Closer To The Ideal

I am surprised that I’ve never before linked to all of this stuff. This story has shaped my thinking on a lt of things. First of all, I learned SQL by reading Phillip Greenspun, back in 1999. And the way Arsdigita fell apart (and Greenspun’s and Michael Yoon’s and Eve Anderson’s various accounts, have played a huge role in how I think about a large range of issues, from funding, to startups, to ethics, to how different people try to manage the truth.

Michael Yoon’s account has always struck me as possibly being the closest to the truth, partly because he is the most self-critical.

So now I present an alternative perspective, the lessons that I learned from ArsDigita, both good and bad. This is not an apologia for the VCs who funded ArsDigita or for the post-VC management of ArsDigita, of which, for a time, I was a member. I recognize that the VCs and the management team (again, I include myself) made many mistakes and, at times, committed outright wrongdoing. My hope is to show you that there is much more to the story than what Eve wrote in her diary and that my truth is not as black and white as hers.

…Eve’s article reminded me, ironically, of the story of Adam and Eve. According to her, pre-VC ArsDigita was truly Edenic:

A company that was profitable from Day 1. A company that built products that were useful to many other companies. A company that had ethics, that treated the breadwinners (programmers) with respect, a company that could afford to help people and give away software and training, while still having enough left over to grow and save a few $million in the bank.

Then came the Fall:

… until the venture capitalists arrived on the scene. Lying to customers and employees became commonplace. Greed replaced philanthropy as each of the company’s unique programs was dropped. … The technical and managerial incompetence of the VCs and those they hired drove the company into the ground.

I read Milton in high school, so Eve’s thesis is clear enough to me: Venture capitalists = Satan.

But what exactly happened when the VCs “arrived on the scene”? Did they arrive in a Publishers Clearing House Sweepstakes van, ring the doorbell, hand us one of those enormous checks, and then trick us into signing it before we could read the fine print? Or did they break down the door, walk us down to the ATM at gunpoint, and demand that we deposit their $38,000,000? Facetiousness aside, my point is that the management of pre-VC ArsDigita (including Philip) signed the VCs’ term sheet of its own free will. (In the spirit of full disclosure, I should mention that I thought that taking the money was a good idea, mainly because I thought we were going to go public and get rich; had it been up to me, I probably would have made the same decision.)

Eve’s description of the transaction itself is impersonal: “In late March 2000, ArsDigita received $38 million in financing, primarily from General Atlantic Partners and Greylock, with a bit thrown in by Bain and Trident Capital as well.” ArsDigita is presented as a passive entity, not doing anything, just receiving, but that is misleading. We were not merely receiving; we were taking.

So why did we take? What was the Forbidden Fruit that tempted us to risk Eden? Here is Eve’s explanation of why we took the VC money: “A small group of developers earning lots of money, making clients happy, and developing and releasing a useful software product is wonderful, but … to make a substantial impact on the world, you gotta grow.” On the desire to make a substantial impact, I agree with Eve. I came to ArsDigita with a deep cynicism about the IT industry, and saw ArsDigita as an opportunity to show the world a better way. (When it appeared that we might make a lot of money in the process, that only made me happier.)

Of course, “making a substantial impact” is a rather vague goal, so I’m not even sure if my definition of “a substantial impact” coincides with Eve’s. My main objection, however, is to the implication that a blend of altruism (”making a substantial impact”) and manifest destiny (”you gotta grow”) was the reason that we took the VC money. In the open source world, there are many examples of software (notably, Linux and Apache) making a substantial impact on the world without the benefit of a large infusion of VC cash.

