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don laurie: ventures, partnerships & growth (con't)

cases in strategic models  

Case # 3: Thermo Electron

            Thermo Electron is an amazing company. They have done 23 spinouts of 23 new businesses. George Hatsopoulos is 77 now. He retired two years ago and started his own venture firm which has a 10-year life. He did that at age 75.

            One of the characteristics that is most unique about Thermo Electron is that they hire a lot of MIT entrepreneurs. If you are hired by Thermo Electron and haven't started a new business between three and five years, you consider yourself a failure. It is not a “job for life” mentality, but a lot of engineers go into companies with it, so you fit or you don't fit.

            If you are a Thermo subsidiary and somebody comes to you with the idea, say a heat-driven flashlight rather than one that runs on batteries, you give them funding and get them started. If they get it to the point where they might be able to actually get funded, they fund it through private equity, not by the corporation. Hatsopoulos has a group of friends and others who will put in angel money. You may only have five or six people in it now; but, then, very soon, they will go out to the public market and do an IPO. They will have a valuation of $200 million on it. They will raise 25%, and $50 million will go to Thermo Electron. The interest on that, something like $3 million a year, roughly, goes to the entrepreneur. They hold the $50 million and tell the shareholders that if at any point within the next five years they would like their money back, they can have it back at the price at which they bought the stock. They have a guaranteed upside and no downside.

            Once the technology is beginning to cook, they send out scouts to look for what they affectionately call a “wounded eagle.” A wounded eagle is a potential acquisition in the area. If the idea was for a flashlight, maybe there is an old flashlight business or some variation on that theme. They will acquire it with Thermo's high flying stock, which is a precondition, do a cleanup on it, drop the technology in, and they have a new company.

            In order to do this, they have to hire people from the Harvard Business School who have six or seven years of experience. They’re called “entrepreneurs in residence,” but they buckle up a technologist with passion, a market applications person, and an entrepreneur. Sometimes the entrepreneur is the marketing person or the technology person, and they give them legal and financial support. The CFO sits on all 23 boards so they can see how the money is moving around in them.

Case # 4: Corning

            Roger Ackerman, who ran Corning until a couple of months ago, is something of my hero in all of this. He is a technological entrepreneur if you ever met one. When I was in Roger's office, he said, “Let me tell you, Don, how we think about ventures. We want 70% of our businesses to be in the growth sector. We want to have some cash cows, and we recognize that we will have some where there is a demise of a customer.”

            Everybody's mother used to use CorningWare. That was the jewel in the crown of Corning. No more. He sold it about four years ago because they figured the market was flat.

            What he got are investments that he actually calls “Venture Capital” in the business model. When he talks, he doesn't sound like a Fortune 500 guy, he sounds like a venture capitalist. He says, “We are placing bets here and there. My job as a CEO is to place bets.”

            Remember the issues I mentioned about operating plan and values? “By the way, Don,” he said, “We don't have any of those problems.”

            I said, “Roger, you are a big company. You must have those problems.”

            He said, “No, Don,”

            I said, “Convince me.”

            He drew a graph showing revenues in billions over time, and mapped out four phases along a snaking line: invention, incubation, growth, and mature business.

            I said, “Tell me why you don't have those problems, Roger.”

            He said, “It is easy.” He put his finger on the “mature” phase and asked, “Do you know who runs that?”

            I said, “No, Roger, who runs that?”

            He said, “Our fat, dumb tackles.” I apologize for the male-oriented sports metaphor. Then he moved his finger over to the “incubation” phase. “Do you know who runs that, Don?”

            I said, “No, who runs that?”

            He said, “Our smart, handsome quarterbacks.”

            Instantly, he had done this shift away from “if you run a big business, you are better than if you run a small entrepreneurial one.” He was saying that the hopes for the future are the people that can manage those entrepreneurial ventures. What he was saying: Innovation is in our blood. This is not something we do as a time-to-time initiative. It is in our spine. It is part of our strategy. It is the way we work.

            Then, at one point, I got to know another diagram from Corning. It is a standard stage/gate diagram which you entrepreneurs should know. They have market, technology, and manufacturing teams working together over the various stages: build knowledge, demonstrate feasibility, test practicality, etc. It is well documented in my book, but the point I want to make now is not about stage/gate diagrams, it is one of the things that Charlie Craig who runs their whole development process said: “There are two difference between us and others. First, most big companies begin to put the cross-functional teams together when they get to the ‘test practicality’ stage, we do it when we are in the ‘building knowledge.’”

