Human Capital -- the New Reality. (Have you felt it too?)

The NetForum will meet again on September 26th at 830am to continue our peer-to-peer conversations about the most topical subjects for executives charged with scaling Digital Economy businesses, whether they are CEOs of Expansion Stage companies or corporate executives in charge of strategy, corporate development and revenue generation in large media, technology, and other Web-transformed businesses.  Our host will be General Assembly, and we will meet at their 902 Broadway location, on Level 4 (that's in NYC for all my out of state readers!)

Our topic of discussion will be "Human Capital -- the New Reality.  Have you felt it too?" Like an earthquake that is unexpected, the disruption in the world of Human Capital is everywhere.  At the NetForum, we will ask  "Did you feel it too, and HOW BIG IS IT?"

Some trends are continuing their slow march -- the hold that large enterprises have on their employees is diminishing.  It's not just that employee mobility (voluntary and involuntary) continues to rise.  I think that close observation would lead one to think that perhaps the social contract that is at the foundation of corporations is being rewritten.  The great economist Ronald Coase (who passed away this month at 102!) helped us understand how a "contract" between various resources (including labor) led to the emergence and stability of corporate organizations.  In my mind, the analysis is still very useful but the contract is being recut.  Initially, I think it was the corporations who rewrote the deal by beginning to reallocate their purchases of labor to multiple locations -- essentially price shopping now that the cost of doing so became manageable.  But labor reacted to this with the advent of the Web by learning to sell its capabilities better.  The Web flattened the world, and networked it like never before, lowering the cost for labor to shop for work.  In Coasian terms, the transaction costs that formed the basis for corporate existence were lowered dramatically, forcing a rewriting of the corporate social contract, and corporations will never be the same.

The rules then are changing.  What employees expect from their employers is changing, and what employers are expecting is changing too.  Some things won't change.  Most people do expect that getting a job is essentially an insurance policy, a respite from having to market oneself everyday to fund one's life.  And employers do expect that people hired will be around at least to finish the tasks they were asked to perform when hired.  But how to get from these minimal expectations to creating a Good Job, where the employees come, stay and are fulfilled and thus motivated, and where the employers feel they would do everything they can to keep these employees as opposed to recycling them for cheaper labor, that's the question!

And to do this when you are at the epicenter of the earthquake, in places like Silicon Valley or Sillicon Alley, where the ambitions and dreams of highly skilled employees, their access to superior information, and their demands for transparency collide with the reality of VC funding or public markets, customer demands, and hyper-competitive markets, is even harder.  But that is exactly what the members of the NetForum are doing day in, and day out.

So, let's see how we do it.

Laurent
P.S.  After the event, as I always do, I will post an anonymized synopsis of the event as a comment to THIS post. (So click on the comment button right below to see it, after the event.)

Corporate Venturing

We will be having our next event on June 20^th centered on Corporate Venturing. We had surveyed members to see which corporate strategy topics were of most interest to them and Corporate Venturing came to the top of the list. There has been a resurgence of Corporate Venture Capital, and this time it is not just isolated with Tech and Pharma companies (Automotive, Consumer Products, Manufacturing, Oil & Gas companies are all entering) and there has been significant growth in cross-industry investments (somewhat driven by multi-industry sweeping innovations such as clean-tech). Many of our members are seeking CVC funding, while others are contemplating forming a fund within their corporations. The discussion will seek to understand how Expansion-Stage companies should engage with corporate venture capital funds. What’s the best way to secure funding and build a long-lasting strategic relationship, go to the corporate venture group or try and find the right business unit/division manager to be your “champion”? We will also examine what it takes to set up a successful corporate venture fund. How do you create a culture that embraces external innovation as opposed to viewing it as a threat to internal R&D? How do you maintain post-investment support from the organization to ensure you are creating value? How do you measure the success of a corporate venture? Oftentimes the strategic value can be as much, if not more, important than the financial returns of the investment. We will also examine some emerging trends in Corporate Venture, such as the move to earlier stage investments as seen by the growth of corporate incubators. To ensure that we have as engaging and thought-provoking of a discussion as possible we will be doing something new this time around. We will be conducting primary research by interviewing experts in the field beforehand. We want to talk to both corporate venture capital professionals and members of startups that have received corporate funding. If you or anyone that you know fits the bill, please reach out to Raj (araj14@gsb.columbia.edu) and we will schedule a 30 minute interview over the next 1-2 weeks. We will also post a summary of our discussion after the event. 