Philip’s explanation of why we took the money is more substantial than Eve’s. The first reason he presents is: “Companies don’t like to rely on enterprise software from small companies. There is too much risk that the vendor will go bankrupt. Open source ameliorates this risk to some extent but the tendency to stick to IBM, Microsoft, and Oracle is strong. We tried to present a face of financial invincibility to the world.” In other words, companies would refuse to buy from us unless we could appear to be “financially invincible,” an appearance that, presumably, we’d project by sitting atop a mountain of VC cash. Certainly, a 38 million dollar vote of confidence from top-tier VC funds is a boon when trying to persuade prospective customers of your staying power, but, just a few paragraphs earlier, Philip relates how “customers were knocking like crazy,” name-dropping Siemens as “a good example” of our clientele, brought to our door by the Boston Consulting Group. With one of the world’s largest corporations on our client list and one of the world’s most prestigious management consultancies as our partner, weren’t we already defying the conventional wisdom that said we had to have VC backing in order to land big customers?

Philip provides three more reasons for taking the capital:

We figured that we could use the extra money to place some bets on product development and marketing. Under the product development rubric we thought we’d not make the client teams carry the full weight of ACS development on their shoulders. If they found a client whose needs were similar to what we wanted in the product, we’d do the job for a low-ish price to get experience with that problem … and develop reusable code to enhance ACS. Under the marketing rubric we’d expand our “education marketing” program. Finally, we wanted working capital. A company with $20 million in revenue really needs to have about $10 million in the bank in case a customer doesn’t pay, the economy turns soft, an important project is late, etc. Because we’d been growing 1000 percent per year we never had more than a couple of million dollars in the bank.

These all seem reasonable enough, but were they, in addition to the Face of Financial Invincibility, really compelling enough — independent of any other consideration — to convince Philip, the majority owner and CEO, to sign that term sheet, to give up his complete control of the company? I don’t think so. I think Philip wants to have it both ways, maintaining that ArsDigita was so innovative and visionary that giants like Siemens came to us, while, at the same time, claiming that we needed VC dollars and the VC stamp of approval in order to survive in the market.

So what else was motivating Philip? My theory is impatience, a perfectly understandable emotion in those Gold Rush times. I felt it too. When I first joined ArsDigita, Philip used to ask me about Sapient, because he was interested in the fact that they had never taken outside investment and yet managed to make it big. The nutshell version of Sapient’s story is that they started as two guys in 1991 and slogged it out for years, growing organically, until they went public in 1996. In 1999, the notion of waiting five whole years to cash out was absurd. Philip stopped asking me about Sapient, presumably after he’d made up his mind to pursue the VC crapshoot.

Writing now with the benefit of hindsight, my point is not to say “I told you so” (because I didn’t). Rather, my point is that we pre-VC ArsDigitans, must also bear responsibility for what happened to the company.

Writing now with the benefit of hindsight, my point is not to say “I told you so” (because I didn’t). Rather, my point is that we pre-VC ArsDigitans, must also bear responsibility for what happened to the company.

Philip disagrees:

How could these three guys [Peter Bloom (General Atlantic), Chip Hazard (Greylock), and Allen Shaheen (CEO)] have achieved such dreadful results? For that it is worth looking at what kind of leadership is required for a software products company. First, you probably want someone who has previously founded and run a company or been CEO at a company founded by others (i.e., not someone who has been an employee his or her whole life). Second, you probably want someone who has previous experience as an executive in the software products business. Third, you probably want someone with domain knowledge. Fourth, you probably want someone with technical knowledge.

Whatever strengths Peter, Chip, and Allen may have, all three were 0 for 4 on the qualifications listed above.

So what does this say about Philip, that he so poorly qualified his own investors? It’s not as if Philip met Peter and Chip for the first time on the day after we got the money. Philip’s four qualifications are not subjective. From the sound of it, Philip should have been able to ask Peter and Chip four yes-or-no questions each and then rule them out on the spot. If nothing else, Philip is at least guilty of inadequate due diligence.

As for Eve, she concurs with Philip, saying: “Greylock and General Atlantic Partners have mis-managed ArsDigita into the ground.” She does not acknowledge that the pre-VC management made a single mistake, justifying even the decision to accept the VC money with the facile rationalization that “you gotta grow.” She appears to believe that it is 100% someone else’s fault that ArsDigita failed.

