Thursday, February 18, 2016

Big Companies Must Embrace Intrapreneurship to Survive

Posted By: George Deeb - 2/18/2016

It has been well-documented that big companies typically struggle with innovation .  Once companies get to a certain size, their invest...



It has been well-documented that big companies typically struggle with innovation.  Once companies get to a certain size, their investors become more conservative, their leaders less entrepreneurial, decisions are managed by consensus and their employees become less willing to stick their neck out with “out-of-the-box” ideas, that may not work out and result in losing their jobs.  And, without innovation, companies get too “comfortable” with their past success, just before going out of business (e.g., Woolworth, Montgomery Ward, Borders, Blockbuster, American Motors, Pan Am).

Read the rest of this post in Forbes, which I guest authored this week.

For future posts, please follow me on Twitter at: @georgedeeb.


[NEWS] Client Looking for E-Commerce Business to Buy

Posted By: George Deeb - 2/18/2016

We have a Red Rocket client on the hunt for an e-commerce business to buy.  It can be in any merchandise vertical.  It must have $3-10MM...



We have a Red Rocket client on the hunt for an e-commerce business to buy.  It can be in any merchandise vertical.  It must have $3-10MM in revenues and $0-$2MM in cash flow, and be willing to sell in the 4-5x cashflow range.  This is obviously not going to attract high-flying growth stories, but instead, businesses that may need to be "cleaned up" or not doing the full range of marketing activities they could be today.

The buyer is a private equity firm that will want to own 100% of the company, and be transitioning in their own CEO.  This firm is rolling up niche e-commerce businesses to aggregate revenues, to then seek operational, technology and marketing synergies between the businesses on the back end.  If you think this describes you, or someone you know, please contact me via the form at the bottom of this page.

For future posts, please follow us on Twitter at: @RedRocketVC


Wednesday, February 10, 2016

Lesson #226: What Exactly is Venture Capital?

Posted By: George Deeb - 2/10/2016

I have been writing about how to raise venture capital for years.  But, I got a very unexpected question the other day: what exactly is...



I have been writing about how to raise venture capital for years.  But, I got a very unexpected question the other day: what exactly is venture capital?  I just assumed everyone understood what venture capital actually was.  But, for those of you who are new to the startup or fund raising scene, this post is for you!!

THE STAGES OF A COMPANY'S GROWTH

All companies start as a piece of paper idea and can grow into billions of dollars of revenues from there.  And, there are specific types of investors that help investors along each step of the way.  All the way from venture capital, at a company's very early stages, to private equity capital through its middle stages, mezzanine capital which is typically a bridge to the next stage, which is an initial public offering or some other liquidity event.  We are going to focus on the very early stages in this post, which is truly the venture capital stage.

THE STAGES OF VENTURE CAPITAL

Even within venture capital, there are investors that focus on different stages therein.  "Seed stage" venture investors help get a company off the ground; think $0-$1MM of revenues.  "Early stage" venture investors focus on taking a company that has successfully proven its concept, and help them to accelerate their sales and marketing efforts; think $1-$10MM of revenues.  "Growth stage" venture investors basically pour kerosene on top of a company that is already "on fire"; think $10-$50MM of revenues.  Seed stage investors cut $100K-$1MM checks; early stage investors cut $1-$5MM checks; and growth stage investors cut $10-$50MM checks.  And, at each stage herein, most investors have some type of industry expertise that they focus on.

THE FORMS OF VENTURE CAPITAL

Most investors think money is money.  But, it really comes in all shapes and sizes.  Within the venture capital space, the two most typically used structures are equity and convertible debt.  Equity is issuing common stock or preferred stock (with some type of liquidation preference rights).  Once invested, equity is owned outright until some type of sale or liquidity event of the company.  It does not need to be paid back.

Convertible debt, like its name suggests, is a debt instrument that technically has a maturity date and does need to be repaid at some point in the future.  That said, most sophisticated convertible debt investors in venture capital are treating their investment like equity, and are prepared to "convert" their debt into equity of the company, upon the company's next equity round.  It is often a "bridge" financing to an early stage or growth stage financing, in a way that doesn't have to set a formal equity valuation of the company.  Re-read Lesson #109 for more detailed distinctions between equity and convertible debt.

