growing into your customer base

Sales can seem a bit arcane to new entrepreneurs, all the more so because identifying and closing the right customers changes over time, even within the early stages of a business. At the Netpreneur Coffee & DoughNets event held July 24, 2002, a panel of veteran entrepreneurs discussed how the issues in customer acquisition strategies change with growth, from finding your first beta customer to hiring your first sales person.

panelists:
Patrick Arnone, President, Arnone & Associates
Deepak Hathiramani, President and CEO, Vistronix
Cory Marsan, Executive Vice President of Sales & Marketing, ServiceBench
Rob Masri, Vice President of Corporate Development, Multicity

moderator:
Eric Becker, Managing Partner, Sterling Venture Partners

wrap-up:
Mario Morino, Chairman, Morino Institute

Copyright 2002 Morino Institute. All rights reserved. Edited for length and clarity.

Disclaimer: Statements made at Netpreneur events and recorded here reflect solely the views of the speakers and have not been reviewed or researched for accuracy or truthfulness. These statements in no way reflect the opinions or beliefs of the Morino Institute, Netpreneur.org or any of their affiliates, agents, officers, or directors. The transcript is provided “as is” and your use is at your own risk.

mary macpherson: welcome

Good morning. I'm Mary MacPherson, Executive Director of Netpreneur, and I would like to welcome you to Coffee & DoughNets this morning. It's great to see so many familiar faces, and, as always, a lot of new faces as well. Welcome to the group.

          This morning, based on your input, we've brought together a group of seasoned entrepreneurs and business people to talk about the challenges and opportunities that they faced—and that you face today—related to getting customers. We think that you'll walk away with some practical learning and experience that you can put to work in your companies when you get back to the office today.

          We'll get to the panel in just a moment, but, first, at last month's Coffee & DoughNets we gave you a quick update on some of the transitions that are taking place with Netpreneur and the Morino Institute. The net is, as Mario focuses his professional time, resources, and attention on Venture Philanthropy Partners, Netpreneur is looking at continuing its operation as a stand-alone initiative within the region. This means that we need to raise funding and build a sustainable business model. We're talking to groups and organizations about collaboration and partnership, and we envision that going forward we will be a more highly leveraged operation. We're optimistic about the outcome and have had some early successes. Now our challenge is to convert that interest into commitment, and, in order to help us do that, we need your help. Please take a moment to share the stories of your experience working with Netpreneur and being a part of this community for however long you've been a part of it. We have a very simple online form where you can tell us how you've been impacted by Netpreneur. By telling us how Netpreneur has helped you we can better tell our story to these other groups. If you can’t get to the form, or if email is easier, just send a note to mailto:successes@netpreneur.org. Tell us how you use services like Coffee & DoughNets or ActionNet or Netpreneur News and Calendar, and so on, and just what it's meant to you. It will definitely help us as we move forward.

          As an aside, it’s funny that, as I was coming here this morning, I reflected that last month's Coffee & DoughNets was about spinouts, and this month’s is about getting customers to sign. We are definitely “eating our own dog food” here at Netpreneur.

          One other note. A few weeks ago we launched a new discussion group called The Loop. The thinking behind The Loop is to continue the discussion online around the topics of these events, as well as holding special online-only events, such as recent appearances by Gina Dubbé of Walker Ventures and Ransom Parker of SpaceVest. I want to thank them both and encourage everybody to subscribe. It’s interesting. We thought there would be a lot of conversation about funding in The Loop, but, as it turned out, there was much more interest in talking about sales and building businesses. Our panelists today have kindly agreed to jump in to The Loop after today’s event, where they will be online to take your questions. It's an open forum, and everyone is welcome.

