Transforming an Idea into an Asset

This article is a part of my Startup 101 series. The first article is entitled “The Five Secrets of Startup Success”.

The Honest Truth About Ideas

If you want to send shivers down my spine and trigger my fight vs flight instinct, start a conversation with me with the following words: “I have an idea for a company” and then launch into what your idea is and why people desperately need this.

You have probably been told all good things start with ideas. “I’m the idea man” is a statement that some use to promote themselves. I hate to be the bearer of bad news, but ideas are worthless. A dime a dozen is at least an order of magnitude too much value for an idea.

Ideas have no value. Assets have value. Instead, be able to start the conversation like this instead ”I have an idea for a company where I do something useful that people needed yesterday and I am actually creating XYZ that will be worth $3 per wizzy-woo”. Ooooh, do tell me more…

Let’s take a closer look.

Journey from Idea to Asset

Your job as founder approaching an investor is to describe how you are going to transform an idea into an asset. Usually, this goes as follows: idea → product → business → asset. In terms of notional relative value, you might envision it as:

Notional Relative Value of an Idea vs Product vs Business vs Asset. Ignore the x-axis.

Years ago, I heard the best example that really clarified this concept for me: McDonalds. Most people think of McDonald’s initial base value being that of a fast food chain. Is it? Let’s take a look.

Ray Croc opened up his first franchise restaurant in 1955. Four years and 100 restaurants later, he was doing just okay. Then, following the advice of his first president, Harry J. Sonneborn, Ray began purchasing and leasing land to new franchises, and the rest is history.

So what is the underlying asset that establishes the bulk of McDonald’s $30B value? Hamburgers? No — real estate! So his investment pitch might have boiled down to this:

• Name: McDonald’s
• Product: Burgers in under a minute
• Business: Fast-food franchises, collect lease money
• Asset: Real-estate

Simple! (Actually, it’s not, and I don’t expect everybody to have something this ridiculously short, but the more concise you are, the easier it is for investors to see the proposed value, and probably the better thought through your pitch is).

Let’s begin.

The Transformation of Idea to Asset

Build a Product by Defining Your Customers’ Need

Yes, of course, it starts with an idea, but the gulf between idea and product is astronomical. Often the idea is not yours, instead it comes from your customers or daily interactions, or better yet, you need this as you go about building and executing your business. The best product companies eat their own dog food before they serve it up to their customers.

Photo by Waldemar Brandt on Unsplash

How do you make a product that someone needs? Most engineers start with the Field of Dreams design philosophy — if you build it, they will come. Resist this. It’s not enough if they come, they need to buy a ticket, and even if you’re giving tickets away for free, you still need to be selling hotdogs and beer.

This means you absolutely must grok your customers: (a) Identify their needs in terms of what they do; (b) Study how they do their job today and listen to what they say they need; (c) Diagnose where their pain actually is and figure out what they really need; and finally (d) Design a product and/or service that makes that pain go away.

There are lots of ways to do this: Send out a survey; Do in-depth customer interviews; Build and release product rapidly and track metrics to see which features gain traction and which yield no results (blitzscaling). Do any and all of the above. By the way, figuring out what customers actually need, despite what they are saying, is the hardest step, and often requires educating the customer, or as I like to think of it “making the horse think the water was its idea in the first place”.

OK, thanks for reading. Most likely, as a founder, you have already know all this. “Of course I’m making a product”, you say. “This article has been a waste of my time, but thanks for the McDonald’s story”.

You’re welcome, but hear me out. The mistake most founders make is that this is the point where they think they are ready to start approaching investors.

Sorry!

Build a Business by Identifying Customers with Schedule and Budget

Building a product is not enough, it barely covers table stakes these days. Investors want you to build a business, and you have to show us that you have not mistaken investment capital for revenue. Gone are the days where you can build a business with no revenue and continually raise capital through exit — Series A investments now require $1M ARR.

So this means not only do you need to identify your customers’ needs, but you also have to identify customers that have both schedule and budget! What does this mean? It means you need to attract paying customers who want to buy your product today! Yes, even at seed!

This means that in your pitch, you need to clearly state what it is that customers will want to be buying, and why that is a reasonable price to them. Are they saving money based off of how they currently do it? Do they have a free, open source alternative, but it has unreliable updates and no customer support? My favorite way of doing this is to put together your mock website pricing page. It might look something like this:

A mock pricing page

This example above is perfect if you have a software product. If your product is not software, then you need to come up with something appropriate. Present a clear, simple picture of why your customers will transfer money to you, how much they will pay, and what they will get for it. There should be absolutely no ambiguity here. Don’t forget to price for training and support, that doesn’t have to be included in the base price!

Also, you need to clearly state how you are going to go out and find these customers, or how these customers are going to find you. Cost of customer acquisition is not trivial yet is often glossed over in pitches. Savvy investors will go over your Go-To-Market (GTM) strategy with a fine tooth comb to make sure it is realistic. Nothing scares off investors quicker than a GTM strategy that is out of line with your current fundraising ask.

Finally, you need to ensure that your business/product/process is instrumented up to capture those metrics that indicate healthy year-over-year growth, and that you are indeed tracking and paying attention to those metrics.

Investors understand that only products that attract customers with need, schedule, and budget can be built into a business, and we need to know that you are painfully aware of this. This means you have a chance to one day generate real revenues and even perhaps profit.

Don’t worry — we don’t expect you to be profitable, in fact you shouldn’t be — when you are growing, you are purposefully taking those profits and reinvesting them in more R&D, feature development, and/or customer acquisition. But you have clearly demonstrated that not only are people willing to use your product, they are willing to pay you for the privilege.

Now that’s a real business.

Build an Asset from Customers with Need, Schedule, and Budget

OK, you have a product and have shown how you are going to turn this into a revenue generating business. Now you are ready to outline what asset it is that your business is building.

Photo by Dmitry Moraine

To be clear, you don’t have to have the asset when you approach an investor (well, it depends on the stage, but I’m focusing on pre-seed and seed companies in this article), but you do need to be able to concisely state what the end asset might be.

You goal here is to clearly state what it is that you are building and why it is valuable. There are four generic types of assets that I know of, and those are, from least to most value: (a) IP/patents; (b) customers and/or their data; (c) gross revenue; and (d) profit. (Discussing valuation techniques is a topic for a future post, but you should get the point.). The last two items could actually just be called money, but I like differentiating them.

The following are all good sample statements of what an underlying asset might be:

• I’m building up a collection of 500 million users with daily average use (DAU) exceeding ten uses per day.
• I’m creating a large collection of labelled/curated data that allows me to train algorithms and achieve accuracies better than any of my competitors.
• My customers never leave, my churn is 1% after three months, or better yet, I only have net positive churn!
• All of my customers are locked into 3 year contracts.
• I achieve 80% gross margins on $5M of annual revenue with 2% net revenue churn, and I’m putting those profits back into customer acquisition/R&D/feature development.

The point is to have a clear vision of what that asset is going to be, and now investors can see how they are going to realize a return on their investment one day, either through acquisition or IPO.

The Takeaway

Your job as a founder is to tell investors the story and show the data that demonstrates that your product is the basis of a business that is building up an asset to one day impart value back to the investor. Most first time founders stop their pitch at the product point, but scoping out your product is barely a starting point in realizing your value. Describe and pitch an asset to investors, and you will likely be more successful in your raise.

At the very least, you will create a better business.