IPO! What IPO???

The fifth NetForum meeting took place on May 2^nd, 2013. The topic of discussion was “IPO! What IPO???” It is no secret that the IPO market for technology companies has basically vanished.  Why is that? Is our community less daring, less ambitious? Are we creating companies of lesser value? Or are the public market investors basically not buying it, saying come back when've got something that we can believe in? Are the VCs not interested in IPOs, do they just want quick flips? Or are the strategics snapping up IPO-worthy companies so that they are not letting enough companies go public?  These were the questions that were discussed during another lively discussion. NetForum members were joined by two individuals who are in the heart of the IPO action, Jon Robson, CEO of NYSE Technologies, and Scott Cutler, EVP NYSE EuroNext and Head of its Global Listings Business.

The number of Tech IPOs in the last 5 years is small compared to past periods, and dwarfed by the number of Tech IPOs during the DotCom Boom.  What does that mean?

Members agreed that you needed to look at the dwindling number of IPOs since the DotCom Boom in the right context.  The DotCom Boom years were an anomaly and we should not compare any other period to that period.  The number of Tech IPOs is steadily increasing again, with larger IPOs and more of them.  There is still a proper IPO window for meritorious companies.

However, the public markets are not for the unprepared.  Public markets reward predictability – companies that don’t have their act together, namely can’t forecast how well they will do 2, 3, 4 quarters out at any time will have a hard time in the after-market.  Accordingly, these companies will have a hard time going public.  The drafters of the JOBS Act attempted to lower the regulatory burden on smaller issuers to create an easier pathway to the public markets to earlier stage companies (not to be confused with early stage startups!).  There are numerous benefits of going public, namely the liquidity for investors, and the currency for acquisitions.

The discussion on the predictability of performance led us into a discussion thread that was especially fascinating.  We had numerous executives of Web companies present, with experience stretching to Web 1.0, significant fund raising track records, and even public company experience.  And we flirted with the notion that perhaps tech companies were inherently not well suited to the public markets!  Bluntly said, if the public markets want companies that can tell them how they are going to do in 6 or 12 months and beyond, well, tech companies with short product cycles, business models that are “evolving” and lots of competition from all directions are inherently not capable of meeting the bar. 

So, who is aiming for IPOs?  Several NetForum members stated that venture and private equity funds investing very large sums of money at very high valuations are supporting companies that have no choice but to aim for an IPO.  The buyers for these companies become few and afar as the valuations increase such that only the public markets can provide liquidity to the investors.

In some way, however, the late stage investors are not creating a problem but solving one (or perhaps creating a problem by solving another).  Late stage investors can be seen as “competitors” to the public markets in providing capital to high growth companies.  Some of the big names in the tech sector that went public in the 80s and 90s raised sums on the public markets that are smaller than many late stage rounds today.  (Intel raised $6.8M in 1970, Microsoft raised $61M in 1986, even translated in current day money this is smaller than late stage rounds in companies like Square and Twitter, and many others).  The late stage investors are providing expansion capital and even hard currency for acquisitions to companies that need them – whether these are companies who could have gone public and gotten this capital from the public markets, or they are companies who could not have gone public due to the higher bar previously discussed.  If indeed the markets expect companies to be able to predict revenues and profits accurately, then the companies that are raising these big rounds really may not be able to go public and raising the big rounds is just a logical next step in their lifecycle as maturing companies.

So does this mean that tech companies that go public now are mature businesses by necessity?  Claims that Facebook was a mature business at IPO abounded at that time.  It is certainly hard to continue to grow exponentially when one reaches a certain scale.  Yet, many companies that go public become large job creators, with LinkedIn being a point in case.  Other pointed out that the IPO discipline forces companies to rein in expenses, especially R&D for the sake of R&D.  The broader point was again that there is plenty of capital available to finance the high growth phase of successful companies, so that by the time they go public they have more mature financial profiles.

We did address the psychological or ego element of wanting to go public.  There are still “dreamers” out there, some said.  The term was not meant to denigrate foolish people but to acknowledge that there are CEOs of companies who want to change the world, who believe they have a game changing technology/product/something, and for them staying the course till the IPO is an imperative.  These could be contrasted to CEOs who are running their companies to make money for their investors and themselves, and have been around the block a few times, understand the risks that need to be confronted day in day out, and who don’t think about the IPO as much as about building a good business everyday. Perhaps these are the “realists”?