            When they are talking about building knowledge, they are talking about understanding the future. What are the trends and discontinuities out there? They build futuristic event maps, and they begin to ask about the unmet, unserved needs of the future. They ask: What kind of product attributes can we build and apply so we can build products and new technologies?

            Craig said, “The second thing is -- this is critical, Don -- is that this is a breeding ground for leaders. If you can't manage this process at Corning, you can't be a general manager in the future in terms of running these businesses.”

            That is critical because leadership has to decide when to go slow and have a formal review, versus when to blow through one of these gates in order to get to market fast. “When do we build the prototype?” versus “When do we put people on the manufacturing line and build the prototype and the product simultaneously?” It is a different kind of leadership.

            They pointed out something else. They said, “Here is a typical portfolio map where we look at the return against possibility of success.” Most companies would look at and start investing in companies and technologies up here. They will have fiber optics and medical science, and they will have a cumulative map, but the thing I found most interesting is that the nature of the debate in Corning is to look down here and ask, “What does it take to move these up there?” It is not just an analytical tool; it is a dynamic and strategic tool for managing multiple technologies in one of the most interesting high-tech businesses in America.

Case # 5: Nortel

            I will now shift gears and come to Nortel. Nortel is in the tank right now, by the way, but their business model, in this sense, was very interesting -- kind of an external venture like Intel and GE, but they also do it with partners rather than by themselves

            They said: “If we create our own dedicated group, we are not going to get the best deals.” They looked at 100 different venture capital firms, got that list down to 20, looked at who was who, got that down to six, and became limited partners in each. When they became limited partners they did side-by-side agreements so that they could sit next to Battery Ventures, for example, and see the deals. If Battery said no, they could still say yes.

            They did 100 of these ventures, and, in all 100, they either had a distribution agreement or a technology agreement. They didn't want to invest in anybody if they didn't think they could add value or gain benefit, and they are very focused in that sense.

            Which brings me to a piece that I want to talk about briefly: partnerships between large global corporations and venture groups. You will see more of that in the future.

            Some of you have probably read that in 1994, venture capital levels were $5.5 billion, and about 1% of that was corporate venture. In the Year 2000, $102 billion was invested by the venture capital community, and 18%, or $20 billion, was by corporates. What happened in 2001 is that in the first six months they wrote-off $9 billion. Just in the past couple of weeks I have been reading, I think it was NTT, just wrote-off $4 billion. It drives to the question: Will they leave the playing field?

            I think you will see three kinds of things. You will see companies like Intel and GE and Johnson & Johnson and Dell for whom it is so strategic that it is in the fiber of what they do. They are not going any place. Then you will see others like Wells Fargo, which lost a billion dollars; Comdisco, which lost $150 million, and Compaq, which has a corporate venture capitalist in every division. It was undisciplined and unmanaged and opportunistic and they are off the field. Then you have the people in the middle who are trying to figure out what to do. One of the reasons is that these CEOs have learned that this is an area of new technologies, an area for emerging markets, a place for distribution agreements, a place for technology agreements. If they miss a technology cycle in their business, they can be dead, and their current R&D won't get them to the future. There is a conundrum.

            One of the things you will see from this is partnerships where the corporation hooks up with a venture firm, such as Zero Stage Capital where I do some work. The corporation will say: “Here are strategic boundaries. Here is where we want to invest.”

            They will have to use a large target. There aren't enough deals in the bull’s eye if you define it too tightly. It’s not only that. When I was working with Nokia, at one point they were saying that the bull's eye was mobile phones and pagers. Somebody said, “I have this great deal.” They replied, “We are in the mobile phone and pager business. Why would we want to invest in Palm Pilot?” Well, two or three years later, their strategy changed because the technologies converged. That is the strategy of the entrepreneur and the strategy of the big company, so you have a “big shot” group. You have to invest with a company that invests in your domain, so to speak. They will create dedicated corporate venture funds where the venture fund will manage $30-$40 million and they will take carried interest and a management fee. The CEOs have a new tone. It used to be: “Why should we pay 20% carried interest?” Now it is: “If it costs me 20% interest and it gets me to the strategic future, I'm willing to pay.” It delivers above average financial returns anyway, so there is a shift in the mindset and the needs, in that sense.

