Reacting Forward (5): Proof of Concept

“No one will need more than 637KB of memory for a personal computer. 640KB ought to be enough for anybody.”  –  Bill Gates, 1981

(Co-founder and chairman of Microsoft)

George is the Managing Partner at Red Rocket Ventures, a growth strategy consulting, executive coaching, interim executive and financial advisory firm in the digital tech space. He is also a managing member of the FireStarter Fund, an early stage venture capital fund in the digital tech space, and the owner and Co-CEO at Restaurant Furniture Plus, a B2B e-commerce seller of furniture to restaurants and other food service clients.

George is also a serial entrepreneur leveraging over 8 years of investment banking experience, 15 years of startup/digital management and, 10 years of consulting in the B2C and B2B online space. George is best suited for CEO/CMO roles, consulting, private equity, venture capital and otherwise.

George Deep put it this way: “I have had the luxury of meeting over 500 startups at red Rock Ventures over the last three years. And, typically, most of them approach me at the same point in their startup development. They have just finished building their new product, whether it be a website or mobile app or whatever, and they are seeking venture capital to assist them with sales and marketing to bring in new users. It is typically then, when I ask them “do you have any current users and how quickly are you growing” to point to a proof-of-concept around your startup. Which is typically followed by, “I don’t have a material user base yet, that is why I need the venture capital”. Then I shrug, and have to be the “bad guy” of telling them they are not ready to raise professional venture capital. A sad and familiar story, as without this round of capital, the startup will most likely go out of business, as they lack other sources. But, why is this the same old story? In my opinion, it is because entrepreneurs are so focused on their product, with their heads down coding away on some cool technology feature or functionality, that they don’t think far enough ahead to what will keep their business funded. Yes, many product-driven disciples will say, “if you build a great product, users will come”. And, they are right.

But, the question is – by when?”

A Proof of Concept is different to a Prototype, although a prototype can be part of the proof of concept. A Proof of Concept (POC) is a small exercise to test the design idea or assumption with stakeholders who will be involved in the sales process. This means, customers have tested the product, distributors have aligned it to their system, and engineers have given the thumbs up to scalability.

The main purpose of developing a POC is to demonstrate the functionality and verify a certain concept or theory that can be achieved in development. Prototyping is a valuable exercise that allows the innovator to visualize how the product will function. It is a working interactive model of the end product that gives an idea of the design, navigation and layout. It is only part of the POC. While a POC shows that a product or feature can be developed and marketed successfully, a prototype shows how it will be developed.

It’s hard to place a value on an idea when there’s no evidence to support that value, no matter how great you think the idea is. You might be convinced you’ll one day turn it into a billion dollars, but, the investor sees nothing but hope and empty words. As much as they want to invest someone’s hard-earned money (it’s often not the investor’s money) in your idea, how can they without knowing there are customers lined up waiting? Or without knowing the idea is workable?

What works very well to provide that evidence is to run a proof of concept. This means starting smaller, investing your own money, heart, and effort in a model or scaled-back version of the concept. If you can show that customers respond to the idea on a small scale, then investors are better able to envisage how the business will respond to an injection of capital. In turn, you’re more likely to get the capital you need.

You need something to convince your investors of your idea’s soundness. A proof of concept works best.

This is what I did with my first company. I had what I thought was a winning idea and incorporated it as TGB International LLC. After several weeks of contemplating the incorporation paperwork, drawing diagrams on napkins, interviewing potential customers, manufacturers, and marketers; I had fleshed out my first business plan.

I targeted an asset that I felt could use my smarts to expand sales and raise profits. The asset I wanted to buy generated less than $700,000 a year in sales and was not very profitable. I felt I could get it for a low multiple on revenue and offered three times annual revenue in cash for the rights purchase. A fair market price for such a deal at that time. The challenge was, I had only $30,000 in savings and I needed $2.1 million.

