Segmentation and execution matter

My favorite meeting place here in Silicon Valley is any place named “Panera”: the food is fresh (if overpriced), the atmosphere is bright and cheerful, and — most importantly — the Wi-Fi is free.

Even now that Wi-Fi is free at Starbucks, I prefer Panera because they are less cramped and they have things that I actually want to buy to rent the table. There are three I use regularly near my home, in addition to several in San Diego and one in Santa Monica. I was at one last night and will be at a different one tomorrow morning.

Ron Shaich, founder of Panera, was interviewed this morning in the WSJ about how the created Panera and its predecessor, Au Bon Pain. He bootstrapped his first bakery chain, then merged it with a struggling supplier called Au Bon Pain. The merged company IPO'd in 1991.

To have something that was more suitable for suburbia he then acquired a small sandwich chain and renamed it Panera. To pay for the growth, he sold off Au Bon Pain.
So with his Harvard MBA, Shaich turned around and grew two existing concepts through superior execution. Although the competencies were similar, he found it essential to keep the two organizations (and concepts) distinct:

Q. After Au Bon Pain went public in 1991, you decided the company needed a new focus. How come?

A. The very thing that had made Au Bon Pain a success was limiting it. We could go to Rockefeller Center or World Trade Center and offer real food to people that could be served quickly, like turkey with smoked brie. It did extraordinarily well in high-density markets, but it wasn't mass-market.
…
Q. Why did customers like Panera?

A. We changed the environment [of fast dining] away from formica chairs bolted to the floor. And we changed the bread itself. We make fresh dough, every night. We have thousands of bakers. Those details really matter.

Chronic (aka serial) entrepreneurs seem to bore of old challenges and be always chasing the next big thing. But in this case, Shaich shows the importance of keeping the two businesses distinct, and not trying to achieve synergy (or brand extension) by blurring the lines.

Also, in Silicon Valley we tend to think of entrepreneurial advantage in terms of superior technology, IP or other formal entry barriers. In this case, both the Au Bon Pain and Panera concepts were something anyone could have had — the vision is much more incremental than Ray Kroc or Harland Sanders.

The success of Panera Bread Company (PNRA) was a function of willingness to bet on the vision, the ability to execute it consistently — and the ability to generate (or acquire) the capital necessary for expansion. As technology-based industries become more mature and more crowded, these previously underestimated success factors are increasingly important.

Tradeshow tribulations

Perversely, as an entrepreneur one of my favorite parts of the year was going to trade shows. They were a lot of work, the prices and labor restrictions were ridiculous, but it was the one time a year when we could interact with the rest of the world and show our stuff.

This morning, USA Today has a great article on Scott Friedman and his experience at the Consumer Electronics Show last week in Las Vegas. Apparently, Scott was the only one in the building not selling a tablet.

Instead, the CEO of SoulR Products in Southern California was peddling a $80 high-fidelity portable iPod speaker, the "WOWee One.”

What I found particularly interesting is that the article runs through the budget for the company and its product. The company has $200k of founder money and $300k of outside money.

Perhaps more relevant to aspiring entrepreneurs everywhere is the CES budget

• $23k for the 20x30 booth
• $27k for booth construction
• $5k for a consultant
• $20k for other expenses — furnishings, photographer, hiring booth bimbos

This is probably 10x our budget for our last booth in 1993, but that was only a 10x10 at MacWorld Expo San Francisco (back when that was the must-see event.)

I think the article fills in a useful gap for new entrepreneurs, in making concrete the process of using a trade show to promote a new product. Columnist Jefferson Graham deserves kudos for his efforts.

Cleantech entrepreneurs: life without VC?

Cross-posted to Cleantech Business.

Statistics released Friday by the Cleantech Group say that “cleantech” VC investments in 2010 hit a record $7.8 billion, up 28% from the $6.1 billion in 2009 for North America, Europe and Chindia. The N.A. data was even more impressive, up 45% to $5.28 billion. Worldwide, solar continued to account for the largest share of the investments, up 52% from 2009 to $1.83 billion.

Although this sounds encouraging, Iris Kuo of VentureBeat had a different take. First, cleantech VC investment has been declining for the past two quarters. Instead, the capital-intensive have been going to government sources, including BrightSource, Solyndra and Tesla.

