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More on the Neuroscience of Learning From Failure: How Entrepreneurs Learn October 27, 2010

Posted by Jim Price in Business, Entrepreneurship.
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I commented in a post back in  March (https://jimprice.wordpress.com/2010/03/17/the-neuroscience-of-failure-successful-entrepreneurs-learn-by-falling-down/) about how entrepreneurs learn and grow through failure far more than through success.  Just as first-timers in ski school first learn to fall down gracefully, smart entrepreneurs know full well that they’re going to hit unexpected bumps and obstacles and that they’re going to fall down.  And they know that that’s OK – indeed, they know that it’s from these failures, both small and large, that they’ll learn and improve the most.

Well here’s a fresh perspective on learning from failure:  that some failures may not be failures at all, but instead may actually be successes in disguise that we simply don’t recognize.

As I consider the really fascinating non-fiction writers out there these days – world-class thinkers and story-tellers ranging from Simon Winchester to Jon Krakauer, Richard Brookhiser, Malcolm Gladwell, and Jared Diamond – a new name has worked its way onto my list of late:  Jonah Lehrer. 

Lehrer is a contributing editor to Wired magazine.  What’s been stimulating his curiousity lately is the field of neuroscience – how our brains work.   He’s the author of two fascinating recent books on the topic, If Proust Were a Neuroscientist and How We Decide.  You can listen to Jonah being interviewed on by Terry Gross on NPR’s “Fresh Air” radio program on 3/2/09 here  http://www.npr.org/templates/story/story.php?storyId=101334645

In the January 2010 issue of Wired, Jonah’s latest article entitled  “The Neursocience of Screwing Up”  (http://www.wired.com/magazine/2009/12/fail_accept_defeat/) really struck a chord with me.  The article’s subtitle encapsulates his thesis: “If we train our brains to embrace failure, we open ouselves to new discoveries.”

Here’s how Lehrer summarizes how we learn from failure.  He points out that, in all fields of endeavor – including business – we run experiments with a certain hypothesis in mind.  And when the results an experiment fail to support our going-in hypothesis, we tend to view that experiment as a wasted effort and throw out the data.  But, Jonah points out that not all anomalies should be considered useless, and he offers a useful framework for making use of them. 

In this post, I’ll paraphrase his 4-step model, and in parallel try to give you a sense of how it applies in an entrepreneurial business setting.

1.       First – Check Your Assumptions

Step back and ask yourself why this “failure” feels like a failure.  Could it be that your hypothesis is what failed, and not the experiment? 

For instance, as a publisher, you are finding that a certain textbook and its complementary, separately-priced workbook-plus-CD-of-exercises are not selling very well separately.  Mysteriously, the text is selling at only half the rate of the associated workbook-plus-CD.  So, you decide to run a marketing experiment and try bundling the textbook and workbook-plus-CD together at a special combined price.  After running the special for three months, you and your team are horrified to find that unit sales of the combined bundle have not only not increased, but that textbook sales have dropped by 50 percent over those of previous, standalone textbook sales, and that workbook-plus-CD sales have dropped by 75 percent from their previous standalone sales rate.

Now, the going-in hypothesis was that bundling of closely-related products, combined with an associated price discount, would increase sales.  The “obvious” conclusion to draw from the results of this marketing experiment is that bundling does not increase sales.  However, by looking at the data another way, we may come to a very different conclusion:  that the workbook-plus-CD (and not the textbook) is what the customers really want, and that the former product is what we ought to be marketing aggressively, without requiring them to purchase the associated textbook.

2.       Second – Seek Out the Ignorant

Pull in people who aren’t familiar with your work.  Explain your experiment to them in simple terms – hold the jargon, please.  By doing so, you may find yourself seeing the activity in a new light.

In virtually any field of endeavor – including the various business disciplines such as finance, marketing, accounting, or strategy, as well as the myriad business markets, ranging from aerospace and defense to home improvement, from green energy to entertainment – we encounter unique language and jargon.  So a great acid test when running an experiment is this:  Can you describe what you’re doing to people from outside your field, in lay language, so that it makes clear and intuitive sense to them?

