Small businesses that don’t change get run over by competition and changing markets.
Mark Zuckerberg started out with Facemash, a matchmaking site originally just for Harvard students; Apple struggled mightily to compete against IBM and Microsoft in the hardware and software business before specializing in streaming music and smart phones; 3M engineers were trying to create a super-strong adhesive and accidentally created a low-tack reusable adhesive which became the hugely successful Post-it® Notes. Business plans are necessary documents but business planning is a fluid, continual, every day process for the entrepreneur turned small business owner.
In basketball terms, the “pivot” is the act of keeping one foot grounded while the other moves freely in any direction. Think of the grounded foot as the entire body of knowledge and experience you’ve accumulated and the other foot searching for the best direction to move toward. Some are small steps and some big but small business owners will pivot many times throughout a business lifecycle.
Our original business (Maxwell Training Centers, Inc.) started as a computer training business, made a sideways transition to a distance learning company (The Maxwell Group) and ultimately a vertical move to a provider of web conferencing services to the pharma industry (MedConference LLC). Although it might sound like a strange path it did have some logic to it. The brick and mortar computer training business had run its course. Distance learning technologies provided a new delivery model for our training business or so we thought. Short duration training sessions with no time lost to travel had some appeal to it. It was one of those services that demoed really well but was a tough sell. Then one day we made a presentation to the training director of a large pharma customer – same result “thanks but no thanks”. A couple weeks later a marketing director at the large pharma customer went to the training director and asked for help with a project to connect doctors in an online medical education event. The training director said he could not help but he knew a company that could. Before we knew it we were in a different business.
So the good news was that we found a new direction for the company that looked promising. And being a small business we had the ability to put the new strategy in action almost immediately. But our new strategy also required some runway for issues like software development, new process and procedures definition, staff training and of course business development. So new strategy does not equal immediate new cash flow and before long we had trouble making payroll and keeping up with vendor payments.
Our first order of business was to address our employees. We didn’t want to have a layoff because we could see the light at the end of the tunnel and knew we would need the staff. So we implemented an Employee Stock Option Plan (ESOP). We recapitalized the business and put approximately 15% of the shares into the ESOP. We distributed 10% immediately to current employees based on tenure and job function and used the balance to have available for new hires. The plan included a 4 year vesting schedule but there was an accelerator clause for a change in control of the business. It’s probably fair to say that although the employees enjoyed the feeling of having an ownership interest most did not totally understand the concept of a stock option. [Some would later put children through college with the proceeds].
Our original startup capital was bootstrapped by the founders but the transition of our company from a bricks and mortar business to a software as a service model was going to take some outside investment. Traditional bank financing was not an option. We turned down a preferred stock investment from a specialty VC fund primarily because we would lose control of some key decision making (ie. like when we would be able to sell the business). We opted for a convertible notes offering and spent a couple months making presentations to various private investors. We ended up raising $250,000 by offering a generous 6% coupon rate and 20% discount when the note was converted to common stock in conjunction with the sale of the business.
In the final analysis, the founders owned approximately 80% of the stock and the remaining 20% was split among employees and new investors. Looking at this purely from the founders perspective, by giving up 20% of the company we realized a 300% increase in the actual cash value of our ownership stake. Although you can debate individual terms of these deals, it’s hard not to conclude that the ESOP and Convertible Notes Offering had a lot to do with helping a struggling company become a niche market leader and increase total shareholder value exponentially.
Your ability to change direction and manage the company while you “pivot” will likely determine your ultimate success. And the day you walk around and hand out checks to your employees will be one you remember for a very long time.