Robert Ochtel’s Blog

An Experienced Approach to Venture Funding

Burgeoning Markets –An “Uncontrollable” Risk for Start Up Companies and Investors

There are many different types of risks that entrepreneurs face when starting their companies. This can include technology risk, product development risk, market channel penetration risk, staffing risk and others. Many of these risk factors can be “controlled” by investors, in the short term, by investing more money and/or by adding more resources to mitigate these risks. The risk factor that is out of investors’ control and often causes a start-up company to fail is market risk. Market risk, as defined here, is multifaceted, and is a result of the targeted burgeoning market not developing in the anticipated time frame to support the product demand required by the start-up company. This often results bad news for both the start-up company and its investors.

Emerging “Bleeding-Edge” Burgeoning Markets Take Time to Develop
Often, in order to differentiate themselves from large, established competitors, start-up companies believe that they should address emerging markets with “bleeding-edge” technology. More often than not, this “bleeding-edge technology” strategy comes with a large amount of risk. The most important risk factor here is that the underlying, emerging market that supports this “bleeding-edge technology” does not develop in a predictable, near-term time frame. In this situation, the technology pundits always claim that their targeted market or market segment will “take off” within the next year, providing their company with a substantial return on investment in a very short period of time. This optimistic view of the world, usually does not consider the time it takes to roll-out new technology infrastructure or to establish this same new technology with the target customer base. More often than not, this one-year time frame turns out to be five to seven years or more. This makes it virtually impossible for a small, venture-funded company to finance the multiple generations of product development that are required before their burgeoning target market supports the shipment of significant enough volume to make their business model self-sustaining. This often makes this burgeoning market strategy more of a “hope” than a “reality” for the start-up company and its investors.

First Generation “Bleeding-Edge” Technology – Not Be Ready for Prime Time
Many times the first generation of a new “bleeding-edge” technology is not ready for prime time, as it does not meet the expectations of the target customer base. This will also result in substantial delays in market demand for the start-up’s technology, product or service offering. This again can delay any substantial revenue flow for several years.

As an example of this, in the early 1990’s when cellular phone technology was transitioning from analog technology to digital technology, all of the pundits claimed, that due to the benefits of digital technology — higher capacity and better voice quality, the transition would be immediate. As it turned out, the new digital technology made a person’s voice virtually unrecognizable to other callers. This resulted in many digital phone users turning in their phones for their old analog versions. From the users’ point of view, a little background noise was more tolerable than that of the “bad” voice quality of the digital cellular handset. In addition, given the time requirement to roll out the digital infrastructure, to get ubiquitous digital coverage, individuals did not see any real immediate value to the new digital technology.

Therefore, when developing and then deploying new technologies targeting burgeoning markets, often second generation and sometimes third generation technologies need to be developed to meet the consumers’ expectations. This, again, requires additional investment from the venture capitalists and delays any potential for revenue generation for the start-up company.

Burgeoning Markets – Often Result in More Losers Than Winners
Very often new burgeoning markets and their associated technologies attract a lot of investment monies from the venture capitalists. The result is often a “heard” mentality among these same investors to get in these targeted burgeoning markets at all costs, and be a part of these new “homerun” market opportunities. This, more often than not, results in too many new start-up companies chasing the same burgeoning markets. Where are there are often six to eight start-up companies looking to secure a successful market position in an early stage market, the truth is that only one to two will ultimately be successful. This again, results in higher risk for both the start-up company and the investors. In the end, there will be more losers than winners.

Required Investment May not Bode Well for the Start-up or the Investors
As a result of targeting these burgeoning markets, in many cases, these same start-up-companies often secure a tremendous amount of funding (e.g., $50M to $100M) and then as some point cannot secure additional funding from third-party investors. In this situation, the amount of funding secured significantly outweighs any financial value of the company or its technology, product, or service offering, requiring its investors to sell it to the first large company that will pay pennies on the dollar just to get out of the investment.

This scenario is not unusual. In fact, it has been my experience that within the high-technology wireless markets, this has happened to many start-up companies in the digital cellular, Bluetooth, the wireless LAN (WiFi) and WiMAX markets. For all of these markets, the pundits had projected substantial immediate growth in short periods of time, only to have the markets develop over much longer periods of time, causing many of the early, venture-funded start-up companies that targeted these markets to go out of business or to be sold to larger competitors for an insignificant valuation for the company and their investors.

Market Risk – Must be Thoroughly Evaluated by both Start-ups and Investors
The above does not to imply that there are not many cases where venture-funded, start-up companies, developing “bleeding-edge” technologies for burgeoning markets, do not secure significant returns for their investors. In fact, in the high-technology boom of the late 1990s, many large semiconductor companies were purchasing small start-ups to hedge their bets on some of the emerging wireless markets. At the time, many of these small companies were being purchased at valuations between $200M to $400M. These unheard of valuations, although good for the start-up companies and their investors, rarely made significant returns for the acquiring company, which often shut down these operations within one to two years after their purchase.

The accompanying lesson here is that the “market risk” associated with targeting a new burgeoning market is NOT a “controllable” risk. In fact, as outlined, the associated risk from targeting these emerging markets is multifaceted and many times results in significantly higher investment requirements and long delays in anticipated revenue streams. Therefore, both investors and start-up companies must thoroughly evaluate these risks before targeting a burgeoning market as their primary revenue generation opportunity.

The information outlined in this article comes from my new book entitled “Business Planning, Business Plans and Venture Funding – A Definitive Reference Guide for Start-up companies.” Signed copies of this book are available at http://www.carlsbadpublishing.com. The book is also avaiable at Amazon.com. Robert also provides business planning, and venture funding consulting services to start-up, small and mid-sized companies.

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March 16, 2009 - Posted by | Business Planning, Target Markets, Venture Capital

4 Comments »

  1. Robert’s blogs have become my required reading! I’ve made several startup CEO’s aware of his insightful comments. I also highly recommend his book, “Business Planning, Business Plans, and Venture Funding. A Definitive Reference Guide for Start-up Companies”. This book is a step by step guide for business planning and for approaching funding sources. I’m inspired to revive a business idea I’d shelved! This book is a must read for anyone interested in starting a business and who will require investment funds to grow the enterprise. Thanks Robert!

    Comment by leonardscales | March 23, 2009 | Reply

  2. Robert has been insightful again, with fundamental information for Start ups and risk takers in general. I have started 14 companies in the last 30+ years. As with most things in life, seldom do they progress, develop, grow or exist the way we had originally intended-sometimes disasterously and some gently.

    Congratulations

    Comment by Craig McCord | March 31, 2009 | Reply

  3. Great site this rochtel.wordpress.com and I am really pleased to see you have what I am actually looking for here and this this post is exactly what I am interested in. I shall be pleased to become a regular visitor 🙂

    Comment by Antenosteteop | April 5, 2009 | Reply

  4. formidable site this rochtel.wordpress.com excellent to see you have what I am actually looking for here and this this post is exactly what I am interested in. I shall be pleased to become a regular visitor 🙂

    Comment by Encocaw | April 10, 2009 | Reply


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