                Now let's get to today’s program. Our moderator this morning, Eric Becker, is going to walk us through “A Question Of Scale: Growing Into Your Customer Base.” Eric co-founded Sterling Venture Partners almost 20 years ago, so I think it's safe to say that he is an early adopter. He'll introduce and facilitate our panel and provide some background. That will be followed by Q&A and then Mario Morino will join us and take a shot at synthesizing the commentary in a wrap-up. Before I turn it over to Eric, let me offer my thanks to my colleagues on the Netpreneur team, to Mario, and to our volunteers this morning: Harish Bhatt of SingleSignOn.Net, Laurie Friedman of impact-resources, and Kristie Helfrich, recently of Cleveland and hopefully soon to be fully employed here. Without you we couldn't do these things. Thanks very much, and I'll turn it over to Eric.

eric becker: follow the customer

Thanks, Mary.

          Getting customers. Could there be a better, more timely, or more universal topic for business? I don't think so. It doesn't matter what stage you're in, it doesn't matter what industry you're in, it probably is the most important thing in starting and running a healthy company. I'm excited to be here to talk about it.

          As Mary said, I'm a Managing Partner with Sterling Venture Partners. I didn't actually start our venture capital fund 20  years ago. Twenty years ago I started my first business, and I'll tell you about that in a minute. At Sterling we invest in business services, IT, healthcare, and education. The company that we're probably best known for is Sylvan Learning, which is a business that we took from a $3 million company to a $1 billion public company in educational services. My partner at Sterling, Michael Bronfein, started a company called Neighbor Care, which he took from a single location professional pharmacy to a $1 billion health care services business, so everyone in our firm has operating experience and has gone through what a lot of you have probably come through to today, which are the challenges of growing a business from the very early stages. We also have 56 CEOs who are limited partners in our fund, so we've surrounded our companies with people who have heavy-duty operating experience. There's nothing like having been there.

          I'm going to talk about some different stages in the life of a company, but I'm going to start with something about my father. Forty-five years ago, my dad started his first company. He's always told me that I should follow the customer—in all the decisions that I make in all of our businesses, I should follow the customers. Another one of his sayings is, “Shopping is the meaning of life.” Certainly, for businesses, shopping and what people are interested in buying is the meaning of life. People vote with their feet and they vote with their pocketbook. You can't go wrong by following the customer.

          Twenty years ago, following in my dad's footsteps, I was a student at the University of Chicago and I started my own company called Life Card International. My younger brother, Doug, called me on the phone—he was a high school student—and he said that he had an idea for an optical memory card on which you could store up to 800 pages of medical history. I wrote the business plan, borrowed $3,000 from my mom to start the company, and went to a company I was working for part-time called The Levy Organization to try to raise some seed capital. That is probably one of the most difficult things that any entrepreneur has to do, especially if it's not from friends and family. The Levys, who were great entrepreneurs themselves, offered to put up a million dollars for 50% of the company. That's what seed capital cost 20 years ago, and there was one condition. They wanted me to go and talk to a potential customer for this technology.

          I found myself trying to figure out who I could go to that would need this card as a potential customer, and the biggest company that came to mind was Blue Cross Blue Shield. How would I get to Blue Cross Blue Shield? I was 20 years old and a college student. Other than being a subscriber to their insurance policy, I had no relationship with the company. But my physician did.

          I went to my doctor and asked him to help introduce me to Blue Cross Blue Shield. What I quickly learned is that most doctors hate Blue Cross Blue Shield. Nevertheless, he was able to make an introduction, and, a week later, I was with the Vice President of Business Strategy laying out our business plan for the Life Card. A week later, I found myself presenting to the board of directors for the whole company. They decided that not only did they want to be a customer, they wanted to be a partner in the business. There's an interesting lesson here, which I'll talk about in a minute, but, first, a brief, funny story.

          After they decided that they wanted to be a customer and a partner, they said that I had to go and negotiate my deal with their Vice President and Corporate Counsel, whose nickname, I was told, was Darth Vader. At 20 years old, I'm in this office with my younger brother, Doug, who's 18, and two other friends of mine who were also in their 20s. Darth Vader opens the meeting and says, “I just want to tell you how I negotiate. You will tell me what you want, then I will either say yes or no. If I say yes, you're in great shape. If I say no, you will have blown this opportunity.”

          It was a lot of pressure on a young kid without any experience, so I did what I think any smart young kid would do who had a father who was an entrepreneur. I asked for a break and went into the conference room next door and called my dad.