The owner of the asset was a distressed company suffering cash-flow issues (I read their SEC reports and reviewed chat online about the share price) The $2.1 million cash I offered was attractive. They asked for proof of funds and I set about finding an investor.

Banks gave me little encouragement. They struggled with the fact that the business model I proposed had never been tried before. They said I had never been a CEO or owned a company. Put simply, they didn’t know me well enough to take a leap of faith.

I had no rich relatives to beg from and few assets of my own to sell or leverage.

I met with several venture firms, they were polite with their rejections. They understood the business model and thought it all reasonable risk, however, it was clear I needed to prove my concept.

I knew of another asset that generated only $20,000 a year in revenue, made a loss, and that I could purchase for about one-times revenue. The owner would be glad to get rid of it and probably thought me a fool for buying.

I adjusted my business plan and worked out that I needed an additional $30,000 working capital to execute a market plan. If I could demonstrate some improvement in this worn-out asset to the investor, it would demonstrate the validity of my business model. When the sale of our home closed, I had sufficient funds to buy the asset and run a proof of concept.

Though it was a product with a small revenue stream, I was able to build the business model around it and within a few months, showed increased revenue and profit. I lined up contract manufacturers, contract distributors, then demonstrated the effectiveness of the marketing plan by creating a handful of new customers. I also set up outsourced accounting, regulatory, and customer services to showcase the virtual model in its entire hub and spokes structure. In effect I built a full, real company around this small asset and my pitch to the same VCs was along the lines of, “I have set up a plug and play business. See what I did with this worn-out asset. Imagine what I can do with the bigger one.”

Investors now could better envisage how a larger scale business would work. I got the funding. I bought the asset and QOL Medical was born. Without Proof of Concept, I don’t think it would have existed at all.

Like George, I come across a lot of companies that have spent all their own cash to develop a product and have nothing left to test it in a POC. They often know that the next step is to give the product away for free and collect data on the benefit to the customer testing it. They do not have the cashflow to buy the time to sit back and wait. It’s essential, therefore, to build the proof of concept into the business plan process, and have enough capital to see the business through the POC phase.

Homework Time:

• A proof of concept’s only purpose is to show whether you can reasonably create a product.
• A prototype is a model of the product that follows POC approval. It’s usually staged in the real world as opposed to a controlled setting to determine how the product would actually perform.
• A minimum viable product (MVP) goes a step further—It is an advancement that contains all of the basic features a user would need to use a product. It likely has some issues that need to be worked out, but it provides a solid idea of what it would be like to use the end product.

Practice writing a POC. there are free templates online.

Step 1: Describe what problem you’re trying to solve (and for who)

Investors aren’t going to funnel money into a project that doesn’t solve a specific problem. Your winning idea should be a fix for something that needs fixing. Your intuition may be sound, but investors need data. Decide which people you aim to serve and then how you are going to collect the data. (For example, you could conduct a focus group or set of interviews with people in your market to confirm that your idea would serve them well.)

Step 2: Provide a list of the resources you’ll need to complete it

It takes a lot of tangible and intangible resources to create a new product (especially at scale). Create a comprehensive list of everything you need to roll it out. Apart from obvious resources like materials and machines, be mindful of commonly overlooked items like time spent on research and sourcing external expertise.

Step 3: Specify success criteria/metrics

Before you draw any conclusions about your POC, you have to set specific criteria for success. If you’re designing a product for a client, you’ll want to ask them what their criteria are for success.

Step 4: Set a scope, cost and timeline for the prototype and then for scaling.

Then to what extent do you expect to scale your project, and how quickly do you plan to do so? Maybe you’ll initially release the new product in one locale or country, measure its success, then scale it further over time. Or maybe you’ll lose no time and execute a full launch all at once. Include these details in your POC to inform investors and executives of your pacing.

Once you’ve finished your POC, you can move forward with building a prototype, testing it on members of your target audience, and collecting and implementing their feedback as you develop your MVP.

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