VENTURE INVESTOR EXPECTATIONS

Venture capital is the riskiest type of investment an investor can make.  The odds of a company successfully hitting a "home run" (10x return) is one in ten.  Most venture investors are lucky to get their original capital returned, and many investments are simply written off in their entirety.  So, from an investors' perspective: buyer beware!  Don't think you have the next Google or Facebook on your hands, as you most likely do not.  And, from a company perspective, if investors are asking you for certainty of payback or other onerous terms, raise capital elsewhere, as they clearly don't understand the venture world.

WHAT VENTURE CAPITAL IS NOT

It should never be a senior, secured note, like you would get from a bank or pure debt lender.  As any investment that has a chance to "strangle hold" the company in the event of it not hitting its plans, is a recipe for disaster for all involved (when not hitting plans is the norm!).  Expensive interest rates that need to be paid in cash, or restrictive financial covenants based on your balance sheet metrics are simply not reasonable in the venture world.  There is too much uncertainty in the success of the base business itself, to layer on even more hurdles for the company to cross.  Forcing bankruptcy for a company with limited assets or ability to repay to start, most always results in a zero return for all involved.

WORDS OF WISDOM

Raising venture capital is not easy; it is more of an art.  Not only does the business need to have a good idea, team and traction to get an investor's attention in a very crowded market, but you need to know the right type of venture capital to be asking for.  Are you seed stage or early stage?  Are you technology industry or retail industry?  Within technology, are you B2B or B2C?  Are you raising $250K or $2.5MM?  Are you raising equity or convertible debt?  Your answers to these questions will dictate which investors you need to reach out to.  So, do your home work, and don't waste your time with known dead-ends based on the investors target investment, most typically detailed on their website.

As I have said many times in the past, hopefully you have learned: cash is not always the same shade of green!  Find the capital that is best for your stage of growth, with industry expertise and a proven team of investors that have been through the "war" many times before (hopefully, bringing great learnings and relationships to the table, in addition to their capital).

For future posts, please follow me on Twitter at: @georgedeeb.



Thursday, February 4, 2016

Customer Service Case Study: BCBS Are Criminals!!

Posted By: George Deeb - 2/04/2016

It is no surprise that most of us have been getting fleeced by our health insurance companies over the last decade, where rates keep ris...



It is no surprise that most of us have been getting fleeced by our health insurance companies over the last decade, where rates keep rising at an annual clip of 15-20% a year (5-6x the rate of inflation) and the underlying benefits keep falling (e.g., higher deductibles, higher out of pocket maximums, and lower coverages).  And, the Affordable Care Act ("ACA"), which was supposed to be a good thing, bringing healthcare to millions of uninsured, at a government-promised no impact to currently insured policyholders, ended up creating the opportunity for the insurance companies to turn the screws even further.

They ended up passing along most of the additional costs of the ACA roll-out to their old customers, in the forms of even higher rate increases (40% in the first year alone), and creating a process where you can only make healthcare decisions during a 2-3 month open enrollment period each year (effectively holding customers hostage for up to a year at a time, in anything but an open and free economic way, if the carrier ends up abusing their powers).

We all sat back, watched it happen and said there was nothing we could do about it.  But, what Blue Cross and Blue Shield of Illinois ("BCBS") did this year bordered on criminal.  And, I needed to share this story of extreme customer abuse, so you don't make the same mistakes with your customers.

THE FACTS

Back in the November 2015, BCBS sent out a note to its individual policy holders (which I have been one for almost a decade), that basically said my current PPO Gold plan was being discontinued, and they were rolling out a replacement PPO Gold plan under a very similar name.  It included a list of key changes to the plan, like pricing, deductibles, out of pocket maximums, etc.  At first read, it was not a better plan, as the policy terms were worse than my old plan.  But, based on the marketing materials, the policy was close enough for my needs.  I assumed it was going to be business as usual in terms of my doctors and hospitals, and I followed the automatic transfer process into the new plan.

But, nowhere in their list of significant changes letter, was a clear disclosure that my underlying in-network doctors and hospitals in the network were MATERIALLY being downgraded.  BCBS did not renew its relationship with the Northshore or Northwestern medical systems for its individual policy owners, the biggest, most-used, most-respected hospitals and doctors in the Chicagoland area.  They only kept them in-network for the corporate/group policy owners.