We ended on a high note, on the NYSE floor just in time for the opening bell for the IPO of ING.

Founder CEO vs. Professional CEO

The fourth NetForum meeting took place on March 14^th, 2013. The discussion centered around a hot issue in the world of fast growing Web companies: the respective roles of the Founder CEO and the Professional CEO.  This issue touches one of the foundational elements of any business, the management, but is of particular relevance to fast growing companies because they can run through growth stages very quickly -- very often there is no time to allow a founder to retire, or mature, and a transition to a professional CEO if not done perfectly can cause the business to miss a beat and just collapse.  Investors will not fund a business without a strong management, or the ability to install one quickly, and strategic buyers always look to secure the continued participation of key employees in a M&A transaction to ensure they are not buying a company devoid of its creative motor. Jamie McGurk, the in-house Corp Dev/M&A partner at Andreessen Horowitz in Menlo Park, joined the group to share his insights on the topic.  His role is in line with Andreessen's public stand that they prefer to deal with founder CEOs (http://bhorowitz.com/2010/04/28/why-we-prefer-founding-ceos/) and that THEY, as a firm, need to mold themselves to work with founder CEOs. 

Andreessen Horowitz (“AH”) was founded to be the model VC firm that Marc Andreessen and Ben Horowitz wished they had had as an investor when they were founders at Netscape and Netops.  This is in contrast to the traditional VC firm with a small number of General Partners, each sitting on multiple portfolio company boards and each an island of knowledge and contacts, without the institutionalization of information sharing across the firm and without a way to systematically add value to portfolio companies in all the areas where they need help.  AH has 70 professionals in HR, Sales Operations, PR, Corporate Development, Research, and of course Investment, that are geared to generate deal flow, analyze it, deploy capital, help companies recruit human capital, generate sales, do deals, raise money and exit.  In the Private Equity sector there is a trend now towards “operationalizing” – meaning adding to the PE firms people with operating experience who can add value to businesses to complement and potentially supplant the much maligned number crunchers.  These are similar ideas in parallel fields challenging the status quo, until they create a new paradigm…

Studies showed that within 3 years of an investment, VCs had replaced somewhere between 50-70% of CEOs.  Some CEOs have the self-awareness that they are not the right person for the job, either because that’s just not who they are, or because the job outgrew them, so they have asked to be replaced.  Many around the table supported this idea, having experienced it first hand or having seen it in their companies or in companies in which they had invested. 

An issue that was brought up is that sometimes the rank-and-file knows that the CEO is not the right person for the job but no one on the Board is doing anything about it.  A comment that was made by a serial CEO is that his experience was that VCs were leaning over backwards not to replace the CEO and that sometimes the Board acted too late. So instead of there being an evil plan to go in and replace the CEO, there could be an opposite predisposition, a reluctance to take action when needed.  Investing in good people and helping them become good CEOs could work but failing to either a) truly help a CEO that is doing poorly or b) replacing him or her fast is a breach of a Board’s fiduciary duty.  But one can understand why group dynamics can prevent 5-7 people working as a group to eject one of their own from his or her seat…

Another question that came up was whether the founder-led companies actually produce better results for investors.  There is data that indicated that founder-led CEOs generated better IRRs than those led by professional CEOs.  The data was challenged by some of our members on the basis that it was inherently biased.  Basically, if you have a great company led by a great CEO, why bring in a professional CEO?  Hence, the professional CEO hiring may be an indicator of sub-optimal performance compared to the ideal case of the founder who gets it all right and rides into the sunset.  This makes sense as any CEO change causes a disruption and a loss of institutional knowledge, so the mere fact of replacing the CEO, especially a founder CEO, is a high-risk endeavor and it can take a while for everything to settle down.  If it works out, the professional CEO brings a productivity boost that should make up for the disruption caused by the CEO change.  But sometimes it does not. 

Participants discussed the fact that the founder is often the embodiment of the company and it is hard for someone new to come in and become all of that.  Yet, it was pointed out that it is an absolute requirement, that the CEO of a startup, founder or not, must convince the team that he or she is now the soul of the business.  Professional CEOs who come in to replace a founder may never have that credibility, or may need to work extra hard to acquire it.

