We all know what has happened to the tech sector in the last year, but do we understand why it happened? Those who don't understand history are doomed to repeat it. Read this analysis of lessons learned the hard way.
Consider how many dot-com CEOs and tech company heads would give anything to redo the past. But hindsight won’t change anything. Often, it takes a good drubbing before a lesson is learned.
Aside from needless extravagant accouterments, gourmet lunches, on-site masseurs, gyms, and expensive parties, the biggest mistake was a failure to plan ahead. Much of these companies’ short-term thinking was askew as well. It included missing basic knowledge that falls under the heading of “Management 101.”
In this article, we’ll examine where dot coms went wrong, and we’ll get some expert advice from two people who have helped to pick up the pieces.
Why the so-called New Economy really wasn’t
Dot-com CEOs were convinced they could create a new order under yet-to-be-defined rules of the New Economy and turn their backs on business-building rudiments. The sad reality of most of these financially ruined companies is they’re only using half of their balance sheet, according to Marc Morgenstern, managing partner of Klahn, Kleinman, Yanowitz & Arnson, a Cleveland law firm specializing in emerging growth companies. “The thinking is they can only be funded out of equity capital rather than debt capital,” he explained. “They’re running their businesses on negative cash flow.”
Traditionally, companies faced a major decision, said Morgenstern. It was either grow slowly, run a positive cash flow, and create something small or grow as fast as possible and assume it will pass a validation point. At that point, the capital markets would reward the firm with more money, and the valuation would increase.
That kind of thinking was fine in the past. But it didn’t work in a market that was accelerating faster than anyone ever imagined possible. Virtually everyone was reaping the rewards of off-the-charts growth. Few companies were cautious enough to batten down the hatches as a precaution against a surprise squall.
But the unexpected happened. “In March 2000, we had the first major Nasdaq twinge, which sort of chilled the private equity market a bit,” said Morgenstern. “It was a warning no one took seriously. Plenty of VC [venture capital] money was still around. VCs were backing companies based on scanty information, and most of them had remote chances of survival. Funding decisions that were once made in two or three months were being made in a few days.”
We all know what happened next. The economy didn’t turn around as expected. It grew worse. VCs backed off, and bridge loans and angel financing were no longer easy to get. Companies tried to weather the storm, but they continued to make bad assumptions, one of which was the belief that the market was only experiencing a long-overdue correction. “They didn’t change their business plans, which turned out to be a critical mistake,” said Morgenstern.
Meanwhile, the stock market plummeted. “It didn’t matter whether you performed or didn’t perform, VCs wouldn’t fund anything,” Morgenstern said.
By the time the curtain finally came down, companies had discovered too late that they should have revised their business plans before the economy nose-dived. The lesson is crystal clear, according to Morgenstern: Don’t worry about the short-term valuations. Worry about survival. You also can’t squeak by with a mediocre management team. All companies, especially technology companies, need experienced managers. It’s particularly important for emerging growth companies.
“You can’t just have an okay CFO and CIO; you need brilliant ones,” Morgenstern advised. “You need a management team that adjusts to market conditions every month, revises the business model if needed, and tries to forecast conditions three to five years down the road.” In short, companies need visionaries at the highest levels.
CIOs must rethink technology purchases. “In the past, companies used technology to solve problems,” said Morgenstern. “The thinking during the last two years was just the opposite. CEOs said, ‘We are developing cool technology and we’ll find a way to market it.’ That’s backwards thinking, and it illustrates why technology companies die.”
Morgenstern advised setting technology budgets with long-term plans crafted from a sales perspective. Tech companies need to ask themselves four fundamental questions:
- Who is my customer?
- Who will make purchase decisions?
- What does it cost to make the product?
- What will the customer pay for the product?
Lisa Brokerick, managing partner of Conversus Group, a rapid response advisory company in New York City, has more business than she can handle. Brokerick’s company can be likened to a corporate SWAT team. Her phone rings whenever a company faces going out of business or is just hanging on by a thread. These days, her phone never stops ringing. Over the last 12 weeks, Brokerick has rushed to the aid of 30 companies.
Like Morgenstern, she said the majority of companies with short lives failed to plan three to five years ahead. “Management teams either didn’t believe in the planning process or they thought it was boring,” Brokerick explains.
Other critical factors included the absence of strategic thinking beyond the short term, overanalysis of decisions (which were usually wrong), and blindly following inept CEOs.
Brokerick stresses a need to return to long-term planning basics addressing the following seven major areas:
- Human capital
Lastly, Brokerick would like to see companies return to bootstrapping, an art which has been lost over the last five years. “Companies have been swimming in money,” she says. “They’re started at the second stage in building a company and didn’t have to think about making do with little or next to nothing. Bootstrappers have no choice but to be creative and find inexpensive ways to launch their companies. It means making every penny count and every person accountable. That gives you the whole perspective when launching a company.”
Remember those famous companies launched out of garages? They demonstrate that a little hardship doesn’t hurt. Just ask Steven Jobs.
Does your enterprise favor a return to basics? Or do you see the economy as fundamentally altered by the technology and business developments of the past 20 years? What about globalization—are you thinking on a different scale than you were a decade ago? Share your thoughts with us by e-mail or by posting a comment below.