- Yeah, so that's a question that a lot of people
struggle with because, you know,
there's all these amazing examples of companies
like Hootsuite, that was built out of Memelabs,
Shopify that just went public, that started off as
a snowboard online e-commerce site.
to FreshBooks, that was initially, kind of a marketing,
analytics, marketing, automation company
for small businesses that realize that
invoicing their businesses, the customers were
a real pain in the butt, you know,
and they built this great product.
There's all these great examples of companies
that started off as consulting companies or
service companies that built products.
Now the challenge, and if you've tried to do this
you understand it, 'cause I went through it
when I was building Spheric where
I had this team, you know, we had 30 engineers,
30 developers, 30 people that could create.
And I thought, "I gotta build a product."
Because consulting is very transactional and
it's not repeatable and it doesn't scale because, you know,
you're always trying to get the next client
to fill up the hours or kind of get new projects.
And I feel like the challenges,
you have a resource that could be making you money
but then you're gonna divert it to building something.
And pretty much, I think, it's just natural, human instincts
that when something isn't going well,
or you're running out of money or you realize that
your cash is running low,
or you have demand that you can't deal with,
it's very easy to say,
"Okay, hey, I know we're working on this product
"but let's shift it back to working with the customer."
So, step one, I'm gonna suggest that you take the resource
and you put it outside the business.
You really gotta treat it like a separate entity, you know,
where you can hire a new person and you fund it
from the profits from your service company,
or you can take somebody from your team and
kind of start building up that capacity.
And you can start as simple as one person.
I think, 37signals is a great example,
where they hired DHH as a contractor,
working 10 hours a week to build Basecamp,
even though they were working with customers full-time,
they said, "Hey, you know, we want to build
"this tool for ourselves,
"we think there's maybe a need for other people to use it.
"Why don't you build it part-time while you work with us?"
So, that to me is a really good way to kind of keep
the new product and kind of the new entity clean.
The other challenge is, you know,
what I've seen is a lot of times when you have
multiple founders on the service company,
where you have two, a co-founder or maybe
three or four people, especially if you're like an agency.
When you're, you know, if you're the guy that goes over
to really expand the product,
that if you launch the product it starts to get legs,
and you go off and you start putting all your
time and energy, 100%, into this product,
yet, maybe the way you structured it was that
the service company owned the product.
Right, because it financed it through its profits.
It's really this wierd position where you have
partners in the business that aren't active in the business,
that aren't really responsible for the success
of the product that are major shareholders, right.
So, that's why I always suggest, start clean.
What you want to do is say,
"I'm going to dedicate X amount of money,
"let's call it 200,000 dollars, in the next 16 months,
"with one or two developers, a developer and a designer.
"And it's going to go in at a valuation of,
"let's call it, a million dollars."
Treat it like an investment 'cause truly that's what it is.
You've got a profit, you've got cash
and you're putting it into another entity as an investment.
So you want to give yourself an extra boost,
so you do a low valuation,
a million dollars seems about fair.
And then that way, the cap table is really clean.
So the service company essentially has
an equity stake in this new product company
at that valuation.
Now that might seem like not a lot because
a lot of people that might be a co-founder
in a service company might think,
"Well, I mean, it wouldn't even exist if it wasn't my idea."
Et cetera, et cetera.
But trust me, if you've been building companies for a while,
you know that it's never the initial idea,
the initial team really, that makes it successful.
It's that, you know, that continuously investing time
and kind of overtaking obstacles that is gonna be
the reason it's successful, not the initial investment.
So, what that allows you to do is it allows that person
running that company to have enough equity
in the cap table, you know, the way that you
give away shares, so that you can incentivize
to build a team.
Because again, I've seen this happen so many times.
I've actually invested in a company recently
that was spun out of a service company
and when they first looked at it,
I looked at their cap table, and the service company
owns 70% of this new product and I thought,
"Well, right off the bat, you have 70% ownership
"of the company owned by a small group of people.
"You don't have enough equity to even
"incentivize the CEO or other Vice-Presidents."
If you're building a venture-backed company
that's gonna grow to 100 million a year revenue,
in the next seven years, 'cause that's what
you're supposed to be aiming for,
there's no way you're even,
you didn't even start off to be successful.
Like, you're walking around with lead on your feet.
Like you're just, it's not even going to get going.
So, that is the overall structure.
Spin it out, keep it clean, take it,
the money from the service company,
invest it in the product company.
Build a new team if possible, so you're not pulling
that team back into other client work.
And really allow it to thrive and grow
and by all means, if there's opportunities for customers
or support them or give any other resources,
et cetera, et cetera.
You want to do that because you've a vested interest
in seeing it successful but doing that
will give it the best chances.
It doesn't guarantee anything 'cause no startups guarantee
but it will allow you to build a structure to grow,
to eventually, if you want, raise venture capital
and build a really cool, meaningful company.
So, that's my framework when people ask me,
"How do you build a product company
"within a service company?"
That's the structure and approach that I suggest
because it's the one that's gonna set you up to succeed.
And if the goal is to eventually wind this company down
or sell it so that you can work on that one full-time,
then that's still the way you want to do it.
And that's just a decision in regards to where
you spend your time, longterm.
I hope you find that successful.
It was a really great question, and one that I know
a lot of people struggle with.
I struggled with, I did it wrong,
and then I've seen really great examples of companies
do it amazingly, so I want to share that with you guys
and I will see you guys next week.