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When is the Right Time to Launch a Software Startup?

By June 30, 2010Article

Jon B. Fisher is ready to put his money where his mouth is. After selling his third software company to Oracle in 2007, Fisher took a break from the CEO life to become an expert on economic cycles and their impact on the entrepreneurial process. He’s spent the past two years commenting on the economy for major media outlets, lecturing at business schools and hitting the road to deliver more than fifty speeches to entrepreneurs and small business owners around the country.

Now Fisher is betting that it is time to get back in the game: He’s launching a new authentication startup, Predilect. His in-depth knowledge of economic cycles says a recovery is in the works which will present a window of opportunity in which startups can launch and grow.

Fisher spoke to about the current state of the economy, the importance of timing a company’s launch, and why he supports “natural selection” for economic pundits. Experts say the economy is still on rocky ground. Why are you launching a startup now?

Jon B. Fisher: If you look at the previous serious recessions — the mid 1970s, the early 1980s and the early 1990s — a pattern emerges: A recovery in new housing starts always signals a corresponding peak and decline in unemployment. We reached a new bottom in housing starts in April 2009. Although the recovery has not been robust, we are still up 20 percent from the low. Looking at the unemployment rate, it peaked in October 2009. This indicator is still languishing but it has begun to recover. (Click here to read the details behind Fisher’s unemployment prediction.) Because these two macro indicators are on the upswing, we can expect GDP to also begin recovering.

Timing is everything. Economic ups and downs are cyclical. Today, I am betting that we are on the road to recovery. That’s why I’m putting my money where my mouth is — so to speak — and starting a new software company now.

Entrepreneurs are best served to start companies at the bottom of an economic cycle — when things are still bad rather than already recovering— and ride the recovery wave upwards. This allows the startup to participate in the economic expansion and observe maximum growth before the next recessionary cycle begins. How did you become a believer in watching economic cycles?

Jon B. Fisher: I learned the hard way — by being trapped in a downturn. After selling my first software company in 1996, I launched a second software company. Things were going well for that company when the dotcom bubble burst. I distinctly remember a January 2000 board meeting when we discussed our plans to go public within six months. By April, the market had crashed and I couldn’t believe that I was going to have to lay off 30-40 percent of our workforce.

At that point, I vowed to be cognizant of economic cycles in order to not be too late or early to market with my next venture.

After I sold my last company to Oracle in 2007, I received several offers to lead new ventures but the timing just wasn’t right. That’s why I transitioned to forecasting and teaching venture capital finance at both business schools and university undergrad programs for a while. I believe that a clear understanding of economics is a necessary part of being a CEO. I want to increase my startup’s chances of success. But don’t many investors tell entrepreneurs not to worry about the economy when launching a new company?

Jon B. Fisher: It is ridiculous for entrepreneurs to ignore economic cycles. I disagree with the venture capitalists who say anytime is the right time to launch a company. As a CEO, you have to be cognizant of the macro economic conditions and what they will mean for the future of your company.

According to Venture Source, the median startup exit is approximately $27 million and the median venture capital raised by these startups is approximately $19 million. Both of those figures are up a few million from last year. But at these depressed valuations, neither founders nor VCs are making a healthy return. It is critical to time the launch of a company so that a healthy exit value can be achieved without raising too much money.

I’ve taken some flak on this point of view. Critics basically say, “If some 22 year-old whiz kid wants to change the world with a new company, who are you to try to discourage that?” Well, I’m actually trying to improve that kid’s chances of success.

Through my experience of teaching and speaking to entrepreneurs around the world, I have a keen appreciation for the enthusiasm and intellect of today’s young businesspeople. What I’m trying to get across is that if these savvy young founders build their company at the right time and with the right structure and plans, they’ll have an even better chance to make an impact on the world they live in. Founding a company impulsively can be much more capital intensive and risky.

Another reality I’ve learned is that understanding financing options is woefully misunderstood by entrepreneurs today. This is a shame because a company’s method of financing is very often the most important ingredient to its success. So it is critical to structure a startup today with the exit goal in mind?

Jon B. Fisher: Absolutely. Bharosa succeeded with that strategy. The company launched in 2003 and developed internet security software for banks. In 2005, the federal government mandated that all banks had to update their security by the end of 2006. No other event would prove more important for the company.