I learned all of this when my wife went to go for a procedure this month, and our normal doctors and hospital said we were no longer in-network, and our coverage levels were going to be cut in half to the out-of-network levels.  Which was a shocker to say the least, especially since we were three days outside of the open-enrollment period to find a new policy, which means we were stuck paying for a crap policy that we would never use (except in an emergency) for the next year, whether we liked it or not. Not a great feeling when you are forking out almost $20,000 per year for what you thought was a "Gold" level product.

When I called BCBS to inquire about it, they told me about the changes above, and said my only options were to: (i) find a new doctor and hospital that is in-network (where the quality and locations of such were far less respected); (ii) switch to their HMO solution (where none of the most respected doctors were in-network, and you lose control of picking your own doctors, as you do in a PPO); or (iii) go find a corporate or group plan where my doctors and hospitals continued to be in-network (which doesn't work well for small business entrepreneurs that are using contractors vs. employees to save on benefits costs).  And, even if I wanted to go work for a big company for their insurance benefits, most big companies are hiring fewer on-payroll employees, also relying more on outside freelance contractors for up to 40% of their workforces.  None of which were acceptable or viable solutions for me.  What a mess!

MY APPEAL TO BCBS AND THE INDUSTRY (and key lessons for how to treat your customers)

1.  Market Honestly.  If you are going to make material changes to the policy ,especially to its underlying network, that needs to be more clearly disclosed during the open enrollment period, not buried in the fine print, forcing customers to stumble on the problem on their own, when they have their biggest need.  That is like advertising a Cadillac plan (under the same "Preferred Gold PPO" name you have used for years) and given them a Yugo where the engine doesn't work when you go to turn the key.

2.  Be Loyal to Your Long Term Customers.  If you have materially pissed off your customers (18,000 of which in this case), figure out how to be flexible and make it right.  Don't dig in with lower quality solutions or deadlines, when you are putting their quality of doctors and hospitals at material risk.  It is not reasonable to ask them to drive 30 miles to an in-network hospital they have never heard of, when the best doctors and hospitals are right in their backyard a few miles away.  Especially, after many have forked out hundreds of thousands of dollars to you over the years, making very few claims as largely healthy users.

3.  Get Rid of the Corporate/Group vs. Individual Policy Distinction.  This has basically become a way for corporate lobbyists to figure out a way to help preserve their recruiting advantages (for the 60% of their workers they prefer to hire as employees).  All in a world where 40% of the workers for those same companies, and elsewhere, are sole proprietors or freelance contractors that don't qualify for group coverage.  To make matters worse, there are no longer trade associations for those individuals to join to get group healthcare rates, as the insurance companies have dropped those channels altogether, trying to save on referral fees.  At the end of the day, in the words of the band Depeche Mode, "People are People", and they should all be given the same opportunities for coverage at the same prices, regardless if they are working as employees of big companies or contractors in small businesses.   Especially when workers are more mobile than past generations, not working at the same company for more than a couple years, and need a portable health plan that moves with them.

4.  Consumers Need Normal Protections.  The laws written by our government should never impede fair trade practices.  What other product or service does not provide for refunds, credits or returns if the client is not happy with what they bought.  Worse, they are legally required to continuing paying for the poor policy in the future, to be compliant with the ACA.  Consumers should never be locked into long term agreements for huge sums of money when they feel they are getting screwed based on misleading marketing materials.  Get rid of that 2-3 month re-enrollment period limitation.  That is anything but a fair and free market.  All it does is make it less onerous on the insurance companies, thanks to their lobbyists.

I have been a loyal BCBS customer for most of life, from my parents plans, to my old employer plans to my current individual plans.  All in the face of terrible abuse in the form of gouging price increases and reduced coverage levels.  Shame on me!!  But, BCBS was the "Gold Standard" in my mind. Now, I find myself with my family at risk with sub-par doctors and hospitals located far away from my home, looking for new solutions after the open-enrollment period has ended.  And, researching solutions from new in-network carriers, like Aetna or Coventry (but, not Cigna or Humana, who are also in-network, but do not support individual policy owners!!).  That is not how you treat your best (highest revenue, lowest claims) customers.

Any successful Chicago-area growth consultants in a similar situation want to join Red Rocket, so we build a group healthcare plan together or join a PEO to leverage their group rates.  Being an entrepreneur or small business person, which accounts for over 50% of all the jobs in our country, should not be so onerous when it comes to healthcare decisions.  Our, jobs are hard enough as it is.  As for BCBS, shame on you!!


