Screening of New Venture Opportunities JS Youngleson (adapted from Timmons – New venture creation) 1. Screening of Venture Opportunities Time is the most valuable asset of any entrepreneur (it is also the most scarce resource). The harsh reality is that you will never have enough time in a day, a month, a quarter, a year to pursue all the business ideas you (and your team) can come up with. The entrepreneur’s paradox is that you must find and make time for the good ones. Complicating this paradox is that ‘ you do not have a strategy until you are saying no to lots of potential opportunities’. Estimates show that only about 10% of potential opportunities generate acceptable levels of sustainable income for the founder(s). 2. Anchors There are tools to help you in the titanic struggle to determine if your idea is truly a business opportunity. Ideas that turn into good businesses are not accidents. Superior businesses have four ‘anchors’. They create or add significant value to a customer or end-user They do so by solving a significant problem, or meeting a significant want or need, for which someone is willing to pay a premium They have robust market, margin, and moneymaking characteristics: (large enough, high growth, high gross margin, strong and early free cash-flow, high profit potential, and offer strong and reliable returns for investors They are a good fit with the founder(s) and management team at the time and marketplace and with the risk-reward balance. 3. Quick Screen Investors only invest in 5% of businesses, so it is essential to focus only a few superior ideas. The ability to quickly and efficiently reject ideas lacking the characteristics of ‘anchors’, is a very important entrepreneurial skill and mind-set. Saying no to an idea may conflict with your particular passion or commitment to the idea. To make this choice easier entrepreneurs use specific tried-and-tested methodologies, such as the ‘Quick Screen’ or ‘VOSE’ presented here. Quick Screen is used to conduct a preliminary review and evaluation of the idea in about 1 hour. Unless your Quick Screen shows sufficient potential (or that you are convinced that it can be moulded and shaped) to demonstrate that it will meet that four anchors, you will waste a lot of time on low business potential ideas. Quick Screen allows you to discard each low potential idea, and to select the potentially good ones for further analysis. 4. Venture Opportunity Screening Exercise (VOSE) Venture Opportunity Screening Exercises are designed to segment the screening of ideas into manageable pieces. In a team effort, each member of the team should complete the VOSE separately and then come together to debate and merge the results. After the VOSE you should revisit the Quick Scr een and re-evaluate your scoring. When you are satisfied that all the exercises are complete, the combined documents will provide the substance needed to complete your Business Plan. It also provides you with a written audit trail of your opportunity shaping activity (therefore don’t discard your work – file it for future reference).
It is essential for the entrepreneur to take a realistic view of the vulnerabilities and realities, as well as the compelling strengths of the opportunity. Often, the iterative process of carefully examining and re-evaluating different ideas, through the different perspectives of the team members, often ‘ triggers creative ideas and insights about how the initial business concept and strategy can be altered and adapted to significantly enhance the value chain, free cash flow ’. This process is therefore essential to value creation and characteristics, and risk-reward relationships and thus the fit ’. the development of high potential ventures, but it is still far from being a fait-accompli. This early planning stage is also a excellent time for a trial period in which to test relationships between prospective team members. This planning work can be detailed, tedious and sometimes downright boring. Finding out now who can deliver what, and who can stay the distance; who has the desired work ethic, consistency and reliability; and whether you can all work harmoniously; cab say a lot of money and headaches later. Ultimately, the fit issue boils down to this: ‘ do do the opportunity, the required resources (and their cost), the other team members (if any), the timing, and balance of risk and reward work for me?’
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Exercise 1: QuickScreen I.
