Burn the Business Plan

by Carl J Schramm

  What Is the Franchisor’s Record of Innovation?

  One of the secrets of great franchisors is that they stay ahead of market trends and keep their brands relevant and responsive to consumer preferences. To thrive and grow, they must balance brand discipline with sufficient innovation to ensure growing market share and to continuously improve their operators’ incomes.

  McDonald’s, for example, constantly tests and modifies its menu to reflect even subtle changes in customer demand. “All Day Breakfast” was one such shift that has become a real success. Obviously, it is much more difficult for franchises built around a single product or service to introduce new selections as consumer preferences wax and wane. A Beanie Baby franchise network would not have prospered.

  Who Will Give Me Expert Advice?

  A number of established franchisors enjoy very positive reputations for their support of their operators and the success that those franchisees have had. Not all franchisors, however, are as committed or honest. Every year, we see hundreds of ideas that proclaim that they are “the new McDonald’s” of small-job printing, pest control, gutter replacement, or home repair services. More than 3,500 franchise opportunities now exist in the U.S., and that number probably grows every day. Sometimes, unscrupulous “entreprepreneur”-hustlers attempt to franchise ideas that have never been successful as a business in even a single location. Notwithstanding the government oversight in place to protect potential buyers, offers may come wrapped in unsubstantiated promises and invented statistics. Being among the first franchisees of any unproven business concept is a risky choice.

  If you choose to be a franchisee-entrepreneur, do your research, consider only licensed franchisors, spend time with an experienced franchise lawyer, and talk to a knowledgeable loan officer at the bank. Every hour that you spend to understand what you’re getting into will improve the decision that you make and enhance the chances of your success.

  CHAPTER 8

  Preventing Failure Before It Happens

  Again and again, aspiring entrepreneurs hear and read that failure is our most important teacher. That advice always rings hollow. It sounds as if the very tangible and painful costs of a business failure, only partly measured in a damaged career and lost savings, can be excused or breezily wished away by saying the entrepreneur must have learned a lot.

  No one starts a business to have a learning experience. Very few business or self-help books, and yet fewer on entrepreneurship, celebrate failure. Those that do offer fluffy advice, like “Fail forward” or “Fail fast.”

  Nor is evidence supportive of the thesis that entrepreneurs find failure a great teacher. There are exceptions to every rule, of course: Bill Gates and Paul Allen crashed their first company, Traf-O-Data, before starting Microsoft; Milton Hershey failed three times before he succeeded in the candy bar business; and Walt Disney’s first company, Laugh-O-Grams, went bankrupt.

  But, for most entrepreneurs—more than two-thirds—failing at one business means that they will never try again. Perhaps that’s a sensible idea, as the chances of success are no better for those who try a second time. If failure is a source of insight, it should teach lessons that aspiring entrepreneurs can use to increase their chances of starting successful companies.

  Simply put, startups are different one from the other, so the reasons for their failures are different. As the following stories illustrate, failure comes in all shapes and sizes, and it fells not only—although most commonly—the novice entrepreneur but also the seasoned and experienced. What seemed to work for one new venture may be the wrong direction for another. A better approach is to internalize the generic risks that all new companies face. Thus equipped, you may be able to steer clear of minefields and minimize your chances of failure.

  Taking Sixteen Years to Fail

  Even as a boy, Nick Franano saw himself as a doctor, helping people. After college, he studied medicine at Washington University and did his residency and a research fellowship at Johns Hopkins. Like most young researchers at Hopkins, Franano seemed destined to be a professor of medicine, someday having his own laboratory and teaching some of the world’s most promising medical students.

  One patient’s predicament, however, turned Franano into an entrepreneur. He was specializing in kidney diseases, and most of his Hopkins patients would eventually need dialysis. The dialysis procedure requires that a patient be hooked up to a machine every three or four days to have her blood filtered and returned to her body. Without dialysis, impurities in the patient’s blood will poison her, leading to rather rapid death. Without a kidney transplant, she likely will spend time in and out of dialysis clinics several times a week for the remainder of her life.

  Before dialysis can begin, every patient must undergo a surgical procedure by which a site on her body is prepared for the insertion of catheters that will permit access to the circulatory system. These catheters allow the patient’s blood to pass from the body into the dialysis machine, where it is filtered, and back into the body. Once in place, inserted catheters need continuous maintenance and present myriad potential problems.

  One of Franano’s patients was having particular trouble with his catheter insertion site, and ended up at the hospital six times in two weeks because his veins were collapsing around it. Each visit involved a minor but painful surgery to move the site of the catheter insertions to another spot on his body. In the midst of one such visit, the exasperated patient asked Franano why no one had found a way for blood vessels to fix themselves.

  That simple question triggered Franano’s imagination and his search for an answer. He knew that the dialysis process gradually caused blood vessels to lose their elasticity and begin to harden because the middle layer, which delivers nourishment to the tough outer and inner layers, itself begins to harden and then slowly die. As this occurs, arteries and veins around the catheter insertion site start to collapse, which requires that the insertion site be relocated. The ultimate risk is that, after years of dialysis, a patient may run out of places on his body that are able to host the catheter.