The discussion shifted from a focus on Founder CEOs to “founding teams.”  Several people work together to start a company and over time, someone emerges, a natural born leader and becomes the unmistakable CEO.  Sometimes, the founding CEO develops the awareness he is not the right person to do the job as it has evolved and gets a new CEO to replace him.  Reid Hoffman wrote a nice blog on his experience bringing Jeff Weiner to run LinkedIn, describing it as bringing a new founder, even if he was not the founder. 

Members discussed the importance of securing the participation of founders when they are still CEOs in the context of corporate M&A.  Members who have responsibility for M&A for their companies discussed the importance of making a proper transition that captures that knowledge base during M&A transactions.

There was also a discussion of Richard Branson, an illustrious founder CEO, who is the embodiment of his company to the outside world.  Many wouldn’t have hired Sir Branson when he got started but that he has done a great job understanding the need to surround himself with great talent, allowing him to remain and succeed as CEO for so long.

Building and Managing an Effective Board

The third NetForum meeting took place on January 23^rd, 2013.  The discussion centered around the topic of “Building and Managing an Effective Board.”  This is a much different question and challenge for a private company funded by VCs or a strategic investor than it is for a public company.  What one can expect from board members appointed by an investor varies greatly, from full engagement or intrusiveness to minimal support or indifference.  Yet, this is the group required by law to manage the company. Partners at Willkie Farr & Gallagher, Serge Benchetrit and Gordon Caplan, joined the meeting to share some of their experiences advising Boards. 

Clearly, the management-Board relationship is one of the foundational elements of a venture/PE-funded enterprise. It is one fraught with potential conflicts, definitely, but also a source of support that management teams can leverage. It was not surprising then to hear many members speak critically of Board experiences they’ve had while at the same time say “but I really like my Board.” In the course of the discussion, a number of themes emerged:

• The Board by law manages the company but is not involved in the day to day. The CEO’s job is to figure things out and tell the Board to support what he or she wants to do, not to ask what he or she should do. At the same time, having a good relationship with individual Board members to sound ideas is a good thing.
• At times of pivot, the Board is not a source of creativity. If a CEO has to ask his or her Board for ideas about what to do next, that CEO’s days are numbered. The Board hired the CEO to drive the business, not to ask for the directions…
• Board meetings are a significant strain on a small company’s resources. Yet, many members felt they were a good thing as they forced the management team to step back, re-examine what they were doing and have to justify their actions.
• Companies may need different types of Board members over their lifecycle. Ideally, a Board would evolve in line with the company’s progress to address its evolving needs. This may in fact happen in the Angel to VC transition phase but rarely happens later.
• First time CEOs or inexperienced ones don’t know how to select their investors based on the quality of the Board members that would join the company. But if possible, CEOs should create a market for their equity to allow themselves a choice of Board members, and favor those firms that would put members with industry expertise, previous experience in the field or with similar companies and industry contacts on the Board. Unfortunately, this does not happen as often as it should, with the Board seat going to the sourcing partner instead of the person in the firm with the most relevant experience.
• Independent board members are often a valuable addition to a Board, and help add a disinterested viewpoint to the Board discussions.
• Strategic investors are often less concerned with value creation as with the ability of the firm to provide a good service that meets their needs. This is a source of conflicts.
• There are differences between how East Coast and West Coast investors operate and thus act as Board members. East Coast Board members are more operations/number oriented, while West Coast Board members are more “big picture” and strategy oriented. It was posited that this may be related to the observed fact that there are more below-the-radar, profitable mid-market companies in East Coast portfolios (more single and doubles, less zeroes and home runs), while West Coast portfolios are littered with failures and home runs.

Building Strategic Partnerships

The second NetForum meeting took place on December 6^th, 2012. It was dedicated to understanding how to effectively and efficiently build strategic partnerships. How do two companies align their interests to pursue a common goal? What makes an agreement a strategic partnership and not a garden variety commercial agreement? Should they be coupled with an investment?  These difficult questions were tackled as members discussed examples of strategic partnerships that worked and those that did not.  Five main insights were generated from the lively discussion.

1. Partnerships can't be manufactured. They must evolve over time. Many of our members are on the receiving end of "strategic partnership" proposals. These proposals are treated immediately with suspicion. Often, they are viewed as a way to get something without paying for it. Or they are deemed a distraction from the business objectives that have already been set and are already being pursued by the company. Yet, unsolicited partnership ideas are treated with a lot more seriousness when filtered by an insider -- the best insider referral is NOT from someone way up but from a corp dev person whose job is to filter incoming deals, or from a mid-level operating person who is familiar with the real needs of his/her colleagues.