Using our textbook example from above, if the folks coming up with the bundle-pricing experiment are all marketing pros, following Jonah’s approach would suggest bringing in some of your colleagues from customer service, accounting, the reception desk or the loading dock – or perhaps even outside friends and loved ones – and trying to explain the experiment and the results to them.  You just might be surprised by what feedback they give you, or by what you hear yourself saying to them as you work to re-cast your experiment in a generic light.    

3.       Third – Encourage Diversity

As Lehrer puts it, if everyone working on a problem speaks the same language, then everyone will come in carrying the same set of assumptions.  In a business context, you never want all computer scientists in the room, or all consumer marketing whizes or all finance geeks.  Mix it up.

As you’re assembling your project teams, make sure they’re not all computer scientists, or all MBAs, or all clinical quality managers, or all naval architects, or all classical musicians, or all advertising whizes, or whatever.  Because if everyone in the room is from the same training and background, you’ll all be viewing the problem through identical lenses, having been trained to think using the same constructs and paradigms.

4.       Fourth – Beware of Failure-Blindness

Step back and ask yourself why this “failure” feels like a failure.  Could it be that your hypothesis is what failed, and not the experiment?

Referring again to our textbook example, we can see that the bundle-pricing experiment struck the marketing people as a failure at first.  Their preliminary conclusion was that bundling the related products and offering a price discount on the combined product counter-intuitively reduced unit sales rather than increasing them.  However, by focusing on their experimental data and not on the bigger picture, they missed the message that was obvious to others glancing at the situation:  that customers wanted the workbook-plus-CD, and were willing to pay a premium price for it, but didn’t want it unnecesarily bundled with an unwanted textbook.

There’s no such thing as an original business idea October 25, 2010

Posted by Jim Price in Business, Entrepreneurship.
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It’s remarkable how often I’m approached by prospective entrepreneurs — and it’s usually first-timers — asking how they can engage potential employees, partners, funding sources and so on in conversations without divulging and “giving away” their extra-super-secret business concept.

 

My response? 

 

Get over yourself.  You’re just not that clever.  And there’s no such thing as an original business idea.

Do the math:  There are 6 billion people on this earth.  If we postulate that even one-tenth of them are quite intelligent, and one-tenth of those smart ones have access to some money, you can’t tell me with a straight face that someone among those 60 million folks hasn’t already thought of your concept and pursued it a bit.

But relax.  Most great businesses aren’t built on original business ideas.  There.  I said it. 

The vast majority of great, new businesses aren’t created by entrepreneurs introducing novel business concepts to the market.  They’re almost always companies launched by entrepreneurs who have a clever innovation on an existing concept.  Or sometimes just better branding, customer service and overall execution applied to a tried-and-true concept.  They’re the fast followers (or not-so-fast followers), not the first movers.

What the successful ones have in common is superb business execution – rarely patent-protectable business concepts.

Oracle’s wasn’t the first relational database. Facebook wasn’t the first social media site.  Michael Dell’s wasn’t the first PC company.  Nor iTunes the first source of MP3 music, nor Sam Adams the first craft beer, nor Foursquare the first location-based mobile couponing service, nor Prius the first fuel-efficient car. 

Yet all ended up entering and dominating their respective markets through flawless business execution.

So what does this mean for us as entrepreneurs?  Go ahead and pitch your idea!  Don’t worry about somebody stealing it.  Your business concept isn’t what’s going to differentiate you from your competitors.  What’s going to differentiate you – what’s going to spell success for you – is your ability to build a high-performing team, set and meet goals, and build lasting customer relationships. 

Somebody stealing your new-business concept ought to be the last thing on your mind.  Get out there and pitch your idea with the evangelical passion you feel — it’s that passion for what you’re doing that will attract customers, partners, employees, and capital.

Launch of Roomations.com gives DIY homeowners online tools to design, visualize, buy materials and project-manage room makeovers October 23, 2010

Posted by Jim Price in Business, Entrepreneurship.
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Check out the newly-launched www.Roomations.com.  It’s an incredibly cool new web service that enables homeowners to plan and visualize their makeover for a given room — whether that be a half-bath, kid’s bedroom, living room, or a major kitchen project.  As you interactively envision your room makeover, the site intelligently creates a recommended bill-of-materials — an online shopping list of everything you’ll need from paint, drop cloths and rollers to hardwood flooring to cabinets to tools and fasteners — that you can conveniently add to your shopping cart and order for your project.