  Franano’s research took him to an untested formula, PRT-201, a compound that he theorized might rejuvenate and strengthen the middle layers of the veins and arteries. He experimented by setting up two groups of pigs and inserting catheters into each, then injecting the PRT-201 into the surrounding veins and arteries of one group. In the pigs without PRT-201 injections, the veins and arteries collapsed much like those in humans, becoming hard, inflexible, and necrotic around the ports. The veins and arteries of pigs injected with PRT-201 seemed to remain flexible and soft for many months longer. It took three more years to reproduce and confirm his lab studies in successively larger groups of pigs, and the invention of a special needle to inject PRT-201 into the middle layers of vessels, before Franano could try experimenting with human patients.

  Armed with laboratory data showing the effectiveness of PRT-201 in pigs, and with his newly developed delivery mechanism, Franano approached several drug companies, expecting that one would want to license his discovery. He soon learned, however, that early stage experimental drugs are seldom of interest to big pharmaceutical manufacturers. The necessary double-blind human trials were very costly, they said, and there were too few dialysis patients to make a new drug economically feasible. Knowing how badly dialysis patients needed help, Franano took the gigantic step of starting a new company, Proteon Therapeutics, to commercialize his experimental drug.

  His first task was to convince a small group of investors to back him. In 2005, they provided $2 million to fund his company’s test of PRT-201 with a small group of dialysis patients. After three years, positive clinical results allowed Proteon to raise an additional $15 million from two venture capital funds. With this money, Franano started the next round of clinical trials necessary to convince the federal Food and Drug Administration (FDA) of the drug’s efficacy and its safety.

  After seven years, preliminary results from the second trial again looked positi
ve. To investors, Proteon looked like it had a promising future. If its drug, now bearing a trade name, Vonapanitase, was judged to be effective in helping dialysis patients live longer, and could be used to help a much larger population suffering from peripheral artery disease, as Franano had begun to suspect over the course of his research, the company would own what in the pharmaceutical industry is referred to as a “blockbuster drug.”

  Now, other investors were eager to line up behind Proteon. Relying on Franano’s clinical data, the investors added another $92 million in venture funding. With such a vote of confidence, the company raised an additional $72 million when it sold stock in a public offering in October 2014.

  Immediately, the company began the FDA’s Phase III clinical trials for Vonapanitase, recruiting hundreds of dialysis patients in thirty-one medical centers for a double-blind clinical study. Because earlier studies, with smaller numbers of patients, had shown substantial positive effects, Franano and his investors had reason to believe that they had a winner. Over time, the stock climbed from its IPO price of $11 to over $20 per share, with financial analysts suggesting that, as soon as the new clinical data was in hand, the stock would double in price. “Easily a forty-dollar stock,” said one.

  After two years of following large numbers of both treated patients and a control group, independent researchers participating in the Phase III FDA trial found no statistical evidence of the drug’s efficacy, the FDA standard for market approval.1 When news of the trial’s failure became public, the company’s stock price cratered to $2 per share, the equivalent value of its cash on hand.

  Franano had worked on his new drug for sixteen years. He had written three business plans and raised $181 million in capital from venture and public investors. Up until the very last minute, he believed that he could give kidney-disease patients a solution that would extend their lives and reduce their pain. Franano believed that he was at the vanguard of hope for those patients and, perhaps, for other patients suffering other types of circulatory disease. While the FDA’s drug approval process is famously complex and unpredictable, Franano’s investors were experienced and knowledgeable about the risks of investing in a new drug. But, in the world of startups, the past is not always prologue.

  From the White House to Malls

  Dean Kamen is an inventor genius, widely regarded as the Thomas Edison of our time. His innovative talent is legendary; working in his private laboratory, he has patented over four hundred inventions. His creative streak prompted him to drop out of college in the early 1970s to create a wearable infusion pump, now an inseparable part of life for many diabetics who depend on insulin therapy. Among many other innovative devices, he subsequently invented a coronary stent, an implantable device that has saved the lives of many stroke victims, and the iBot, a remarkable all-terrain wheelchair that can climb stairs. Kamen developed the iBot for the Defense Department to help paraplegic veterans become more mobile.

  In the late 1990s, Kamen began work on what he termed a “personal transporter,” a new kind of individual mobility device. He worked in secret, fearing that, if word got out, others would copy it. Historically, Kamen had patented his inventions and licensed them to companies that would manufacture them, but this time, he planned to build a company around his revolutionary device. Kamen’s spectacular track record made it possible for him to raise $90 million in venture funding without a business plan, as he refused to commit his idea to paper. His investors were sworn to secrecy about his concept.2

  Through the summer of 2001, in anticipation of the unveiling of a new Kamen invention, hype began to build. The outside world knew only that Kamen was up to something big and that it was code-named “Ginger.” Kamen would say only that Ginger would revolutionize transportation and would be “to the car what the car was to the horse and buggy.” Excitement grew when Steve Jobs, who had seen a top-secret prototype, said Kamen’s invention would be as big as the PC. John Doerr, perhaps the most influential venture investor in Silicon Valley, declared it would be more important than the Internet.

