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This series of posts starts off with a short quiz for the startup CEO:

Q: Who’s responsible for developing your product?
A: That’s easy—Engineering!

Q: Who in your company is responsible for selling your product?
A: That’s easy, too—Sales!

Q: Who in your company has primary responsibility for:

• Mapping and networking your ecosystem?
• Building long-term relationships and driving deals with strategic partners?
• Identifying, evaluating and executing acquisitions?
• Developing and executing your strategy to go global?
• Working with you to tackle major strategic opportunities, including existential crises?

A: In many startups, the answer to this one is, “That’s no one’s job yet.”  What’s your answer?

Seizing the transformational opportunity

Given the all-consuming nature of a startup, it’s natural to be focused on your own company first, then on customers and competitors.  What’s often under-appreciated is the importance of expanding that focus to cover the other large and small companies around you.

Over the lifetime of any company, there is a handful of potential deals that could dramatically transform the outcome:

• It could be a high-impact distribution relationship, like Zynga’s company-making relationship with Facebook.
• It could be a transformational acquisition, like BEA’s home-run 1998 purchase of Weblogic.
• It could be a deal that saves you in an existential crisis, like the Loudcloud-EDS deal I’ll describe below.
• Ultimately, it could be a billion-and-a-half dollar exit, like the Opsware sale to HP that I’ll describe in a later post.

Although every company theoretically has access to transformational opportunities, few actually manage to identify them, let alone seize them.  What distinguishes the winners from everyone else is that they are systematically networked into all of the surrounding companies that matter, so they can identify and seize the transformational opportunity when the time comes.

It’s not Sales

Strategic business development is an investment in systematically mapping and networking your ecosystem to drive transformational opportunities.  Although the CEO will be heavily involved at times, it’s not primarily the CEO’s role.  Nor should strategic BD be confused with Sales.  Although very complementary to Sales, it’s also very different in that it doesn’t follow a quarterly cadence.  It’s focused on a very few high-impact events a year rather than a large volume of quarterly transactions, so it should have separate goals and incentives from those of Sales.  Strategic BD should be low headcount and high impact, led by a senior professional operating at a peer level to Sales, Engineering and other company functions.

Strategic BD in action – Loudcloud/Opsware

At Opsware and its predecessor Loudcloud, strategic business development played a critical role in virtually every phase of the company, generating over $140M in direct revenue and contributing fundamentally to the survival and ultimate success of the company.  In this series, I’ll use four examples from 2002 to 2007 to illustrate the unique high-impact role a small professional business development function can play.  In closing, I’ll talk about the characteristics of the function and selecting a person to lead it.

Example 1: Tackling the existential crisis^[1]

It was the spring of 2002, a miserable time to be a startup cloud computing company, or managed service provider as we were known back then.  The Nasdaq had peaked at 5,048 in March 2000, collapsed to 2,200 by the time of Loudcloud’s nail-biting IPO a year later, and slid even further following the 9/11 attacks, floundering around 1,800 by March 2002.  In the year since the IPO, the dotcoms who represented half of our customer base had been dropping like flies as the bust took hold.  Our blue-chip enterprise customers and prospects, although highly satisfied with our service, were becoming increasingly skittish about relying on a small Silicon Valley startup for their mission-critical web operations.  After all, much larger, supposedly safe companies like Worldcom and Exodus were turning out to be highly vulnerable to the downturn.  For Loudcloud, “winning” the technical sale only to have the contract vetoed as too risky by the prospect’s CFO was becoming an ever more frequent occurrence.  With revenues and bookings slowing and ongoing heavy costs for data centers, bandwidth, hardware and staff, we were hemorrhaging cash.  After a year of layoffs and draconian renegotiations of our obligations, things were looking grim, but we kept our heads down and soldiered on.

Then came a killer blow.  Our largest customer, a transatlantic foreign exchange trading venture paying us over $1 million a month, suddenly informed us they were shutting down, blowing a gaping 20+% hole in our 2002 revenue.  Marc, our chairman, and Ben, our CEO, interrupted my St. Patrick’s Day family dinner with an urgent summons to meet at Marc’s house.  We had a crisis on our hands and we were going to go bankrupt within months if we didn’t pull a rabbit out of the hat.

We quickly eliminated all of the obvious options:

1. Replace the revenue?  Impossible in that economic climate.
2. Cut costs further to reduce our burn?  We had nothing left to cut.
3. Raise more money?  The capital markets were slammed shut.
4. Sell the company?  Maybe we could find an acquirer to cover our liabilities, but we wouldn’t return anything to shareholders—and what a tragic waste of talent, time and money!
5. Shut down?  Perhaps we’d have no choice in the end, but it would be even worse than #4.