Case # 6: Cisco

            Cisco, is the company I didn't know where to put in my earlier matrix. It became “Acquisition and Integration.”

            Cisco has been remarkable to me in the sense that they don't have any R&D. Silicon Valley is their R&D, and they did that partly because of the way the company built up, and partly because it was a faster route to market. If you look at their annual report, you will see that they have $3 billion dollars in R&D, but that is not product R&D. Those are the people who stitch all these acquisitions together and make them work within the Internet infrastructure business.

            They don't have a venture group, but they have this venture acquisition group where they will go out and find the next acquisition. If you are acquired by Cisco at 11:00, you will have business cards and pads of paper on your desk when you come in. A week later, you will be fully integrated into their computer system, and, a month later, they will have interviewed you and know what your future is within the company. They have had an amazing retention rate through all of this, however.

            The other thing is that you get two boosts. One was, because of their high flying stock, they were able to compete with IPOs. The second was that they were the most e-enabled company on the planet. Whether it is dealing with suppliers 100% over the Internet, or dealing with customers 85% over the Internet, or dealing with employees 100%, you become extremely e-enabled.

Case # 7: Johnson & Johnson

            The last company that I would like to talk about is Johnson & Johnson, and the reason I want to talk about J&J is that J&J does it all.

            I'm going back to the framework and look at external investing. Johnson & Johnson Development Corporation (JJDC) invests $80-$100 million a year in 25-30 ventures. They have 10 corporate venture capitalists, and they are in Silicon Valley and Brunswick, New Jersey, and Israel and Europe. They also invest in areas they don't know. For example, with Hambrecht & Quist, they put $30 million in for medical information technologies which they didn't know anything about, since they are more in devices and pharmaceuticals. As I talked about earlier, they let Hambrecht, invest on their behalf.

            In terms of “we will do it ourselves,” they are very entrepreneurial. They invented the stent that opens up arteries in the heart, and they invented the arthroscope that does arthroscopic surgery in your leg. They licensed Accu Lenses and built that into a multibillion dollar business.

            Down here, under Partners, JJDC, Medvest, and Marquette put in $10 million dollars each and hired an entrepreneur. They said, “Go find us a business to run.” You will hear soon, if you haven't already, about something called the “Ibot.” The Ibot is the wheelchair that goes up stairs and across sand. An inventor said: “I have this invention but I need capital and management, then I need the skills to get it through the regulatory process.” They put in $200 million.

            The last bit is down here in Acquisition & Integration. They were never in urology, but they have a science group that gives grants, not capital, for equity. Just grants. They gave $50,000 to two scientists who had seed technology for a prostate cancer cure. A year or two later, Brad Bell, one of the corporate venture people, came in. They had gotten quite far along, so he helped them write a business plan -- they never had written a business plan -- and he gave them $2 million to get started. Three years later, they bought the business for $100 million and they acquired two or three urinary tract businesses. They created a urology division which is one of the fastest growing divisions in medicine, a new division they were actually operating.

what makes an entrepreneur?

            This is all very interesting, but, when you hear about all this structure and how these big companies go about it, what I realized is that you can't have a venture without an entrepreneur. That gave rise to a question I would like to ask you: How do you know an entrepreneur you see one?

Audience Member: You feel their excitement about their projects and ideas.

Audience Member: You look for previous risk taking.

Mr. Laurie: When they were a kid, did they take charge as a kid, or did they always go to somebody? This guy has taken three risks. Look how bloody he is. He is just right for me.

Audience Member: An original idea.

Mr. Laurie: It is quite a mix, but the two people I asked this question of were Michael Moritz of Sequoia Capital and Howard Anderson of YankeeTek Ventures. They both said, “You don't. You can tell after they have done one or two deals.” Everybody knows that Bill Gates and Michael Dell are successful entrepreneurs, and Roy Kroc who started McDonald's.

            Howard said: “If I see the person has a plan and understands the market, I will give them 25 points out of 100. If I see that they are in a hot industry growing at 50- 60%, I will give them 25 points. If I see they have a track record -- because the best predictor of the future is what has occurred in the past -- I give them 25 points. Finally, if they have good beta customers, I give then 25 points. If they have GE and Goldman Sachs, I think they've got something. It is an acid test.” Basically, it is a different way of thinking about it. We all know that entrepreneurs are fiercely independent, that they continue to go on, etc., but those are a lot of intangibles that are difficult to measure for a wily venture capitalist or a cynical corporate type. It is worth thinking about.

working with corporations

            Why is it so difficult for most large global corporations to achieve their potential? There are a few structural factors.

