Sad Ending, Happy Ending: Cautionary Tales For Entrepreneurs

It’s not news that larger companies sometimes buy smaller ones just to kill potential competition. For some entrepreneurs, this isn’t entirely a bad thing. You can adopt Hemingway’s advice about selling stories to Hollywood, which was to take the money at the California border and don’t look back. If you feel you’ve been adequately compensated for your idea and hard work, you may feel only a twinge to let your innovation die. And then you can move on to your next project.

But for those who care passionately about the products they have developed and the customers they intend to serve, this outcome to a “sweetheart” deal can be devastating. Here are two true, cautionary tales, and some thoughts about how you can protect yourself.

Sad Ending

For decades, Hammurabi Corp had dominated its universe like the Emperor Palpatine dominated the Death Star. It had one or two healthy competitors, but they were so far down in market share that Company A was unquestionably king of its market.

Hammurabi Corp made a product that every business needed. Their product line included various iterations, for smaller business up to the enterprise level. But while the bigger customers had no problem paying handsomely for their product, or mastering its complexity — big organizations have whole departments for that — folks at the entry level struggled.

Hammurabi Corp’s entry-level product was a stripped-down version of their enterprise offering, with baffling technical terminology and minimal support. It also ran only on standard business platforms. While very cheap compared to the enterprise products, it was a painful purchase for those just getting started. But Hammurabi didn’t care — there were very few other choices, and those buying the entry level product migrated up the ladder smoothly to more profits. Ka-ching! It had worked that way forever, and it would be forever thus.

Enter Pyramus and Thisbe*, two bright young developers working in an incubator city called Babylon**. They had a better idea for the entry-level market, and developed a product much like themselves: young, hip, fun (at least compared to other business applications), and straightforward. Best of all, it lived online, so it could run on any platform. And because it was online, Pyramus and Thisbe could make a tidy profit while keeping prices much lower than anything else available. There was even — gasp! — a free version.

But when Pyramus and Thisbe were finished developing their product, they faced the Entrepreneur’s Dilemma.  They didn’t have enough money for marketing, and they began to search for investors.

Hammurabi Corp came in with a great offer: “Sell to us, and your free and low-cost products will replace our creaky but expensive entry-level offering. Your market gets an exciting, easy, and affordable new option. We get the opportunity to migrate them up when they grow. Everybody wins!”

It sounded perfectly logical, but Pyramus and Thisbe were smart and cautious, so they built some fail-safes into their deal:

  • They wanted to make sure that their future customers would be served as intended, and that the product and target audience would not simply be absorbed into the corporate sponge. So they mandated that they would be hired on as product managers.
  • To guard against Hammurabi Corp simply buying their product to kill it, their contract also mandated that the company spend a significant, and specific, amount on marketing. No company, they reasoned, would spend hundreds of thousands of dollars, after acquisition costs, on marketing, if they weren’t serious about launching the product.

Pyramus and Thisbe were wrong.

Hammurabi Corp did everything Pyramus and Thisbe asked for, and with gusto: they assigned one of their best in-house marketing groups to work directly with the pair on developing a strategy. The marketing group hired an outstanding creative team to create an ad campaign. No expense was spared, from focus groups to witty and audacious web concept videos. Pyramus and Thisbe had extraordinary autonomy, and were part of every decision. No one at Company A had ever seen anything like it, and everyone was excited.

There were a couple of tiny concerns. For example, no work was being done on the website that would be the hub of the whole product. And people on the product team were forbidden from sharing any of the work they were doing with anyone else within the company, an unusual condition at Hammurabi Corp. Only the senior executives were allowed to see what was happening. Remarkably — for they were a conservative crowd — the executives approved everything and continually praised the team for their efforts.

But in the accounting department of Hammurabi Corp, someone was keeping a very special, secret spreadsheet. The spreadsheet tracked every penny of marketing expenditures on Babylon, as it had come to be known. And at the very hour that the contractually obligated figure was reached, Babylon was killed.

I am not kidding: that very afternoon, the outside ad team was dismissed. The astonished in-house marketing group — who had no idea they were not working on a real effort — were re-assigned to other projects, after they’d each signed a legal document promising never to reveal details of any of the work they’d done. (Which was both crazy and short-sighted, as the customer insights gained in the effort would have helped other in-house marketing efforts.)

Worst of all, Pyramus and Thisbe were immediately escorted from their offices, and their product was dead, because of course, their initial contract included a lifetime non-compete clause.

Hammurabi Corp was back to business as usual. Sure, they’d spent a few million dollars on acquisition, plus more on marketing that would never see the light of day. But from their perspective, it was a small price to pay for killing a competitor.

*not their real names

**not really where they lived

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