Year: 2014

Why That Ex-IBM Exec Could Be One Giant, Cash-Guzzling Liability to Your Startup

Picture this.

Young, starry-eyed startup founder comes in to pitch investors for funding.

He clicks crisply through his deck. He describes his product (patent-pending, of course), its features, benefits, and how 1% market share is enough to place everyone in the company on the Forbes list of richest people in the world.

Then the team slide comes up on the screen and the entrepreneur puffs up his chest, clears his throat, and announces that (just so you know) the CTO (or some other C-Suite position) of the company is an ex-IBM executive (or an ex-HP executive, or any other big, public company).

He pauses and looks around the room proudly. Almost as if he was expecting a standing ovation.

Oh, by the way, the company has raised $20 million so far, burned more than 50% of that on overhead (logo design, focus groups, salaries, and such), and hopes to have a minimum viable product in 24 months. Just as soon as this round of funding is completed.

See any problem with this picture?

Several actually. Let’s address just one today.

If you haven’t taken your product and service to market, if you do not yet have product-market fit, hiring an ex-Google COO to impress potential investors will almost certainly spell doom for your startup.

Here’s why.

One, your startup IS NOT a smaller version of a big, public company (HT Steve Blank). Your social media startup and Facebook are two totally different animals. One is a cute, needy kitten; the other is a full-grown lion. Your startup (the kitten) has different needs and needs a different set of competencies than a fully-functioning company.

Second, drawing from one above and quoting Ben Horowitz in his must-read book, “the job of a big company executive is very different from the job of a small company executive.”

To a big company executive (used to big budgets), that $2 million you plan to raise to take your product to market is just furniture allowance.

Former big company executives come with big company habits that could be deadly to your startup. Habits like sending everything to focus groups, analysis paralysis, bureaucracy, ego mania, and waiting for things to happen instead of making things happen (among others).

Bottom line: buyer beware.

Yes, you might need an Eric Schmidt or Sheryl Sandberg for adult supervision, however, hire one with your eyes wide open and only when your startup has taken off and is approaching cruising altitude.

Business Investment Questions Answered

So the other day the founder of one of our portfolio companies did a business investment product demo before some investors.

Impressed with the product, the investor, however, observed that the product might be too clunky for shipping. He wondered if it were possible for a product to fit a certain shipping parameter that he was sure would give the already-impressive product another edge in the market.

As told by Brett, everyone agreed it would be worth the founder’s time to explore possible solutions to address the investor’s suggestions. Then the product demo was continued and wrapped up.

This was at about 4 pm.

By 2 am the following morning, the founder had the answer for the business investment questions.

He has completely re-invented the product?to fit the ideal weight and shipping parameters required to take the product to market.

The founder was following in the footsteps of the best WHY-driven entrepreneurs. His WHY is iron-clad. He has seen his target market’s future and his product is a bridge to that future.

For this founder, with such a strong WHY, the HOW is a matter of time, resourcefulness and focus.

How about you? Have you figured out your WHY yet? Why are you building your product, service, and business? (Hint: I hope it’s not just because you see an opportunity to make fast money).

Here’s why having a strong enough WHY is imperative to your startup’s survival:

Starting a business investment from scratch is hard and risky work. If it were not, every employee in Dilbertville would start one. When all hell breaks loose (it’s payday and your account is in the red, a key client cancels and leaves a gaping hole in your projections, the current iteration of your product fails, your spouse gets jealous of the time you are spending on the business and call the nearest $99-divorce lawyer), your WHY might be all you have left to see you through.

If your WHY is strong enough, no HOW can stop you.

 

Categories:

Why EBITDA is Not Cash Flow

Why Earnings before Interest, Tax, Depreciation, and Amortization (EBITDA) is Not Cash Flow

Published  by Axial  November 2013 by Cody Boyte

 

There is often a misconception that EBITDA is synonymous with cash flow. While most seasoned deal professionals are careful to remember the distinction, some company owners (or entry-level analysts) can benefit from a friendly reminder.