            One is that in the corporation they have to write off the losses right away. If you look at the time cycle for a typical venture, at about two-and-a-half to three-and-a-half years, you are at your deepest loss. That is inconsistent with the promotion cycle at most companies. Fred was innovative and said, “Let's venture here.” He has three or four deals, then Joe comes in and says, “What was Fred thinking when he began to invest in this?” Just as it is about to turn the corner, they exit.

            Another thing is that they have a very different view of risk minimization. In the venture business, the risk minimization is to invest in 20 or 30 ventures: two or three of them will pop, 40% will fail, and the others will chug along. In a corporation, however, they will say, “We will have you do this one, Mark, and, if you don't make this successful, we will never do it again here at the ABC Company.” It is a very different view of risk minimization.

            The other aspect is the risk/reward factor. The big company employee is normally kept on salary. They say, “We are proud of you for doing this,” but this is risk and he or she is out of the mainstream. For the entrepreneur, however, if you take a company public at a $200 million market cap and you own 7%, you just made a lot of money. In the corporation they say, “We can't pay them that way; he will make more than the president.” The entrepreneur will say, “Yeah, that's the idea. You have got it.”

            The other thing that hit me is that, to most entrepreneurs, the risk is high, but so what? Most of them are unemployable by these big corporations. They are absolute misfits. I hear these corporations say, “We have to get more innovative and entrepreneurial around here. Let's get some entrepreneurs.” They hire them and, in the room after, they say, “She will never fit in here.” If she comes in, they can't understand her six months later because she is so focused and she wants to do things her way.

            The last piece is that there is a big difference between the way the VCs and the corporations look at the cycles. For example, there are different hot technologies. If we go back a year and a half ago, it was all optical networks, now it is general. Nobody knows what “it” is, actually. It is electronic storage and a series of different things. There is biotech. There is a big shift in the technologies, but, if you are an optical networking company, you can't switch to biotech. There is a venture investment pipeline, and the VCs are fighting to get to the next big market and, secondly, to get their first. At some point, that pipeline gets filled.

            I remember somebody saying to me when Singapore Networks went public that it was the last great optical network company to go public. More or less it was. The pipeline gets filled because it goes to the IPO pipeline, which gets filled, and you can only take so many of these companies public. That is a fundamental difference between the way the VCs look at it versus the corporates. Corporations will say, “We are in this for strategic reasons.”

            Let me wrap up by touching on two or three issues that I think you ought to be aware of in the corporates.

            Internally there is a debate. Should we own 100% of our ventures or partner with experienced venture managers? The debate goes like this: In the left corner, wearing the blue trunks, are the people saying, “This is our idea, our asset, our people. This is an important source of growth. We can't abdicate power. We will lose many of our people and the entrepreneurs will make more than our CEO. We ought to be able to do this ourselves. We will maintain control and get 100% of the benefit.”

            On the other side, they will say: “Spinout with partners. We don't have a heritage or track record. The best idea is the independent access and entrepreneur resources. This is real-time R&D. We have to attract serial entrepreneurs like yourselves. We have to get off balance sheet financing. We will get a higher valuation. This will be for faster learning, and we will get a better shareholder return.”

            When I was writing the last chapter of the book, I asked myself, “Does all of this matter?” I got interested in it, but does it matter? I finally concluded that it matters if it creates shareholder wealth.

            Even in corporations there are two competing perspectives on that. One is: “No. Corporate investing is cyclical. We gear up in success and exit in difficult times. Success is a one-time spike in earnings.”

            Here’s a story. Adobe invested in Netscape and worked with them. A year later they made $300 million. They showed Wall Street, and Wall Street said, “We are not doing anything to your shares. It is a one-time spike in earnings.” Adobe said, “We will show you!” They wrote a letter to their shareholders and gave them dividends in this. Do you know what their shareholders said? “Don't ever do that again.” They said, “We are investing in you because you are a software company, and if we want to invest in Netscape, we will do it.”

            There are real Wall Street pressures against this, and Wall Street neither understands nor rewards corporate investing.. It is an unrewarded activity, and management doesn't understand it.