However, analysts are just beginning to realize that cleantech businesses may be fundamentally unsuitable for VC investment. A series of clues have emerged in the past 6 months.

Exhibit A was the whole debate started by VC Fred Wilson and his “two venture capital industries” thesis:

The first VC industry is investing in software based businesses. The software VC business has been fundamentally altered by the massive decrease in the cost of building and launching a software based business.…

The second VC industry is investing in cleantech, biotech and other capital intensive tech businesses that have economic models that have not been fundamentally altered. This VC industry operates largely the same way it has operated for the past twenty or thirty years.

The statistics were supported by TechCrunch data from the first 8 months of 2010: an average of $5m for web/ecommerce vs. $31m for cleantech.

Exhibit B was the decision of Kleiner Perkins to pull back from cleantech investing and go back to its roots in IT. Of all the major Silicon Valley VCs, KPCB had made the most aggressive bet on cleantech — particularly green energy. This is the firm that in 2007 made a partner out of a former presidential candidate and Nobel Prize winner.

Exhibit C are the observations of one of the most respected IT industry executives, analysts, inventor and entrepreneurs: Bob Metcalfe (MIT ’69), inventor of Ethernet and founder of 3Com. Having finished a decade as a venture general partner, last month Metcalfe said that the VC model (so far) does not fit cleantech:

Q: What did you learn from your investing in clean-tech, or as you call it, enertech?

A: I’m still in the process of learning – this is complicated stuff. But I learned that the innovation environment in the energy space is not there yet. The problems we see are a mismatch between the asset class called venture capital and the innovation opportunities in energy – it takes too much capital and it takes too much time. But I claim that’s only because the innovation environment in energy hasn’t developed, say, the way it has in pharma. Drugs take a lot of money and a long time, but there’s a lot of venture capital activity in drug discovery. That’s because the drug-discovery business has grown into being able to exploit the venture capital model. The partnerships that big pharma has with drug companies in stage one, stage two, stage three [clinical trials] allow venture capitalists to do what they do and get the returns that they need. The energy space has not quite developed, but it will.

This entire debate was anticipated by Prof. Martin Kenney of UC Davis, the editor of Understanding Silicon Valley — perhaps the leading academic expert on Silicon Valley and a longtime expert on hightech VC.

In July 2009, Kenney wrote a book chapter entitled “Venture Capital Investment in the Greentech Industries: A Provocative Essay” that will be published in the Handbook of Research on Energy Entrepreneurship. He notes a number of warning signs:

1. investors have been pouring money into green energy without being able to get it back from IPOs;
2. market growth may be slow, since “clean” technologies are competing with established (and cheaper or better) incumbents;
3. the cleantech bubble investing bubble parallels the Internet bubble;
4. thus far, the most successful cleantech businesses have been self-funded: either bootstrapped (e.g. Danish wind turbines) or internal green ventures from existing multinationals like Siemens and Sanyo.

Kenney tries to offer a positive scenario, suggesting that VCs could learn and adapt like they have in biotech. However, in the past 18 months have been signs that biotech VC may be facing similar problems (if the returns to pharma R&D are becoming less certain).

While the scale of investment in energy is enormous, the VCs have various reasons to actually favor larger deals (and often pension funds throwing money at them to invest). While VC worked great during the 1990s with relatively small investments followed by quick exits via IPO or acquisition, but both are much harder in renewable energy.

The first problem is the time scale. If (as Zider’s 1998 classic HBR article suggests) VCs seek a 10x liquidity event after 5 years (to cover their losers), then doubling the delay to 10 years cuts the IRR by more than half (and the NPV even more than that). For a 10 year exit — and ignoring the increased risk of failure — the same IRR would require a 100x return.

The other problem is that the size of the investment reduces (if not eliminates) the opportunity to exit via acquisition. A 10x return via acquisition was common for $50m dot-com investments, but such exits are going to be much rarer with $500m invested; a 100x return is going to be out of the question.

If VC can’t find a way to make money off cleantech investments, then cleantech entrepreneurs are going to have a hard time bringing their businesses to scale. Without VC, new businesses will have a hard time competing with self-funded multinational incumbents — or government-funded enterprises in large centrally-planned economies.