May 16, 2015

Your first customers

A couple of the raw startups I advise have recently asked me about a hugely important subject — dealing with their very first customers. The big deal here is that initial customers can offer three different kinds of valuable resources:

*Confusingly, both credibility and product feedback are sometimes called “validation”.

Questions of money are of course heavily influenced by how complete your product or service is. In particular:

Equity investment by your early customers and partners is problematic. In particular:

And it probably is equity we’re talking about. Corporations with audited financials will be happier with straight equity (preferred or otherwise) than with convertible debt, because they’ll have fewer accounting headaches as to whether they can carry it on their balance sheets at full value.

Sometimes early customers will want to have exclusive rights to your technology, so that they may have a competitive advantage. My thoughts on that include: 

And of course, be very skeptical about deals that give your customers any kind of intellectual property rights. One exception: Some kind of code escrow in case you go out of business could protect them without really hurting you.

As for credibility, the most important thing I have to say is in the form of a tip: Negotiate commitments to marketing and sales support up front. Examples could include:

The key point here is that big companies are much more generous with such permissions at deal time than later on, where they have many people who can say “No”. That principle is also why you need to negotiate any sales exclusives precisely up front, rather than leaving it open to later determination of who they do or don’t think are their important competitors.

Note: “Success stories” are often “We bought this because we expect great benefits after we deploy it” rather than “We bought this and have experienced great benefits already”.  As an analyst, I hate that. 🙂 But for obvious reasons, it’s the form you can get earlier, and especially in the context suggested by this post, time can be of the essence.

As for product feedback and advice, I actually wrote about that in a post about startups last month. So in conclusion I’ll just quote myself here:

  • Design partners have multiple roles.
    • They give you guidance on what features to build in.
    • Hopefully, they test your product.
    • Hopefully, they use and/or buy your product, providing validation to investors, press and others.
  • It is helpful if design partners are representative of a sufficiently large set of customers with sufficiently great willingness to pay.
  • Very prestigious design partners are … prestigious. That’s useful. But some of them, such as elite internet companies, may not truly be representative of any kind of paying constituency.
  • Even beyond that, elite companies sometimes have needs that more ordinary organizations do not.
  • The right number of design partners is >= 2. A single partner will lead you down blind alleys, due to their unique needs and, even more, to the needs that they don’t have which many other organizations however do.
  • Inherently, you’re working with a design partner over (at a minimum) many months. Their opinions may change over that time. (For one thing, their relevant personnel may change.) So a sale at the end of the process is unfortunately not assured.

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