Market and Margin Related Issues
Criterion
Higher Potential
Lower Potential
Need/want/problem
Identified
Unfocused
Customers
Reachable and receptive
Unreachable/loyal to others
Payback to users
Less than one year
More than 3 years
Value added or created
IRR 40% +
IRR less than 20%
Market size
$50-100 million
Less than $10million or + $1 billion
Market growth rate
More than 20%
Less than 20%, contracting
Gross margin
More than 40% and durable
Less than 20% and fragile
Overall Potential 1. Market 2. Margins
Higher Higher
Avg Avg
Lower Lower
II. Competitive Advantages
Fixed and variable costs Degree of control ● prices and cost ●channels of supply and distribution Barriers to competitors’ entry proprietary advantage ● ●lead time advantage (product, technology, people, resources, location) Service chain Contractual advantage Contacts and networks Overall Potential 1. Costs 2. Channel 3. Barriers to entry 4. Timing
Higher Higher Higher Higher
Higher Potential Lowest
Lower Potential highest Weaker
Can create Defensible Slow competition
Weak/none None None
Strong edge Exclusive Key access
No edge None Limited
Avg Avg Avg Avg
Lower Lower Lower Lower
III. Value Creation and Realization Issues
Profit after tax Time to breakeven Time to positive cash flow ROI potential Value Capitalization requirements Exit mechanism Overall value creation potential 1. Timing Higher 2. Profit/free cash flow Higher 3. Exit/liquidity Higher
Higher Potential 10-15% more and durable Less than 2 years Less than 2 years 40-70% +, durable High strategic value Low-moderate; fundable IPO, acquisition
Lower Potential Less than 5%; fragile More than 3 years More than 3 years Less than 20%, fragile Low strategic value Very high; difficult to fund Undefined, illiquid investment
Avg Avg Avg
Lower Lower Lower
IV. Overall Potential Go
No Go
Go, if ….
1. Margins and markets 2. Competitive advantages 3. Value creation and realization
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4. Fit: ‘O’ + ‘R’ + ‘T’ 5. Risk-reward balance 6. Timing 7. Other compelling issues: must know or likely to fail a. b, c. d. e.
Venture Opportunity Screening Exercises (VOSE) The venture creation process requires performance of due diligence. The components of these exercises are used to channel your thought and data collection efforts toward creating the foundation for development of the complete Business Plan. Allow for a dynamic processing of each component and thereby the shaping of the opportunity and a plan to execute it. It is OK to be initially broad in your perspective and then become more focused in later iterations. At the end of the VOSE exercise, you should have a clear idea of the relative attractiveness of your opportunity. However, it is rarely simply cut and dried. Mostly, there will be considerable uncertainty and numerous unknowns and risks. Completing these exercises can, however, help you understand those uncertainties and risks as you make a decision about the business idea. The QuickScreen process will help you devise ways to make these uncertainties and risks acceptable for you, and if not, then you will know that you need to keep searching. Every person and business idea is unique. Operations, marketing, cash flow cycles, and so forth vary a good bit from company to company, from industry to industry, region to region, and from country to country. As a result, you may find that not every issue is pertinent to your venture, and perhaps some questions may be irrelevant. Here and there you may need to add to these exercises or further tailor them to your particular circumstances. Working diligently through these exercises is quite a lengthy process. They create a map of how to think about the tough, dull, legwork of good due diligence that should be done before launching into a venture. Completing these exercises will help you determine if your opportunity is attractive enough vis-a-vis the four anchors to develop a complete Business Plan. As you work through these exercises, you will find that much of the work of writing a Business Plan comes from your answers provided in these exercises. While you may decide to delay work on some of these exercises, eventually you will need to ask yourself and your ‘team’ almost all of these questions. Ideally also, each member of your ‘team’ should complete these exercises.
University of Pretoria (NIC 2009)
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Exercise 2: Venture Opportunity Screening Exercises (VOSE) Opportunity Concept and Strategy Statement
Briefly describe your vision, the opportunity concept, and your strategy. What is your vision for the business? What is the value creation proposition? What is the significant problem, want, or need that it will solve? Why is this important enough that a customer or end user will pay an above average to a premium p rice for it? Why does this opportunity exist, now, for you? Can you describe the concept and your market entry strategy in 25 words or less? The Venture Opportunity Profile
Fill in this profile by indicating for each criterion where your venture is located on the potential continuum. Check off your best estimate of where your idea stacks up, being as specific as possible. If you are having trouble, information can be found in magazines and newsletters, from other entrepreneurs, from trade shows and fairs, or from online sources.
