TechLahore

How low will it go? The trend's pretty clear.

So let’s continue where we left off a few days ago. If you need to catch up with the first part of this article, simply click here. For those of you who are up to speed, let’s charge forth.

We’ve already looked at how the diminishing importance of large amounts of capital have made VC less necessary. Let’s take a look at the other reasons we listed (2-5), namely:

2. Guerrilla marketing is about as effective as massive traditional ad spend.

3. A successful software company doesn’t necessarily equate to 100X or 1000X returns.

4. IT is now a fact of life.

5. Traditional channels of distribution are out of the picture.

When Apple Computer wanted to make a big splash back in the early ’80s, they had to pay for a super bowl ad. As iconic as it was, it was also very expensive. Without print advertising or heavy duty radio/tv ads, there was really no way to get your word out to the world. You either already had to be pretty successful, or well funded, to put up the kind of cash these campaigns required. Today, it’s quite different. Some of the biggest Web 2 successes have been built on $0 ad budgets. It’s all about incredibly rapid word of mouth references translating to immediate action; whether it’s visiting a website, or clicking on an e-coupon. The context sensitive nature of online advertising combined with the consumer’s immediate ability to act really distinguishes it from old media ads. And, it doesn’t have to be expensive. A direct email campaign costs very little, even if you have to purchase a list. Answering people’s questions on forums and pointing them to your solution when it legitimately fits the bill is effective. Twittering, Facebooking, Myspacing and Orkuting are too. SEO doesn’t cost money. Just knowledge. There are so many ways to get people to notice you and even more to have them convert their interest into rapid, in-context purchase actions that benefit your top line. In many ways, low-cost guerrilla strategies like these actually work better than traditional marketing, and so whether you are a richly funded VC darling, or a barenuckled bootstrapper, the playing field is almost leveled.

It’s always hard to build a business from scratch and make money off it. Will the idea work? Will your team be able to execute? Will the product satisfy your customers? Will the customers be willing to pay you what you need? There’s so many questions, always. When you add VC to this mix, you essentially end up with a hugely aggressive set of expectations. Not only does your idea now need to work, it needs to generate $40M in revenues in 3 years. Your app needs to be downloaded and used by 5 million people in 24 months. And on and on. Bottom line, you need to succeed and success if defined as 100X’ing the VCs initial investment. They’re not all that patient, so it has to be done in 3-4 years. And by the way, if you falter along the way be prepared to have bean counters with no operational experience (i.e. the typical VC) breathing down your neck. This all sounds pretty unreasonable, so why do VCs go down this road with you? Why do they create such massive expectations which actually make it harder for you to achieve some sort of reasonable, moderate level of success (still wild wild success for an entrepreneur uninvolved with venture capital)? Well, the answer is simple and no mystery. Since VCs are essentially one notch above gamblers, they  bet on 10 or 12 companies and expect one to work. The one that works has to foot the bill for the failures of the other 11, and then provide returns that multiply the *entire* amount invested in all 12 companies!

So, to summarize, if you can build a software business on your own due to the diminished capital requirements, why would you ruin your chances of personal success by raising venture capital? Most of you wouldn’t and shouldn’t. And now most of you are figuring that out.

Crazy venture expectations have been fulfilled in the past. Back in 1998 you could have been an HTML programmer with basic Perl scripting skills, quickly put together some kind of e-commerce search engine doohickey or somesuch, spread the word around, appear appropriately dishevelled, pitch to a VC and get tons of money. You could then turn around and sell your business to a big company for many times your series A valuation. Now, since I was running a venture funded software company in 1998, I have to say, I am exaggerating. But only to a degree. Probabilistically, your odds, given the description above, were pretty high. Venture Capitalists, of course, saw this. They saw so many routes to an exit with huge multiples. What was driving all the craziness was the excitement around IT. The Internet was new, it was going to change the world, everybody on the planet would do everything on the web blah blah blah. Rationality had been chucked out the window. Excitement around IT drove high expectations, which in turn drove unsupportably high valuations, which in turn attracted even more VCs to the game. Well that’s all changed now. Today, there are more IT products in a given cubic meter than molecules of oxygen. $1000 PC ASPs are being swapped out for $250 netbook MSRPs. Software is increasingly free. Programming tools are almost all free. Infrastructure components – OS, Database, App Server – are all free. The intrinsic financial value of a new product is thus very hard to defend. Yet-another-coupon-website is no longer exciting. No oomph. No oompa loompa dance. You get the drift. Of course, *I* am more excited about IT than ever before, as most people that truly understand what’s going on with technology would be. But your average VC isn’t to be counted amongst the enlightened. He reads, “Wired”, “The Deal” and “Venture Wire” and gets his clues on the future of the world by perusing these learned journals. And that’s pretty much that.

Finally, for a company to be successful it has always had to do a good job figuring out how it is going to deliver its product to market. Direct, like the erstwhile Dell model? Through resellers like most technology companies have always done. Via OEM? Frankly, for a brand new startup, Direct is the ONLY option, in 99.9% of cases. You, as the founder(s) are going out pitching your product in the hopes someone will bite. Even if it’s to your first OEM. But now, the costs associated with reaching a large buying audience directly have gone down drastically. You can cast a winder net, more quickly, than ever before. And once some of them respond, you can inexpensively track their queries through open source CRM systems, quickly reply to them with automated e-mail responders, ship them your product digitally and put them in the queue for a follow-up 30 days after their download. All automatically. That’s new. That was hard to do before the days of Sugar CRM and Zoho etc.

So there we have it. Information Technology Venture Capital is dead, for all practical purposes. And it won’t come back until there’s something fundamentally new and exciting that can justify ridiculous valuations once more. In the meanwhile, this is good news for entrepreneurs. Instead of focusing on how to please the VC and fulfill crazy expectations, you can focus on building products that people want, for which they are willing to pay you good money. Build a company and sell it for $5M in 3 years. If you own all or 50% of it, you’ve just done better for yourself than you would with a moderately successful VC funded deal. So stop reading this now… and go build something!