For future posts, please follow me on Twitter:  @georgedeeb.



Monday, February 1, 2016

Lesson #225: Potential Pitfalls With Mergers & Acquisitions

Posted By: George Deeb - 2/01/2016

I have always been a fan of considering mergers & acquisitions as a viable way to more quickly scale your business.  But, this roa...




I have always been a fan of considering mergers & acquisitions as a viable way to more quickly scale your business.  But, this road is not foolproof by any means.  Below are some of things that can go wrong, so do your research and plan accordingly.

WRONG POST-SALE TEAM

The skillsets it takes to grow a small stand-alone business are very different from the skillsets required to grow a larger business through M&A activity.  You want to make sure someone inside "Newco" has past experience in dealing with M&A related issues like merging businesses, teams, financials, etc. and someone that knows how to operate a much bigger company, typically with more procedures and controls for scalability.  Remember, the CEO's role must change as the company scales.

MERGING TEAMS & CULTURES

Let's face it, mergers are very much like marriages.  You are merging people, personalities and cultures.  And, marriages don't always go as planned, often ending in divorce.  But, "divorce" in the M&A sense is typically much harder to accomplish, meaning you are stuck with these issues, whether you like it or not. So, it is critical you do your homework and make sure the senior management has clear roles and can gel as a new team together.  And, that the employees in the trenches will aspire towards a shared collaborative culture of "we", instead of "us" vs. "them".

BIG COMPANY LETDOWN

Oftentimes, entrepreneurs think selling to and working for a big company will solve all their problems, as big companies have bigger budgets, etc.  But, having lived through two sales to billion dollar companies, big companies bring as many headaches, as they do solutions.  Big companies move like a turtle, compared to the lightspeed of startups, with many layers of bureaucracy and decision makers.  And, the powers that be at the top, are typically focused on much bigger "fish to fry".  Which means your startup will most likely get "lost" inside a big company, unless you have a well-documented agreement detailing their guaranteed support ahead of time..

INCOMPLETE DUE DILIGENCE

Yes, I am sure you tried to ask all the right questions during the due diligence process (as I have previously taught you how to do back in Lesson #66).  But, I guarantee you, even the best advisors and lawyers may miss something that can come back to bite you.  Not to mention, let's face facts, a seller is trying to sell, and is always going to present things from a rose-colored glasses perspective.  Which is why you need proper seller representations and warranties documented in your M&A agreement to protect you.

HITTING FINANCIAL TARGETS

Let's say you have two $5MM businesses coming together.  It is reasonable to estimate that the combined business could do $10MM in revenues together, if not more from the cross-selling of the respective products.  But, the reality is, you have a higher chance that revenues are only $7-$8MM when the dust settles.  Why?  Because key employees may become disgruntled by the merger and leave the company.  Or, the target was overly optimistic on the health of their sales pipeline, etc.  So, build in a cushion for situations like these, and make sure the pro forma economics still work for you.

EARNOUTS

Earnouts are payments made to selling shareholders at some point down the road, well after closing the deal, after the selling company hits some agreed upon financial or performance target.  Earnouts can work great if you are a buyer, as most buyers know, earnouts very rarely pay out to sellers as much as the sellers hope for.  Sellers agree to terms thinking the earnout will be achieved, and then a grim reality sets in when it does not.  So, if you are a seller, regardless how well written you think your earnout is, things will most likely not pay out as you hope.  So, take more upfront cash in hand, where you can.  And, be happy with deal even if a zero earnout is achieved.

LEGAL PROTECTIONS

Getting M&A transactions properly documented for maximum protections in the event something goes wrong down the road is not easy.  It requires the skills of very experience lawyers.  And, it is most likely not your general counsel; it is a lawyer with deep M&A experience who has lived through the "negotiation wars" over time, and has battle scars to show for it.  Do not be cheap here, pay up for the best M&A lawyer you can afford, as it could end up saving you millions in capital and hours of heartache down the road.

This is not intended to be a catch-all list of potential pitfalls, but is simply some high level things to keep in mind to protect yourself when going down the M&A road.  Get a good advisor to help you with your negotiations and a good lawyer to make sure it is properly documented.


For future posts, please follow me on Twitter at: @georgedeeb.



Red Rocket is a featured contributor on entrepreneurship for many trusted business sites:

Copyright 2011- Red Rocket Partners, LLC