And, Roomations allows you to photorealistically visualize in advance, from multiple perspectives, how your “made-over” room will appear with the shelves or cabinets and windows where you plan to install them, with the paint or wallpaper color scheme you’ve selected, with the flooring options you’ve chosen, and so on.

The site’s creators, first-time entrepreneurs Katie Miller, Jessica Goldberg and Lakshmi Bhargave, developed a preliminary business plan for the concept in my New Venture Creation class when they were MBA students at Michigan’s Ross School of Business.  Katie, an architect by training,  came to the table with the original vision of making design and architecture more accessible to the average person.  This initial manifestation of Roomations.com genuinely delivers on that vision.

UM’s TechArb incubator graduates 10 new startups October 22, 2010

Posted by Jim Price in Business, Entrepreneurship.
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I attended the graduation ceremony for one of the University of Michigan’s new-business incubators, TechArb, yesterday.  TechArb was started last year by the UM College of Engineering’s Center for Entrepreneurship (CFE) and is cosponsored and supported by the Ross School of Business’s Zell-Lurie Institute for Entrepreneurial Studies (where I teach and serve on the executive board).

The first “graduating class” was a truly impressive, and incredibly diverse, group of ten startups, all founded and led by undergrad or grad students at UM.  These range from a company that’s got a great next-gen twist on the class ring, to a group that’s interpreting remote-sensing data for farm management, to a collision-avoidance-on-a-chip venture, to a very clever online baby-clothing play. 

I’ll circle back in future posts with more on some of these startups.

BBC Trains Entrepreneurs on Federal Grant Process October 14, 2010

Posted by Jim Price in Business, Entrepreneurship.
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Last month I had a series of posts on SBIR (Small Business Innovation Research) grants and the benefits they offered to startups.   In one of my posts, I mentioned the consulting firm BBC (http://www.bbcetc.com/) as a treasure here in the Great Lakes Region for the work they do training entrepreneurs and startup teams on how to navigate the federal grant world.

Here’s an informative article about BBC by Dustin Walsh in the latest Crain’s Detroit Business:  http://www.crainsdetroit.com/article/20101010/FREE/310109999/bbc-takes-techies-to-school-early-stage-firms-get-help-securing

As an entrepreneur, when do I retain a lawyer and how do I find a good one? October 13, 2010

Posted by Jim Price in Business, Entrepreneurship.
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One of the most common missteps I see entrepreneurs make is to undervalue the contribution of attorneys.  Here’s the thing: entrepreneurs are natively cheap people who are always looking for ways to cut corners, save a dime and speed things up;  meanwhile,  they automatically assume lawyers are expensive, and that legal fees are something to be postponed and avoided.  Big mistake.    

It’s important to seek out an attorney when you’re ready to launch your startup business, but before you’ve legally formed the entity, distributed equity, or established complex contractual or legal relationships with others.  A good attorney can make sure you do those things correctly, and don’t make mistakes that will be expensive or painful to unwind later.

If you have already launched the business and set other legal details in place, it’s never too late to bring in an attorney and ask her to review the existing structure and contractual arrangements, and provide advice as to where things might be strengthened from a legal protection perspective. 

How to I find the right attorney?

When I launched my first business from scratch, I sought out coaching from veteran entrepreneurs.  One of the best nuggets of advice I received was from Steven Walske, the CEO who took PTC public and to several billion dollars in market cap.  Steve advised me to only retain service providers – such as law firms, accounting firms, ad agencies and the like – for whom my tiny startup would be their most important client; to seek out small, talented, hungry firms and avoid the big brand-names for whom my account would never amount to a hill of beans.

It’s not that an attorney from a big firm might not be a good fit.  But remember that you are retaining an individual attorney, not an entire law firm.  Beware of the fancy-reputation firm who may have a senior partner schmooze you – or just dazzle you on their website – noting that they helped these startups raise tens of millions, or guided those startups through successful liquidity events.  Understand that, once you’ve retained them, the partner almost always disappears, and you’ll be assigned an associate one to four years out of law school who’s got an unreasonably high billing rate, is working 80-hour weeks, and is under immense pressure from the firm to bill your account for 1/10th of an hour possible.