            In the other corner they answer the question of shareholder value by saying, “Yes. This is a window on emerging markets and a source of distribution agreements. Ventures become customers and suppliers. Their source of operations is an improvement.” Sixty-six percent of the investments GE Equity makes have GE as a customer. It is a source for the next new thing, and the acquisition and integration can enhance portfolio productivity. 

            I want to touch on that for a second. I brought Unilever into one of the venture firms, Advent. They had two kinds of ventures they were potentially interested in. One was consumer products, and I was amazed that they had so many consumer products. Advent had invested in 30 worldwide. The other interest area was things that would enhance their productivity and efficiency, like supply chain management, CRM, and asset management. I really brought Unilever in there to see the future of other consumer products, and they were much more interested in productivity and efficiency improvement. A lot of these companies really love to be beta testers, and we will talk in a minute about how you get to them. These people are saying ventures are strategic and a real source of growth and we need to educate Wall Street.

            When I'm talking to the corporations, my message is that you can't steal Intel's idea or Corning's ideas. It doesn't work that way. You have to stand back, take a look, and ask: What is the venture strategy that will fuel your growth? You need your framework, your own. You need to start where you are standing, not where Intel is standing, and you need a common language and common base of assumptions, but, if you don't venture, you will not grow.

            What are the benefits to the entrepreneur? There are a lot of benefits. The first is a source of capital. These corporations have a lot of money. The second is the distribution agreements. It is not just capital; it is value-added capital. If you have a healthcare venture and you get Johnson & Johnson money, you also potentially get their distribution agreements. Instantly, you have worldwide capabilities to distribute or put a turbocharger on your product.

            In terms of technology partnerships, there are a number of companies I have worked with that, once they found a venture working in a particular technology area that they were working on simultaneously, they closed down their internal R&D and went with the venture. Another example is that I was with Joe Schoendorf from Accel Partners, who is kindly quoted in the book. He talked about a situation in which an entrepreneur had some middleware technologies that he thought would be perfect for Michael Dell. He called Mike who called back half an hour later and did a private labeling deal for small- and mid-sized businesses.

            Customers can be another benefit. For an entrepreneur to have some of these big companies as customers increases your valuation. There are early adopters in these big corporations. There are early adopters in IT and there are early adopters among general managers. They are willing to experiment with companies like you to go forward.

            The last  benefit is learning and support, post-investment. I mentioned the situation with GE where what they do is not only hard due diligence, but they will come in and teach you Total Quality Management. Some of these things are invaluable. If I go from entrepreneur A to B to C, each one is learning the same thing. In big companies they can say, “Let's get a flip chart out and see how we will manage the brand. Let's get a flip chart and talk about the problems in supply chain management.” Large companies have made many of these areas routine and the problems have been solved. Yes, they are cumbersome, but if you can learn about and adopt them, you can build a quality company faster.

            There was another story that Joe Schoendorf told me. One day they were having a portfolio meeting of their 100 CEOs. They called up John Chambers, the President and CEO of Cisco, and asked, “John, would you speak to the portfolio CEOs?” He said, “Yes, under two conditions.”

            “What are the conditions?”

            “First, I can stay all day. Second, I can bring my entire management team.”

            At 7:00 in the morning, John Chambers was pouring the coffee for the entrepreneurs. At 10:00 at night, there were seven executives at seven different tables pouring the wine.

            The following year, they invited Carly Fiorina, Chairman and CEO of Hewlett-Packard. She said, “Sure. I'll be there. What time?”

            “2:30.”

            At 2:00 she was stepping on her private jet in San Jose for the 11-minute flight to Monterey. She got out of the car, was driven by limousine to Pebble Beach, arrived seven minutes before hand, spoke for 40 minutes, spent 300 seconds each with the four most important people there and left.

            Why am I saying that? If I've learned anything through this work, there are two preconditions that you need to think about as an entrepreneur considering working with these companies. One is, does the CEO get it? Is the CEO somebody who is curious, has foresight, has a vision for their business, and is really committed to growth, or does that person make the trains run on time?

            The second is, is the culture welcoming? You will figure it out when you enter. Within half an hour, you will know. Are they superior and arrogant, or are they welcoming and curious? Those are big clues for an entrepreneur because you don't have the time to spend with the latter group.

            I would like to thank you very much for your attentiveness and invite questions.

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