As any surfer knows, you have to be well positioned in order to catch a big wave. Bharosa was fortunate to be established and growing when the government mandate came down. We had been focused on establishing the best and most discerning banks as our initial customers. By the time we were acquired by Oracle in July 2007, we served 33 enterprise customers as well as many of the nation’s largest banks, including Wells Fargo and National City Bank.

Another important lesson I had learned during the dotcom crash was the danger of diluting one’s ownership to non-founding investors and executives. I promised myself that I would never again lead a company without a controlling position. I believe founders need to hold at least 51 percent of the voting stock.

So when we launched Bharosa, we specifically architected the ownership and financial structure of the company so that if an Oracle-like opportunity presented itself, we would be able to take advantage of it. The three co-founders controlled the company at the time it was acquired. Had that not been the case, we would likely have been pressured by tier-1 backers to grow into a larger company in order to sell for more money.

In the end, timing was critical. When we sold in July 2007, we had watched housing starts exhibit a significant decline starting in 2006. We knew a downturn would be around the corner. Sure enough, one year after the deal, the global financial crisis hit and the economy went into a tailspin. Had we not been watching the macro conditions and waited a few months or a year to sell, Bharosa’s fate would have been significantly different. Since that time, the other companies in our space have continued to grow but their valuations have probably been cut in half. If now is the time to start a software company, what advice do you have for today’s entrepreneurs given your knowledge of economics and your experience as a serial software CEO?

Jon B. Fisher: After my experience selling Bharosa, I predicted a new world order for software startup exit strategy in my book, Strategic Entrepreneurism: Shattering the Start-Up Entrepreneurial Myths. At the time, I laid out several new laws for founders seeking startup success via acquisition.

A few years have passed but I still advise founders to keep three things in mind when starting companies. We’ve already discussed the first one: Be aware of economic cycles and the impact they can have on your business.

Second, structure the ownership of your company in such a way so as to hold onto control and the potential upside of the company. Beware of investors offering too much money. Don’t be afraid to say “no” to the wrong financial transaction. Your startup may be forced to grow larger or stay unprofitable longer and you will lose the ability to be able to sell when you want.

Finally, build your company with your potential acquirers in mind. Create products, processes and internal structures that will be synergistic with that of larger vendors and other potential acquirers. Be sure that the solution makes sense to scale—and to be acquired. Make sure that channel partners can interpret and sell the product without effort — make it a cookie-cutter process that can easily happen again and again. Court the most technologically-discerning companies to bring in as your first customers. Hire the highest quality engineers you can find. Your technology team will make you extremely attractive to any potential acquirer. Make sure all these aspects of your startup align with the business style of your most likely suitors. What type of macroeconomic picture do the indicators paint for the next few years?

Jon B. Fisher: The next economic correction is already on the horizon. I believe the next downturn will become more serious at the end of 2011. America’s sovereign debt problems will become more of an issue as the country approaches a 100 percent debt-to-GDP ratio. It won’t be time to stock up on canned goods or get ready for Armageddon, but the economy’s strength will inconspicuously slip until it is much weaker than it was — and the valuation of startups will become lower as well.

But that’s more than a year away. I find it frustrating when the data point to a recovery and you still have “economists” and other commentators in the media using words like “double dip” and “depression” to describe what are normal economic cycles. The worry is that at some point, their doomsaying will become self fulfilling. Despite the fact that the economic indicators are pointing toward recovery, “permabear” pundits place America in danger of another crisis of confidence and the potential for only an anemic recovery.

I am not a professional economist or forecaster. In fact, I can’t believe that many of these commentators continue to be asked for their opinion on the economy. If you look at any of the permabears credited with predicting the recession, they began “predicting” its arrival in 2002. Or take the experts who read unemployment news and talk “depression” when its peak has obviously passed. These pundits can say whatever they like and take no risk if it doesn’t come to pass. This kind of inaccurate and irresponsible interpretation of data is what spooks people.

I’m not saying I’m smarter. What I want the industry to know is that we entrepreneurs and small business owners are betting our own money and livelihoods on the upturn. If we don’t get our forecasts right, we go away.

Wouldn’t it be great if this natural selection dynamic could take place in the pundit universe?

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