The attorney you retain should not only be focused in business law, but should be an individual with extensive practice experience with startups

In the ideal, she or he should have experience with startups in your particular industry – whether that be high fashion, consumer mobile apps, commodity import/export, online retail, specialty chemicals, B2B software, or alternative energy technology.

Personal references are very important, so ask people in your local startup community whom they would recommend and why.  When you contact attorneys to screen them by phone, ask them to name and describe other representative current and past startup company clients, and to describe the work they do for those clients.  I insist on meeting and interviewing an attorney face-to-face before retaining him or her; and I make clear that, as long as I’m not asking for legal advice during that, say, 20-30 minute interview, I don’t expect to be billed for the lawyer’s time.  The purpose of the meeting is to decide whether they and their firm are a good fit for our startup company.  If I’m conducting similar face-to-face interviews with more than one attorney or firm, I’m up-front with that information, and clear about the nature and timing of my company’s decision-making process regarding retaining an attorney.  During these exchanges, tell the lawyer your story; if she/he seems disinterested in listening to your story, that’s a clear red flag that this person would be poor fit for your startup business.

It’s helpful to have your attorney be located in the local geographic area, and that’s my strong preference.  But in this age of excellent communications technology, it’s reasonable to trade off remote location in order to get a lawyer who is deeply experienced with your startup domain.

[As with my previous post on entrepreneurs and lawyers, I want to acknowledge the contributions of Jim Schriemer, Partner at Conlin, McKenney and Philbrick, a first-rate, deeply-experienced startup business attorney with whom I’ve worked on a number of entrepreneurial situations.  He can be reached at www.cmplaw.com, or schriemer@cmplaw.com  734-761-9000]

When I launch my startup business, what type of legal entity should I form? October 12, 2010

Posted by Jim Price in Business, Entrepreneurship.
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In the U.S., you have several different options, and ultimately, I strongly advise business people to seek a lawyer’s advice.   [We had a savvy, broadly-experienced startup attorney visiting my MBA class recently, Jim Schriemer, a partner at Conlin, McKenney and Philbrick, schriemer@cmplaw.com  734-761-9000.]   But with that caveat, here’s an overview of the primary legal organization alternatives as I understand them: 

  1. C  Corporation Named after Subchapter C of the U.S. Internal Revenue Code, C corporations are the corporations with which the general public is most familiar:  most publicly-traded companies, for instance, are C corporations.  C corp.’s are taxable entities, subjecting the business’s profits to so-called double-taxation – that is, profits are first taxed at the corporation level, and subsequently any distribution of dividends is taxed a second time at the individual shareholder level.  The C corp. has become the standard organizational form, however, for businesses with many shareholders or multiple classes of shareholders; this is because the C corp. offers significant capital structure flexibility, and the body of law around corporations is very well-developed and well-understood.
  2. S  Corporation Named after Subchapter S of the U.S. Internal Revenue Code, S corporations are tax pass-through entities designed specifically to accommodate small businesses.  As “mini corporations,” S corp.’s are subject to many of the constraints binding C corp.’s.  For instance, they require a complete set of corporate bylaws, a full set of corporate officers, annual meetings of shareholders, annual reports and so on.
  3. Sole Proprietorship Legally, any individual can begin conducting business tomorrow as an individual as a sole proprietor – say, as an accountant or house painter.  As the name suggests, the sole proprietorship form of business is limited to a single individual, and the business’s financials are intermixed with the individual’s on her or his tax filings.  This legal form offers the business person no liability protection.  
  4. Limited Liability Company (LLC) –  A relatively new form of business legal entity created in the past twenty years, the limited liability company, or LLC, blends some of the more desirable traits of older legal organization forms but without the associated downsides.  For instance, as with an S corporation, the LLC is a tax pass-through entity; but unlike an S corp., the LLC frees the entrepreneurs from the constraints of a limited number of owners, a slate of officers, a board of directors, annual meetings, etc.  Conversely, the LLC form of legal organization offers entrepreneurs the flexibility of structure of a partnership, but with the liability shield of a corporation.
  5. PartnershipFor entities other than professional service organizations such as law firms and accounting firms – i.e., for most businesses – the partnership form of organization has been displaced by the limited liability company, since the LLC offers essentially all the advantages of the partnership form (flow-through taxation and flexibility of charter) plus the crucial added advantage of limited liability for the owners.   

