.

Small businesses are grocery stores, hairdressers, consultants, travel agents, internet commerce storefronts, carpenters, plumbers, electricians, etc. They are anyone who runs his/her own business. They hire local employees or family. Most are barely profitable. Their definition of success is to feed the family and make a profit, not to take over an industry or build a $100 million business. As they can’t provide the scale to attract venture capital, they fund their businesses via friends/family or small business loans.

2. Scalable Startup Entrepreneurship
Unlike small businesses, scalable startups are what Silicon Valley entrepreneurs and their venture investors do. These entrepreneurs start a company knowing from day one that their vision could change the world. They attract investment from equally crazy financial investors – venture capitalists. They hire the best and the brightest. Their job is to search for a repeatable and scalable business model.  When they find it, their focus on scale requires even more venture capital to fuel rapid expansion.

Scalable startups in innovation clusters (Silicon Valley, Shanghai, New York, Bangalore, Israel, etc.) make up a small percentage of entrepreneurs and startups but because of the outsize returns, attract almost all the risk capital (and press.) Startup America was focussed on this segment of startups.

3. Large Company Entrepreneurship
Large companies have finite life cycles. Most grow through sustaining innovation, offering new products that are variants around their core products. Changes in customer tastes, new technologies, legislation, new competitors, etc. can create pressure for more disruptive innovation – requiring large companies to create entirely new products sold into new customers in new markets. Existing companies do this by either acquiring innovative companies or attempting to build a disruptive product inside. Ironically, large company size and culture make disruptive innovation extremely difficult to execute.

4. Social Entrepreneurship
Social entrepreneurs are innovators who focus on creating products and services that solve social needs and problems. But unlike scalable startups their goal is to make the world a better place, not to take market share or to create to wealth for the founders. They may be nonprofit, for-profit, or hybrid.

So What?
Each of these four very different business segments require very different educational tools, economic incentives (tax breaks, paperwork/regulation reduction, incentives), etc.  Yet as different as they are, understanding them together is what makes the difference between a jobs and innovation strategy and a disconnected set of tactics.

Go take a look at any of the government organizations talking about entrepreneurship and see how many of its leaders or staff actually started a company or a venture firm. Or had to make a payroll with no money in the bank. We’re trying to kick-start a national initiative on startups, entrepreneurs and innovation with academics, economists and large company executives. Great for policy papers, but probably not optimal for making change.

Rather than having our best and the brightest visit for a day, what we need sitting in the White House (and on both sides of the aisle in Congress) are people who actually have started, built and grown companies and/or venture firms. (If we’re serious about this stuff we should have some headcount equivalence to the influence bankers have.)

Next time the talent shows up for a Startup America initiative, they ought to be getting offices not sound bites.

Lessons Learned

• Lots of credit in trying to “talk-the-talk” of startups
• No evidence that Washington yet understands the types of entrepreneurs and startups; how they differ, and how they can form a cohesive and integrated jobs and innovation strategy
• Not much will happen until entrepreneurs and VC’s have a seat at the table

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Early on in my career I took a “we’re moving too fast to deal with lawyers” attitude to patents and Intellectual Property (IP.) That changed when I joined the board of a startup, and we sued Microsoft and Sony on the same day for patent infringement – and won $120 million.

A few caveats, this post is not legal advice, it’s not even advice, and it deals with law in the United States. Outside the U.S. your results will vary depending on your distance to a consistent and predictable legal system.

At one of my entrepreneurship classes at Stanford, Dan Dorosin, of Fenwick & West LLP guest lectures about startups and Intellectual Property. Most of this post is from Dan’s lecture. (But there are no guarantees that I got it right.) It may seem full of legal definitions and terms but my two takeaways are: 1) Entrepreneurs need to know about these legal options, 2) Consulting an intellectual property attorney is a good move even before you get funded.

Intellectual Property
Intellectual property gives you rights to stop others from using your creativity.

The assets you can protect may include your “core technology” like source code, hardware designs, architectures, processes, formulas. Or it can be your brand, logo or domain name. You can protect business processes, know how, customer information, product road map. Protection is also available for content such as music, books, or film.

For some of these assets, you get protection automatically. For other classes, to get full protection, you should/must go through a registration, application or examination process.

Types of Intellectual Property Protection

Trademark
A trademark protects branding and marks, it gives you the right to prevent others from using “confusingly similar” marks and logos. Trademark protection lasts as long as you are using the mark. The more you use the mark, the stronger your protection. Trademark registration is optional, but has significant advantages if approved.