          I said, “Dad, I'm in this meeting with Darth Vader.”

          He said, “What?”

          “I'm in this meeting with this guy and we're trying to put together the venture. He's telling me that how he negotiates is it's yes or no. If I say the wrong thing, I'm dead.”

          He said, “Son, everybody negotiates. That's just his style. What are you looking for?”

          I said, “Well, we would really like a royalty on the revenues from this company.”

          “What kind of royalty?”

          I said, “Ten percent.” He said, “Great. Double it. Twenty percent. What else?”

          I said, “Well, we would like a consulting fee.” Being in our early 20s, we had some things we wanted to buy, so we needed a consulting fee.

          He said, “How much?” I said, “There are four of us, $125, 000 apiece, that’s $500,000.”

          He said, “Great. Double it. One million dollars. What else?”

          I told him we wanted equity in the company, and we worked that out. I went back in to the meeting and said to Darth Vader, “I would like a 20% royalty.”

          It was really hard to get it out. He said, okay, then I said, “I would like a $1 million consulting fee.”

          He said, “That sounds reasonable.”

          Lastly, I said, “And I would like 30% equity in the company.”

          He said no.

          I thought, my gosh, I've blown it. It's over.

          Then he said, “You can have 20%.”

          That's how we were able to get started with our business. The lesson in it, though, is that by having one customer that was our partner in the business, I found myself two years later forced to sell the company to them. With the royalty that we had put in place, they could never make money. They were funding the business and they were the largest customer. They said, “You know what, guys? We need to buy the company.” We didn't have a lot of choices but to sell them the business. Now, for a bunch of 20-year-olds in a multimillion dollar sale, it was still like winning the lottery, but it was a very important lesson in terms of what you give up in order to get that first company.

          Now, let's talk about the different stages for an early-stage business. The earliest days, we call “genesis,” or “creation,” or it’s also known as the “scraping and clawing” phase. This is a time of true alchemy. You are Merlin and you must create the first “referenceable” customers. It’s creating something out of nothing, literally willing it to happen. In the early days of some of our companies, my brother would describe it that way—that we willed it to happen. We dreamt about it. We did everything we could, we hustled, and we got the first customers.

          Typically, these first customers are like partners with you in the business. Perhaps it’s not to the extent that happened to us with Blue Cross Blue Shield, but, hopefully, they’re working side by side with you and your product developers, providing design input and other important information. These are hard customers to get but worth their weight in gold. You may have to discount, offer warrants, or provide other incentives to make it relatively risk-free and worth their time.

          One shortcut here is to leverage relationships. It could be that your previous employer will look at the product or one of the investors or directors of the business might be able to make a call and get you in at a high enough level. Perhaps you have hired someone who has sold to this target market before, and maybe they have credibility and can get you in. There are two ends of the spectrum here. One is to make hundreds of cold calls, dozens of appointments, and eventually will it to happen, or, alternatively, you might be able to call five people whom you have credibility with and say, “I have something exciting to show you.” That way you get in at the right level right away.

          My best advice is to just start. Avoid waiting for the product to be perfect. A lot of times we find that companies will spend too much time planning and not enough time implementing at this stage. They want to make the product perfect. It's a little bit like Zeno’s paradox of the racetrack, that you have to get halfway to your goal, then halfway again, then halfway again, and so on. It seems like you're making progress, but you don't actually get there. You need to get out and get started.

          There's a famous Star Trek scene about the “Kobayashi Maru” from one of the movies. It's my favorite one. At the Star Fleet Academy, Captain Kirk earned his reputation as the only cadet to ever beat the no-win Kobayashi Maru computer simulation. He achieved it by secretly reprogramming the computer to make it possible to win. For this he earned a commendation for original thinking. Getting through the earliest stages of a company and getting these first customers require that type of creativity and original thinking.