The EBITDA metric gained prominence with the arrival of the LBO industry in the 1980’s, as buyout firms used it to estimate how much debt a company could take on, a key component of the LBO strategy. While EBITDA has become standard in company valuation – purchase prices and loan covenants are often quoted as multiples of EBITDA – the metric is not uniformly defined under GAAP standards and its calculation varies from company to company. This variation can lead to disparities and misunderstandings about the true cash-generative abilities of a business.

EBITDA does not take into account any capital expenditures, working capital requirements, current debt payments, taxes, or other fixed costs which analysts and buyers should not ignore. The cash needed to finance these obligations is a reality if the business wishes to grow, defend its position, and maintain its operating profitability.

Here are three costs that are not included in the EBITDA calculation, and their omission tends to overstate operating cash flows:

Capital Expenditures

Certain industries like heavy manufacturing, shipping, aviation, telecom, clean technology and oil and gas require heavy ongoing or up front investments in equipment. EBITDA does not take into account capex, the line item that represents these significant investments in plant and equipment. Ignoring capital expenses to inflate EBITDA by $3.8B precipitated the bankruptcy of WorldCom. Essentially, the company capitalized operating expenses, allowing them to be depreciated over time, thus decreasing operating expenses and boosting EBITDA.

Depreciation

“The biggest problem I encounter is an over or underestimation of capital expenses for asset-heavy companies such as trucking. Adding back all depreciation for a company like this without leaving an allowance for capex can grossly overestimate the available cash flow. However, not adding back any depreciation can underestimate the cash flow, especially if the company uses accelerated depreciation,” advises Axial Member Jaime Schell of Plethora Businesses. There have been more insidious cases of companies manipulating depreciation schedules to inflate EBITDA, such as?Waste Management in the mid-nineties extending the useful lives of its garbage trucks and overstating their salvage value.

Working Capital Adjustments

Businesses need to invest revenue back into the company to keep expanding. EBITDA does not account for changes in working capital and the cash required to run the daily operating activities. Ignoring working capital requirements assumes that a business gets paid before it sells its products. Very few companies operate this way. Most businesses provide a service and get paid in arrears. Ideally a business collects up front for its services and pays in as much time as possible to remain as liquid as possible and to quickly reinvest cash into profitable investments like inventory purchases. This relationship between sources and uses of cash speaks to a company’s ability to take on more projects such as higher debt payments in the case of an LBO.

While EBITDA is useful in that it allows for a back-of-the-envelope comparison of two companies with similar business models or in the same industry, a 2000 letter to Berkshire Hathaway shareholders written by Warren Buffet put EBITDA in its place: “References to EBITDA make us shudder…We’re very suspicious of accounting methodology that is vague or unclear, since too often that means management wishes to hide something.

David Simmons at Forbes magazine once called EBITDA the “device of choice to pep up earnings announcements.” It does not exist in a vacuum and is irrelevant on a standalone basis. It does help when comparing similar companies under time constraints, but is by no means a thorough valuation tool when making an important investment decision.

 

compliments of: http://www.axial.net/

 

 

Investing in Startups has Increased Significantly Over Recent Years

Investment changes you should be aware of

Rock The Post’s 2013 Investor Trends Survey reveals interesting insights into the changing investment landscape and investment
attitudes among private investors today compared to 10 years ago. Upcoming regulatory changes with the JOBS Act will further
shape the investment world, allowing investors to invest in private companies for the first time in 80 years regardless of income
or net worth. The Investor Trends Survey also identifies some key characteristics of experienced angel investors ? those who
have experience investing in startups ? compared to non-angel or novice angel investors.
This special report contains a selection of the insights from Rock The Post’s 2013 Investor Trends Survey, including:

  • Investor portfolios consist of 15% more alternative investments now than 10 years ago
  • Experienced angel investors have a lower percentage of mutual funds in their portfolios than novice and non-angel investors
  • Investors are relying less on intermediaries to carry out their investments and more on direct investing methods
  • The availability of investment tools, such as online trading platforms, and investors experience with direct investing are the main reasons they are encouraged to manage their own portfolios.