Copyright
A copyright protects creative works of authorship; typically songs, books, movies, photos, etc. Copyright gives you the right to prevent others from copying, distributing or making derivatives of your work. It protects “expressions” of ideas but does not protect the underlying ideas. (If your product is software, copyright is also used to prevent someone from stealing your software and reselling it as machine and/or source code.) Copyright protection lasts practically forever. Registration is optional, but is required to sue for infringement.

Contract
A contract is a binding legal agreement that is enforceable in a court of law. There’s no official registration process. You have whatever protection is defined in the contract (e.g., a Non Disclosure Agreement gives you certain rights to protection of your confidential information.) The protection lasts for the time period defined in the contract.

Patents
A patent is a government granted monopoly to prevent others from making, using or selling your invention – even if the other parties infringement was innocent or accidental.

Just about anything can be patented: circuits, hardware, software, applied algorithms, formulas, designs, user interfaces, applications, systems. Scientific principles or pure mathematical algorithms cannot be patented.

Your invention must be “non-obvious.” The test for non-obvious is: given the prior art at the time of the invention, would a typical engineer 1) identify the problem, and 2) solve it with the invention? You must be “first” to patent.  In the U.S. that means “first to invent” while outside U.S. it means “first to file.” You must file in U.S. within one year of sale, offer for sale, public disclosure or public use.

Your patent application has to include a written description with details of the claims of the invention. The details have to allow others to duplicate your invention from your description and has to the “best mode” in describing critical techniques/technologies.  And it has to identify all prior art.

Patent protection lasts typically for 15-20 years.  There is a formal application and examination process that’s required.  Each patent filing will cost your company $10-30k and take 1-4 years. Filing of patents is frequently of major interest to people funding your company.

(There’s something called a “provisional patent.” It’s an alternative to a full patent. It allows you to claim “first to file” and use the term “patent pending.” Provisional patents get into the patent office quickly and cheaply. However they automatically expire after one year and no patent rights are granted. Provisional patents are a good placeholder because they are cheap to file and doesn’t get in the way of your other patent efforts.)

Key Idea #1 – Intellectual Property Creates Value
Intellectual Property is an asset for you company.  You need to acquire, protect and exploit  it. An intellectual property strategy will map out:

1. Who are the key players and technologies in its market(s)?
2. What are the most important ideas and inventions that need patents (or provisional patents?) Start filing these early!
3. What are the important patent applications that come next?

Key Idea #2 – Your Intellectual Property Needs Are Unique
What type of intellectual property matters to your company, and what you should do to protect it is highly company/industry dependent, requiring unique analysis and/or protection.  For example if you are a:

• Medical device company – patents are key
• Web 2.0/social network start up – trademark and copyright are more likely
• Enterprise software company – copyright and trade secrets are probable
• Biotech/phama – don’t even leave your bedroom until you have a patent counsel

Make sure you understand Intellectual Property for your specific industry.

Four Common Intellectual Property Mistakes by Start-Ups
1. Founders Didn’t Make Clean Break with Prior Employer
Under California law, employers may own inventions that are “related to employer’s reasonably anticipated R&D.” It’s a very subjective standard, and since startups don’t often have resources or time to spend in lawsuits large companies use threats of litigation to ensure you don’t take anything. Therefore the best advice is “take only memories.” If you’re at a university, they may have patent policies that apply, too.

2. Your Company Cannot Clearly Show That it Owns its Intellectual Property
Take the time to create a well documented, clear chain of title to your intellectual property. If you are using independent contractors make sure you have written agreements assigning work created. Make sure you have Employee Invention Assignment Agreements. (If you hire subcontractors or friends to do some work, get assignment agreements as well.)

3. Your Company Lost Patent Rights due to Filing Delays/Invention Disclosures
In the U.S. patent rights are forfeited if you wait greater than 1 year after:

- Disclosure in a printed publication: Red flags: White paper, journal/conference article, Web site
- Offer for sale in the U.S.:Red flags: Start of sales effort, Price list, price quotation, Trade show demonstration, Any demonstration not under NDA
- Public use in the U.S.

In most foreign countries there is no one-year grace period.

4. Your Company Grants “Challenging” Licenses to Intellectual Property
Startups acquiring their first customers may give special licensing terms in key markets, territories, etc. For example, a grant of “most favored nations” license terms or other licensee-favorable economic terms can make your intellectual property less valuable to future buyers of your company. Or you may cut a deal that you can’t assign or transfer (or can’t get out of) if you get acquired.

Lessons Learned

Protecting your startups intellectual property should be a strategy not an after the fact tactic.

You need a plan for trademarks, copyright, trade secrets, contracts/NDA’s and patents before you get funded.

Your intellectual property may be an additional revenue stream or may add substantial value to your company.

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