          Some of the pitfalls and traps of this stage are: not having enough prospects so you work for months on end and then find yourself back at the drawing board; not being strategic and getting customers that are economically unattractive or who are not going to help draw the next generation of customers—maybe you had to give away the farm to get them, and maybe they won't be impressive enough to help attract investors. Other problems can be becoming so enamored with your product or service that you overestimate the value proposition to the customer. You think you have something that is so important that the customer can't live without it, yet 12 months later, you find that you're still without a customer and the one struggling to live is you. Another major pitfall here is not being able to tell your story in a clear and concise way so that prospective customers can understand it. Many times the entrepreneur is so into their technology that they don't really take the time to understand the needs of the customer. "Isn't it neat" isn't going to cut it at this level. Perhaps the most important advice at this stage is to truly understand the business problem or the pain that you're trying to solve, and get that customer feedback through the right betas, pilots, and customer partners who will collaborate on product development, perhaps, even evolve into a customer advisory board at a later stage.

          The next phase is a lot of fun and one that I get very excited about. It's the company's first real growth spurt. There are lots of ways to define it. One simple way would be to say that it’s between $1 million and $10 million in revenue. The characteristics of this phase include the excitement of closing real customers, dealing with real competition, getting that first deal from a potential competitor, and, most importantly, putting in place the processes and infrastructure to become a real business. After all, the goal is to create a sustainable growing enterprise, an important company. During this phase, the groundwork is laid that will ultimately tell the tale for your business down the road.

          Some of the issues at this level include pricing, developing a sales organization, and initiating marketing. The great companies continue with many of the guerilla warfare tactics that they used at the beginning, using their dollars very carefully and making one dollar do the work of three or four or five. This is also a time when the business model will show its strengths or its weaknesses. Is your product properly priced? I can't tell you how many times I've seen businesses where entrepreneurs have underpriced their product. Do you have customers who return time and time again and grow with you, as opposed to always having to go out and find new ones? Do your customers refer other customers to you? Most importantly, and many times overlooked, do they pay their bills? Going back to what my dad said about people voting with their feet, you would be shocked to see how many companies think that they're growing their revenue, but, actually, their overdue receivables are growing at the same time.

          By now the company will determine whether it's using direct or indirect sales channels or both. There’s a very important lessons to be learned here. A friend of mine in the Young Presidents Association sold his company and started a new one. Within six months of startup he had signed a deal with a Fortune 50 company for distribution. This company sorely seemed to need his technology for their customers, and, in fact, it seemed that his technology could ultimately replace that of this Fortune 50 company within a few years. This entrepreneur came back to his team after that meeting and said, “We're done. We've signed a distribution deal with the largest player in the world in our space, the dominant player. This is the day that we have really made our company.”

          What actually happened? Not much. The big company sat on his technology, putting off implementation, putting off the training of their sales organization, putting off the roll-out. Sales reps never actually were offered the proper incentives to sell his products, so they focused on the Fortune 50 company's products. In fact, one sales representative even said that adding his on as an additional sale only made the process more complicated and made the sale more difficult. Unfortunately, my friend learned quickly that having a large company as a distribution partner can be a blessing or a curse. They can throw so much business at you that you may have trouble handling it, or it may be like pushing string, trying to manage someone else's sales force but not actually being in charge. Sales strategy and distribution is crucial at this stage.

          It's usually here where many lessons are learned, including what works and what doesn't. Most companies begin to see the principle, that 20% of the customers will be responsible for a large percentage of the sales. It's very important now to be selective. There's always someone at this phase of the business who is still operating like he did in the scraping and clawing phase, having a hard time making the transition. This person has never seen a customer he didn't like, doesn't know how to say no, and will get your company in trouble by over-committing resources that you can't afford or doing a deal in which the economics don't make sense.

          This is also a time when metrics start to matter. You can measure the time it takes to close the business, the phases of the sale, and the productivity of your sales and distribution function. By now, most of the sales processes evolve around some of the basic concepts born from the natural selection process of business survival—customers that have a need, a timetable, a sense of urgency, the authority to buy, and the budget. We could talk for hours about this topic and still come back to these basic ideas of need, urgency, authority, and budget, but what I would like to do now is to turn it over to our panel, starting with Rob Masri, and each of our panelists will talk a little bit about their perspectives. Rob?

[continued]

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