As we discussed the sale option, I brought up the business development conversations we’d been having with a number of major IT outsourcers over the past year.  We knew IBM, EDS, Cable & Wireless/Exodus and others were keen to offer advanced managed services to their customers.  They kept losing deals to Loudcloud’s massively superior offering, which was powered by an advanced software automation platform and a super-talented team.  I had been exploring deals with these companies to resell our service, but several thorny issues made the conversations slow going.  Would we end up competing with each other for the same customers with the same product?  How should their offering be branded?  How could we apportion the service level agreement obligations between us?  Could we find enough margin to go around? And so on…

Perhaps inspired by Jameson and Guinness, we asked ourselves an out-of-the-box question: What if there were a way to sell the company without selling the company?  We knew we’d built something important, and we didn’t want to give up, but it was clear this business model wasn’t sustainable.  And so a germ of a deal crystallized in our minds:  Could we convince one of the big outsourcers to buy the managed services business while we kept the software and restarted as a software company?  It was a crazy idea—the managed services business was our entire revenue stream and customer base and was massively unprofitable; the entire IT industry was in massive retrenchment; our software had never been intended for commercial licensing.  But desperate times call for desperate measures, and so the three of us parted that evening with an agreement to give it a try.

In the days and weeks that followed, we crafted and executed a process designed to rouse three conservative, slow-moving corporate giants to action in time to rescue our heroic but beleaguered enterprise.  In a story to be told at another time, we employed the key ingredients of competition, scarcity and unrealistic deadlines to galvanize senior executives at IBM, EDS and Cable & Wireless to drop what they were doing and engage.

Exactly three months later, on June 17, 2002, we announced a deal for EDS to acquire the Loudcloud business—with 50 customers, 140 employees and 100% of our revenues—for $63.5 million in cash.  In addition, EDS agreed to license our automation software, Opsware, to automate their tens of thousands of servers in hundreds of data centers, for a series of quarterly payments totaling $52 million over three years.  We kept 100 employees, changed our ticker symbol from LDCL to OPSW, and started anew as an enterprise software company with no debt, $65 million in cash, a guaranteed $20 million a year in revenue, and one hugely credible customer.  We had sold the business without selling the business.  Within a year, almost all of Loudcloud’s competitors went bankrupt or sold for a few cents on the dollar.

How did we achieve this improbable outcome?  Certainly, we couldn’t have done it without some exceptional advantages, including:

• Brilliant and committed founders.
• An industry-leading product, stellar team, reference-able customers, strong brand.
• A significant dose of luck, including a visionary EDS executive, Jeff Kelly, who was willing to bet on us.

What enabled us to leverage these advantages to save the company in three months was a decision Marc and Ben had made years earlier: to invest in a strategic business development capability.  By the time we needed to engage IBM, EDS and C&W in an urgent dialogue, the Loudcloud BD team had already been engaged in exploratory discussions with them for over a year.  As a result, we knew the executives to target, what their hot-buttons were, the sales deals they’d lost to Loudcloud and what their competitive position was.  Just as important, they knew Loudcloud because we had educated them and their staffs.  If they hadn’t been primed for the discussion, it could have taken six months just to find the right executive and start the conversation—time we didn’t have.

Getting a deal done in three months required a meticulously crafted and executed process, running 24 hours a day at times and involving a few key Loudcloud managers operating in an absolute cone of silence.  We had to turn zero negotiating leverage and big company inertia into high leverage and real urgency.  Each of us had our role.  Every conversation anyone had with the potential acquirers had to be scripted to send the right messages and add to the picture we were creating.  We needed to keep up the competitive pressure.  We needed to share new developments between us rapidly and strategize the next steps in the process at every turn.  We needed to model potential scenarios, craft proposals and counter-proposals, support clandestine diligence and keep the board updated.  All of this while the company continued to try to win sales, serve demanding customers, meet SLAs and manage increasingly unhappy investors.

The process was driven by the business development function.  While the sales guys stayed focused on selling and the engineers on engineering, the BD guys worked on orchestrating and executing the deal.  Ben, Marc and co-founder/CTO Tim Howes (now co-founder and CTO of RockMelt, an Andreessen Horowitz portfolio company) played absolutely critical roles, which they were able to do effectively because they had people running the process who knew the company intimately and whom they trusted implicitly.

Who you gonna call?

When they started the company in late 1999, Loudcloud’s founders could not have imagined the existential crisis they would face less than three years later.  Their decision to invest up-front in strategic business development enabled them to leverage the firm’s unique assets and execute a company-saving transaction when the crisis hit.

Who will you turn to when you face your existential crisis?

Next up: Strategic M&A