My profession exposes me to many young companies that feel the growing pains and pressure to keep up with the latest technologies and innovations. Although this is always challenging, young businesses typically have flat management hierarchies, small teams and flexible technology platforms that can switch their business model or build out new features at a moment’s notice. But what about those companies that have been around for years?
Last week, I met with two successful entrepreneurs (and dear friends) who are at a cross roads with their legacy business. The business has historically generated a few million dollars in EBITDA, affording them large salaries and a coveted lifestyle. Despite this success, they, like many established businesses, have been facing the challenges of keeping pace with new technology and innovation in their industry.
Over the last three years, they have been trying to figure out how their industry’s increasing dependence on data could enable them to scale very rapidly. They have been focused on investing into a more robust technology platform to afford them greater economies of scale with additional product offerings to generate incremental revenue from their existing customer base.
For a legacy business, big or small, innovation on any level is very difficult. If and when management decides it is time to innovate, they need to be prepared for the greater organizational change that might very well have a negative domino effect, impacting HR, budget, revenue, and the overall health of the business. This can stress founder relationships and affect early employees that no longer fit the direction of the business. For good leaders, this is often an emotionally taxing period when loyal employees must move on for a myriad of reasons.
For these entrepreneurs and many others, they have recently been experiencing growing pains driven by a rapidly changing technology component within their business. Although they have been investing heavily to improve their product, they are still struggling to launch an innovative, new platform to meet their customer needs. This predicament is what Clayton Christensen, of Harvard Business School, dubbed in his book “The Innovator’s Dilemma.” The innovator’s dilemma is the “difficult choice an established company faces when it has to choose between holding onto an existing market by doing the same thing a bit better, or capturing new markets by embracing new technologies and adopting new business models.”
So, as an early stage investor, it should not surprise you that I have seen the most disruptive innovations come out of start-ups, not from long-standing companies. Start-ups are forced to be scrappy, creating solutions with a very tight budget with very little manpower. This leads to solutions that can be rapidly tested until the cheapest and most scalable one is found. Legacy companies and other established companies must deal with the red tape surrounding upper management, combat old and established systems, and think about tenured employees before testing even one innovative idea.
My friends are now trying to assess whether or not it is the right time to separate their new product vision into a new company and sell their legacy business. My friends have worked really hard over the last 12 years to even have this option, albeit a difficult one. This new strategy would provide them the capital to fund the new company and allow their technology team to focus only on the new platform. With sufficient capital and a tech team that already knows the industry, this new company already has a potentially higher rate of success than most. This would enable them to reach market faster, avoid distractions from legacy issues and invigorate the engineers who are fatigued from the dual responsibilities of innovation and maintenance.
So the question is, what do you think they should do?