As I noted above, most public companies are C corporations.  In addition, professional investors in early-stage private companies (venture capitalists) nearly always require that a privately-held startup company be in a C corp. form of organization before they will invest.  One reason is that they do not want losses to flow through to their books, since they would then have to, in turn, have those losses flow through pro rata to the taxes of their limited partner investors – something that most institutional investors such as pension funds, university endowments and insurance companies consider undesirable.

An additional reason that VCs prefer their portfolio companies be C corp.’s is that the form allows for a flexible capital structure, including multiple classes of stock.  VCs who are making a new venture capital investment in a startup company will almost always require that their stock be a new class of preferred stock that carries with it certain rights (such as liquidity preferences, approval rights over certain company actions, a certain number of board seats, etc.).

Even given the preference of venture capitalists for the C corporation form, entrepreneurs increasingly tend to launch their startup companies as LLCs (limited liability companies)

Why?  For several compelling reasons in my mind, as follows:

First of all, the vast majority of startups do not raise money from venture capital firms.  Even startups that eventually raise money from VCs almost always get off the ground at first with funding from founders, friends and family, or perhaps from a few angel investors.  Even if you think you might entertain raising capital from VCs later on, it’s very easy and inexpensive to convert an LLC to a C corp. at that juncture.  (Conversely, it’s very difficult and expensive to convert a company the other way, from corporation to LLC.)

Secondly, the LLC form of organization provides early-stage companies “the best of both worlds” as follows.  On the one hand, LLCs offer owners the limited liability associated with a corporation form – that is, owners are shielded from legal liability.  And on the other hand, LLCs offer owners significant advantages of the partnership form of organization, namely flow-through taxation. 

Here’s the beauty of flow-through taxation:  In the early stages of the business, when you experience losses, the owner/founders can personally benefit by passing those losses through to your personal income taxes.  Then, later on when the company is turning a profit, those profits are only taxed once; unlike in a C corporation – where profits are taxed at the corporate level, and then any dividends distributed to shareholders are taxed a second time as individual income – in an LLC, profits flow through to the individual owners and are only taxed once.

And thirdly, entrepreneurs appreciate the significantly greater flexibility of charter that the LLC offers over that of the Corporation form.  Whereas a corporation is required to name officers and board of directors, hold board meetings and shareholder meetings, pass board and shareholder resolutions, keep minute books, etc., the equivalent requirements imposed on an LLC are an order of magnitude simpler, dramatically less arcane and significantly more flexible.

Looking at the other side of the coin, the disadvantages associated with initially forming your startup business as a C corporation are clear:

  • Any losses remain on the company’s income statement, and offer no tax-loss benefit to the individual owner/shareholders.
  • Double taxation:  Any profits are taxed at the company level and a second time at the individual level if the company chooses to issue dividends.
  • If you initially form as a C corporation and later wish to convert to an LLC, such a conversion is quite complicated and expensive.

Are there circumstances under which it does make sense to legally form your startup as a C corporation from the very beginning?  Yes:

If you believe that you are going to raise venture capital immediately, you might as well launch your startup as a C corp. right away.  Again, VCs usually insist on the C corp. form for the companies in which they invest, due to the flexibility of capital structure.  In fact, if you suspect that one or more of your VCs may be from outside the state in which you are located, you may wish to consider organizing (filing) your C Corporation in the State of Delaware, since Delaware is the “legal gold standard” body of corporate law of which attorneys from all fifty states are familiar.

Kurt Skifstad Shines a Maglite on Startup Truths October 11, 2010

Posted by Jim Price in Business, Entrepreneurship.
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We had serial entrepreneur and old friend Kurt Skifstad visit my “New Venture Creation” MBA class at Ross the other day.  I cherish these types of interactions, because, as I find is so often the case, the more accomplished the entrepreneur, the more humble and insightful the individual.