Criterion Industry and Market: Market: Need
Customers Use benefits Value added Product life Market Structure Market size Growth rate Market capacity Market share attainable (Year 5) Cost structure Economics: Profits after tax ROI potential Capital requirements Internal rate of return potential Free cash flow characteristics:
Sales growth Asset intensity Spontaneous working Capital R&D/capital expenditures Gross margins Time to breakeven – P&L
Harvest Issues: Value added potential Valuation multiples and comparables
Exit mechanism and strategy Capital market context Competitive Advantage Issues: Fixed and variable costs
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Highest potential
Lowest potential
Market driven; identified; recurring revenue niche Reachable; purchase orders Less than one year payback High; advance payments Durable
Unfocussed; onetime revenue Loyal to others or unreachable Three years plus payback Low; minimal impact on market perishable
Imperfect, fragmented competition or emerging industry $100 + million to $1 billion sales potential Growth at 30 to 50% or more At or near full capacity 20% or more; leader Low-cost provider; cost advantage
Highly concentrated or mature or declining industry Unknown, less than $20 million or multibillion sales Contracting or less than 10% Under capacity Less than 5% Declining cost
10% to 15% or more; durable 25% or more; high value Low to moderate; fundable 25% or more per year Favourable; sustainable; 20-30+% of sales Moderate to high (15 + % to 20%) Low/sales$ Low, incremental requirements
Less than 15%; fragile Less than 15 to 20%; low value Very high; un-fundable Less than 15% per year Less than 10% of sales Less than 10% High/sales$ High requirements
Low requirements Exceeding 40% and durable Less than 2 years; breakeven not creeping
High requirements Under 20% Greater than 4 years; breakeven creeping up
High strategic value p/e = 20 + ×; 8-10 + ×EBIT; 1.5 – 2 + × revenue free cash flow 8 -10 + × Present or envisioned options Favourable valuations, timing, capital available; realizable liquidity
Low strategic value
Lowest; high operating leverage
Undefined; illiquid investment Unfavourable; credit crunch
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Control over costs, prices, and distribution Barriers to entry: Proprietary protection response/lead time Legal, contractual advantage Contacts and networks Key people
Moderate to strong
weak
Have or can gain
None
Competition low: napping Proprietary or exclusivity
Unable to gain edge None
Well-developed; accessible Top talent; an A team
Crude; limited B or C team
Management team: Entrepreneurial team Industry and technical experience Integrity Intellectual honesty
All-star combination; free agents Top of the field; super track record
Weak or solo entrepreneur underdeveloped
Highest standards Know what they do not know
Questionable Do not want to know what they do not know
Fatal-flaw Issue:
Personal criteria: Goals and fit
Upside/downside issues Opportunity costs Desirability Risk/reward tolerance Stress tolerance Strategic Differentiation: Degree of fit Team Service management Timing Technology Flexibility
Opportunity orientation Pricing Distribution channels Room for error
Nonexistent
Getting what you want; but wanting what you get Attainable success/limited Acceptable cuts in salary, etc Fits with lifestyle Calculated risk; low R/R ratio Thrives under pressure
High Best in class; excellent free agents Superior service concept Rowing in the tide Groundbreaking; one-of-a-kind Able to adapt; commit and de-commit quickly Always searching for opportunities At or near leader Accessible; networks in place Forgiving strategy
One or more
Surprises Linear; on some continuum Comfortable with status quo Simply pursuing big money Risk averse or gambler Cracks under pressure
Low B tea; no free agents Perceived as unimportant Rowing against the tide Many substitutes or competitors Slow; stubborn Operating in a vacuum; napping Undercut competitor; low prices Unknown; inaccessible Unforgiving, rigid strategy
Assess the external environment surrounding your venture opportunity, including the following: an assessment of the characteristics of the opportunity window, including its perishability a statement of what entry strategy suits the opportunity, and why a statement of evidence of and / or reasoning behind your b elief that there is a good fit between the external environment and the forces creating your opportunity a statement of your business exit strategy and an assessment of the prospects that this strategy can be met, including a consideration of whether the risks, rewards, and tradeoffs are acceptable Checkpoint
Before you proceed to further exercises, be sure the opportunity you have outlined is compelling and you can answer the question, “why does the opportunity exist now? ” It is possible you ought to abandon or alter the product or service idea behind your venture at this point. The amount of money and time needed to get the product or service to market, and to be open for business may be beyond your capability limits. Beware: the opportunity for which the potential rewards are too large compared to the risks and vulnerabilities to obsolescence and competition.
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