I have a PhD in physics. My dissertation was in disordered materials, one of the most complicated subjects there is. I can understand complicated subjects more easily than other people. Anyone anyone who has seen this in action will acknowledge that it can be more of a fault than an asset.
Here's how it works: I get something, find it very elegant, and underestimate the difficulty it can cause. Since I don't think I'm unique in this among entrepreneurs, let me illustrate it with a couple examples.
Corporate Structure
Innegrity has probably the best corporate structure possible, put together by some extraordinarily smart lawyers. All of our ownership was common stock--nobody had any preference over anyone else. However, all of the ownership was participating common stock.
Here's how it works: when the company liquidates, all of the money would first go to pay people back the cash that they put in, proportional to that cash. After everyone gets their money back, anything left over is spread by ownership, in different proportion than the first amount. Sounds reasonable, and fair, and it solves a lot of the problems that come with adding a new level of preference to each investment round.
The problem is, nobody understood it. What are shares worth? Well, that depends on what you paid for them. Every share differs, based on what was paid. One person could own shares purchased in three different rounds that had three different values, and would pay out differently when the company was sold, even though they were the same kind of share. In addition we also had complicated convertible debt structures, each with it's own conversion and payout rules, the sum total of which is impossible to understand. (Except that I think I still have it memorized.)
So all the benefits--that I woudn't win unless every other investor did too, that all the capital was going to get paid back first, that nobody could be a big winner while other people lost money, that even in a down round, as long as there was equity in the company, everyone was still ahead--all those benefits were lost because everyone just thought of their shares as being worth a certain price. So even though we had built a structure that protected investors from a down round, we didn't build a structure that protected them from the anxiety that came from not understanding it, and so the value was lost when eventually the investors revolted and replaced me with a team of amateurs who drove the company into bankruptcy. There was no need, but to this day you can't convince them of that.
What should I have done? Started with a conventional C-corp, with common and preferred shares, just like all the Dow and S&P companies and everyone else. People understand these structures, and know how to value them. Even sophisticated investors who were thinking of investing at the end had no idea what to make of our structure, and so, like everyone else, they ignored it.
Market Structure
Innegrity was in a very complicated market. Our business plan was simple--we were going to buy polymer chips, process them into a high value fiber, and sell the fiber. The rest of the access to market was difficult, though, with all the decision making power at the very end. I had experience in the industry and with pull through marketing and also, as I said, could see through this easily. However, there are things I could have done to aleviate this that I didn't do because I underestimated their effect.
In the rope market, our customer would make a rope and then either process it into an article made from a rope (say, a rigging for a sailboat) or sell it to someone who would. This would either be sold to a distributor, or to someone who would sell direct to customers or through retail. This was one of our more simple markets, and there could be as many as four different companies between us and the actual consumer who decided what to buy.
At the other end was aerospace. We would sell fiber to a weaver, who would sell it to someone who would coat it with a resin, who would sell it either to a distributor or to someone who would make a part, who would try to get the part qualified with the FAA and sell it either to the owners of aircraft, or to the OEM, who would then sell it to the purchaser of an aircraft. There could be as many as seven people in the marketplace who could say "no" before it ever got presented to the end user. Ballistics was just as bad, or worse because of all the qualification testing required.
I called all these people in the middle "channel partners," and most of them had little or no ability to say "yes" to a sale, but all had the ability to say "no." It took us almost two years to get the full channel aligned so that an end user could actually start purchasing things. Eventually, we had over fifty channel partners, each of which had their own product lines that contained Innegra fiber, with their own product specs, quality controls, relationships with each other, etc. Two years later, we had sixty end users who were using the fiber, had generated four world championships and were converting new end users at a rate of 4-5/month.
But we still had only a couple million dollars of trailing twelve month sales, because the first ones to convert were necessarily the ones with the shortest path to the end user, and small. Example: surfboards: we sold to the weaver who sold to the board manufacturer, who sold directly to the user, or perhaps through retail. If there was another level of complexity--say distributors, or board rental companies--it took longer. For most of the others, we had to align a full value chain for each end user, and while my VP Sales was a master at this, he got no credit for it because only I understood how difficult it was. At one point we had a half dozen experienced sales people with industry experience who were dumbfoundingly ineffective while Loren piled up success after success. In the end, though, they came too slowly.
What should I have done? Focused hard on eliminating levels of complexity. Toll weaving would have eliminated one. I could get rid of another by choosing one exclusive distributor and using my sales team to travel with and train their sales team. To get a fast start, we could have eliminated all effort in markets that would require more intermediaries, going hard for the simple parts that didn't have to be integrated, most of which were in sporting goods, but also ropes and other simple parts for some industrial applications.
Dreamweaver
My new company has incorporated this education. We are a simple C-corp with no debt and only a few owners. We are very capital efficient, and are looking to have only one financial partner before we get to cash-flow positive. We buy fiber and process it into a material that is sold to the user with the decision making power, in this case a battery manufacturer. While there will be some brand-building, there are no converters, no distributors, no coaters, no intermediate part manufacturers.
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