Here are some observations from Kurt’s visit that I thought I’d share with everyone:

  • What do you look for in a new-business startup opportunity?
    • Space – Is the market/technology/solution space one that inspires me, and that I can be truly passionate about?  He notes that this is crucial for entrepreneurs, particularly when the going gets tough, which it will.
    • Market – (a) Is the market big enough to support your startup and a few competitors?  (b) Are there competitors already in the market?  If so, that’s a good thing, because then other companies will be spending their money developing the market.
    • People – Can I build a core team of motivated people whose skills are complementary to my own? 
  • The customer is always right, even when they’re wrong.
    • As entrepreneurs, we are agents of change. 
    • And we inevitably learn more about a particular market space than our customers, and feel that it’s appropriate for us to explain to our target customers what’s best for them and how they should behave.
    • But what we think doesn’t matter.
    • The only thing that matters is what customers say – even if we, as entrepreneurs, think they’re dead wrong.
  • Sometimes you need to ignore market research.
    • Some of the best, most successful entrepreneurs do not believe in market research, because they think customers will give them advice about what’s currently being done now and over the past few months and years, and at best what’s the current art-of-the-possible.  A good example is Steve Jobs at Apple.  He considers market research akin to navigating through the rear-view mirror. 
  • The process of creating the business plan is more important than what the plan ultimately says. 
    • When asked what he considered the most important element of a business plan, Kurt didn’t skip a beat, replying, “The process of creating it.”  Kurt noted that, while the specific path laid out in the final document will, in all likelihood, be obsolete soon after the business plan is published, he considers the process of bringing together the thinking of the entrepreneurial team to be invaluable. 
    • He cites Eisenhower’s comment about preparing for battle, noting how it applies really well for us entrepreneurs: “I have always found that plans are useless but planning is indispensable.”

 

  • People-related issues are likely to dominate your time and attention. 
    • The most difficult challenges in his startup career have involved what he calls “wet engineering,” or people-related issues.  Not product development, not fundraising, not strategy, not market-entry, but people.
  • Practice open-book management. 
    • Kurt has always worked primarily with well-educated knowledge workers, so he admits that it’d be a different kettle of fish with a blue-collar, hourly workforce.  But, whereas he started out his career assuming that, as president/CEO he shouldn’t divulge scary or bad news to the line staff – for example, that if we don’t close these two sales, we’ll run out of cash in 3 months… or that if we don’t close a follow-on round of financing by March…. – he discovered that it was much better to share full company-status information – both the good and the bad – with all employees.  He found that it not only made his people feel more empowered.  He also found out the hard way that if you didn’t share looming bad news with the rank-and-file team, that they would fill in the vacuum with rumors that were often 10 times worse than the actual truth.
  • If you think your startup’s not working, how do you know when to pull the plug?
    • Walking away from your own startup, and admitting that it’s simply not going to work, is likely to be a much more emotional process than, say, working up the nerve to quit a regular job and making a career change.
    • An emotional reality-check:  Are you still happy?  Kurt cited an instance in his life when, 3 years into one of his startups, his then 9-year-old daughter asked him one night, “Daddy, why don’t you ever smile when you talk about work anymore?”  It was a wakeup call for him, and within two weeks, he’d worked out a separation agreement with his colleagues and left the company.
    • A factual reality check:  Have the facts on the ground changed in a way that will make it difficult for your startup to succeed?  With another of Kurt’s startups, things were going exactly according to plan, except that the plan was based on selling their best-in-class technology solution to venture-backed startups, and those startups, in 2008 or so, were all losing their funding.  Kurt and his partner had the discipline to recognize that fact and walk away from the sunk costs of the time, money and emotion they’d invested in their baby ( something that’s very hard to do, but believe me, was the right thing to do under the circumstances).
  • Kurt recommends the blog of serial entrepreneur and Berkeley adjunct prof. Steve Blank (http://steveblank.com/) – great stuff!  Blank’s philosophies include insights such as:
    • Fast-followers are consistently more successful than first-movers, and why
    • The ethos of constant product iteration with customers – an endless loop of: Propose/Validate/Refine     (What I refer to as an entrepreneur’s rapid iterative loop of:  Do It/Try It/Fix It)

Thanks, Kurt – We’ll be interested to see where you end up focusing your energies for your next startup adventure!