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February 04, 2009

Advice to Entrepreneurs – In Lieu of Capital

Programming contracts can fund development of your breakthrough product when no one else will; and contracts are a good way to keep eating while you pursue your dream. This strategy takes more patience than would be needed if you could get angel or venture funding to pay you (and any associates) while you do initial development and work towards revenue; but you probably can't get that funding today unless you have a great track record. And you don't want to give up your dream.

That strategy worked several times for me; didn't make me rich but did get me good product income when I had no money to invest and couldn't or didn't know how to raise any.

Once in the 1970s a bank hired me to develop some software to connect their computers to the newly formed automated clearing houses (ACHs) which would make paperless credits and debits possible. I wrote the software for my usual fixed fee with 25% up front and the rest in progress payments. Then the bank came to me and said: "We are part of a joint venture which could market software like this to other banks. All banks need this capability because social security payments are going to come through the ACH and none of them are prepared. Moreover, there are standards for what these transactions will look like and how they're accounted for so every bank has pretty much the same requirements. This is a great opportunity but we need a bunch of changes to make this into a product. What would you charge us for these changes?"

I knew more about the software business than they did and knew that changes for productization would be more extensive than they thought. I quoted them a high but reasonable fee for this which, to their surprise, was more than the original development cost. "We don't have that in our budget," they said.

By now I was convinced of the product potential. "OK," I said, "I'll make the changes for a much smaller amount which will be a non-refundable advance(basically what I needed to support my family) but I'll keep ownership and grant you an exclusive license to sell the product. You'll pay me 2/7 of gross sales of new product and can deduct the advance from that. You'll sell a one year license that comes with free support and maintenance releases. I'll back up your support people (what we'd call tier three today). Additional year licenses will cost x% (I forget what it was) of the then current cost of an initial license and I'll get 4/7 of them because there won't be much selling effort."

Their business plan hadn't included renewal income so much of the cost of what I proposed was out of money they hadn't banked on. But, most important, the outlay for development now fit the budget money they had available. It was a deal and I was in the software rather than just contract programming business.

The product became the leading product it in its category. My company grew but my interests wandered to politics. Eventually I sold the remaining product rights back the bank's joint venture for enough to finance three sabbatical years during which I ran for the US Senate (unsuccessfully) and was Vermont Secretary of Transportation. That's all another story.

Patient irrational exuberance is not quite an oxymoron. Entrepreneurs always need irrational exuberance; in times like these – when the potential rewards are high but the price of entry almost unmanageable – you have to believe in yourself and your ideas enough to wait a long time for gratification. Hanging out doing contract programming is a good way to spot opportunities (which someone is willing to pay for) and to earn a share of them.

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