2. The partnership offers that will get the most attention are those who are farther away from the core business of the company being approached. If the idea will yield an incremental improvement to the recipient's business, it is less likely to be pursued as the company will naturally believe they can do it on their own. Ideas that fill a material gap in a business line or that allow a company to enter new business lines faster will be seriously considered. Yet, companies do not broadcast their strategic gaps, so figuring these out is a guessing game with lots of misses. (Here's the value that intermediaries fill -- discrete sharing of needs. The NetForum can also help here.)

3. Partnerships with technology enablers will be looked upon favorably because of the difficulty that big companies have in developing new products and technology. So will partnerships that enable companies to extend their assets (usually their brands) into new markets or platforms. Small companies continue to make the mistake that by doing a deal with a big company they will have "access" to the marketing power of a big company.

4. Money needs to flow to make a partnership work. Both parties need to see a path to new revenues that did not exist before. The cash is better than the PR value.

5. Having an equity stake in the partner is not essential but it often creates a structure that is a prelude to an acquisition. Companies often enter into strategic partnerships to try before they buy.

It has never been easier to start a business on the Web, never harder to scale one

The inaugural NetForum meeting was on October 18^th, 2012 on the subject of “It has never been easier to start a business on the Web, never harder to scale one.” The subject of the meeting was right on point, as evidenced by the lively discussion that took place. There was strong support for the fact that the lowering of barriers of entry made it even more important that companies have a strong value proposition. Participants noted that funding rounds are getting smaller because overcapitalizing unbaked ideas did not make sense. It was brought out that not all companies should scale, and won't, and that's probably natural. The ceilings and watershed moments for companies are changing, there is seemingly a new cap where b2c media companies get to $100M and then can’t get to the next level. In b2b that too happens and the bar is probably lower, around $5M. Participants noted that some of the companies that max out are good targets to plug into a traffic funnel. There is also an incredibly important time element -- companies often don't have time to succeed as things are changing quicker every day. There are also major challenges of fighting big entrenched incumbents. Companies are employing all sorts of scaling strategies, some NYC startups are attempting to scale by importing talent from Silicon Valley.  In summary, although the challenges of scaling a business are numerous, there are still industries where the incumbents have been slow to change and these are the places that nimble challengers can still create a big business, even today.

Evolution of NetForum

As we prepare for our 6th event, I feel it's time to share how NetForum has evolved over the course of the last nine months. It started as nothing more than a hypothesis. Back in September we thought there was a market need for NetForum and said, "There is no TechStars for expansion stage Web companies. All the attention is focused on the new start-ups.  But the challenges to scale from early stage to later stage are enormous." NetForum tried to fill this need by bringing together in a roundtable format a small group (20-30 people) of C-level executives of expansion stage Web companies and Strategy/Corporate Development executives from leading public and private companies.  We decided that at the NetForum there would be no admission cost, no presentations, no pitches and all attendees would be expected to contribute to the discussion. We wanted to generate though-provoking and engaging discussions in a "friendly" and confidential setting. In the beginning we had no idea if this would actually work. Over the last nine months our hypothesis has been resoundingly confirmed. We have had breakfast sponsors such as the NYSE, Bank of America/Merrill Lynch, Willkie Farr & Gallagher and Duane Morris. Participants include senior executives from a wide-range of companies such as The Street.com, Virgin, Reuters, XO Group, EdVentures, Sony, Bank of America Merrill Lynch, and numerous rising web companies. We will post brief summaries of our first five events below and in the future start posting event descriptions prior to and summaries after events.

Introducing The NetForum Digital Executives Breakfasts

The NetForum gathers senior Digital executives from Expansion Stage Internet companies and senior Strategy and Corporate Development executives from large media, technology, finance, retail and services companies.  Our group meets about every 6 weeks for breakfast to discuss a topic of interest and of relevance to senior executives of companies that have left the start-up stage and are now in expansion mode -- a category of companies that is largely left out of the limelight accorded to the 4-person startups.  It is a forum for honest, candid sharing of experiences -- accelerated learning from peers.  We have from time to time invited experts to share their expertise with the group.

Attendance is limited to less than 25 people per breakfast.  The NetForum attendance is by invitation only and free of charge.  To date, the breakfasts have been held in NYC.  If you would like to be invited to join the NetForum membership, please email laurent@parkviewventures.com or fill out the contact form on the home page.