  * * *

  On December 3, 2001, Kamen unveiled the Segway. A brilliant combination of computers, gyroscopes, batteries, sensors, and small electric motors, it was compared by one reporter to the reinvention of the wheel. Athletes, movie stars, and President Bush—at the White House—were filmed gleefully riding the elegant device. Kamen predicted that his invention would displace cars and buses on city streets, refashioning an old philosopher’s adage to declare, “The city needs a car like a fish needs a bicycle.” Jeff Bezos, founder of Amazon agreed, saying, “Cities will be built around this device.” He saw people commuting to work on Segways, eliminating traffic.

  Within weeks after models were released for sale, it became clear there was no market demand for this ingenious product. Fifteen years later, the Segway’s users mostly are security guards inside shopping malls and airports. Despite being a technical tour de force, the public didn’t care. Kamen’s dream was to manufacture millions of personal transporters every year. Today’s annual worldwide sales total about six thousand.

  When I asked Kamen why the Segway had flopped, he blamed himself for misjudging the trajectory of technology and jumping too far ahead. “It was a rookie mistake. I tried to invent what I thought people really needed, not the next thing they might really use.” He went on with a chagrined smile, “I knew I’d made a mistake when, after being astonished by the Segway, the first question people usually asked was, ‘What do you do when it rains?’ ” Kamen found it hard to believe that city planners didn’t embrace the Segway; he saw it as their chance to wipe out street traffic and eliminate the need for parking garages. Instead, all they talked about was how crowded and dangerous sidewalks would become. When I first watched a Segway video clip with my wife, a busy urban professional, she rolled her eyes and remarked, “Where do I put the kids’ car seats and the groceries?” Kamen’s humbling experience certainly reminded him—and should be front and center for every innovator–entrepreneur—of the need to realistically assess potential market demand. Even a wildly successful inventor genius can get things wrong.

  After the Segway flop, Kamen returned to his lab, where he continues to create. In 2010, he unveiled a marvelous autonomous prosthetic arm. “Luke” attaches to nerves that once controlled the user’s original limb, and the arm intuitively responds to brain commands.

  Sailing into Failure

  A sailing-enthusiast engineering student—I’ll call him Tony Seaman for the painful part of his story—was transformed into an entrepreneur before he left college. Going into his senior year, he was looking for an easy elective. Knowing nothing except that other engineering students had said that “Introduction to Entrepreneurship” was a piece of cake, he signed up. Some of his engineering professors had started companies and he knew that many engineers became entrepreneurs. So, he thought, it might be helpful to know how the process worked.

  Tony later described the experience to me: “Besides listening to a professor stretch a few hours of actual information into four months of lectures,” all that was required of students was writing a business plan. As in thousands of similar courses offered each year, he had two weeks to propose an idea for a business. The principal guidance the professor offered was to look to a personal passion for inspiration. To Tony, that meant sailing. He had grown up just a mile from the Atlantic, and had worked in a boatyard every summer since he was fourteen.

  Tony’s business plan described a solution to a problem that he thought he might encounter the following year when he would be living in New York City, surrounded by water without anywhere near enough money to keep a sailboat in a marina. He envisioned a folding catamaran that would weigh fewer than one hundred pounds, fit in a travel bag, and could be carried on the subway and stored in a closet. Tony had taken a course in materials sciences, so he knew that he could make his hypothetical boat with strong lightweight carbon fiber.

  Two weeks later, when it was his turn to des
cribe his idea in class, Tony made a simple origami-like folding paper model. He followed his professor’s prompt, hyping his idea when pitching it to the class. “This is not some flimsy portable boat, but one with serious performance capabilities, not a Toyota but an Aston Martin.” When he finished, his professor excitedly declared, “You have got to make this into a real company.” After winning his university’s business-plan competition, Tony was a star on campus, celebrated as if he already was a successful entrepreneur.

  Warming to the idea of his catamaran, and encouraged by his professors and the enthusiasm of the competition judges, Tony turned down job offers from engineering firms. Instead he moved to New York, took a part-time job as a bartender, and began to work on his boat. Unfortunately, his enthusiasm outweighed his grasp of several pertinent facts. Among them was that sailboat sales had been in a steep decline for over a decade, with only one-fifth as many being sold in 2014 as in 2004; apparently, sailboarding and kite-surfing had made huge dents in the market.

  Further, using the materials required to make a boat light enough to carry resulted in its costing at least $24,000. With no customers in sight but already a self-declared entrepreneur, Tony attempted to make his boat so revolutionary that it had to sell. He designed new rudders with embedded gyroscopes, so that a first-time user could sail like a professional. His blueprints described the world’s first self-driving sailboat, but to build it would have added another ten thousand dollars to the cost of each boat.

  When I asked Tony how he came to believe that anyone would spend $34,000 for his folding sailboat when they could rent a sailboat at a marina many times over for the same price, he argued that Elon Musk’s strategy had been to sell his first cars to wealthy customers as a means to finance more affordable models for subsequent sales to a wider audience. I reminded him that Musk had customers begging for cars just on the rumors that it was being built. People wanted a cool electric car regardless of price. Did he ever have any evidence there was any such latent demand for a folding boat?