To me, this is a gross oversimplification, a symptom of deeply entrenched denial. ArsDigita was a good company, especially in the beginning, and I miss it, the way that it was back then, but I think it’s false to claim that ArsDigita was perfectly noble in its aspirations to grow, an innocent victim of the VCs’ ruthless predations. I also think it’s disingenuous to gloss over the fact that, at the end of the day (to borrow one of our second CEO’s favorite phrases), we took 38 million dollars of someone else’s money.

The truth I see is more complicated. How could it not be? After all, we were, and are, human beings, blessed and cursed with the full array of human traits: idealism, optimism, ambition, arrogance, naivete, jealousy, and, last but certainly not least, greed.

..There is at least one more lesson to be learned, from Eve herself, who writes:

Richard Buck was very impressed with my work and told multiple people that I could do as much work in one day as most people do in two weeks. Given what I’ve written about Richard Buck so far, one might be disinclined to lend much credence to his opinion of my work. But my performance reviews have concurred: dedicated, brilliant, super-efficient, “capable of doing anything she sets her mind to,” extremely high standards, a “tough but fair” manager. So I was certainly no slacker by anyone’s standards.

Eve appears to believe that Richard Buck is dishonest about everything except his high opinion of her. Similarly, she presents snippets from performance reviews as evidence of her own excellence. This excerpt illustrates what I call Oblivious Sacred Cow Syndrome. Whether you like it or not, whether it’s fair or not, if you are a co-founder/team leader/VP/girlfriend of the chairman/etc., you are a Sacred Cow, and people will blow smoke up your ass. I know this from firsthand experience, because I too was a team leader, and I saw people hesitate to be honest with me, for fear of causing offense.

My fellow team leader DVR felt no such compunction when he wrote, in a peer performance review, that I was too concerned about making people happy and that, while he had never seen me offend anyone, he had never seen me inspire anyone either. (He also complained that I didn’t work enough hours, but that’s another topic altogether.) While this criticism stings, as do the criticisms of ACS 4 that I discussed above, I value the fact that they aren’t blunted by Sacred Cow deference, that they are honest, and I have tried to learn from them.

In many ways, the worst thing about being an Oblivious Sacred Cow is that you miss the opportunity to learn from your own mistakes, since no one is willing to tell you when you make one. Of course, if you actually believe your own hype (or appear to), that only alienates you further. I saw this happen to Eve at ArsDigita: While members of Eve’s team frequently complained about her lack of management skills, few, if any, felt comfortable addressing their issues with her directly; instead, many of them simply requested a transfer to a different team. Similarly, while everyone granted that Eve was prolific, people who had to use and/or maintain her code (for example, her ACS 3.x Ecommerce module) often derided it as ugly, full of kluges, etc. Of course, it’s not nice that all of these criticisms were made behind Eve’s back, and the excerpt above makes it clear that Eve is blissfully unaware of these alternate perspectives on her performance and abilities. She would, I expect, say that they are flatly untrue. However, whether or not these criticisms of Eve were completely fair or accurate, the real question is: Wouldn’t Eve herself have been better off if people had felt that they could approach her with their criticisms? At least then, she would have had the opportunity to refute some of the criticisms and learn from the rest.

In many ways, the worst thing about being an Oblivious Sacred Cow is that you miss the opportunity to learn from your own mistakes, since no one is willing to tell you when you make one. Of course, if you actually believe your own hype (or appear to), that only alienates you further. I saw this happen to Eve at ArsDigita: While members of Eve’s team frequently complained about her lack of management skills, few, if any, felt comfortable addressing their issues with her directly; instead, many of them simply requested a transfer to a different team. Similarly, while everyone granted that Eve was prolific, people who had to use and/or maintain her code (for example, her ACS 3.x Ecommerce module) often derided it as ugly, full of kluges, etc. Of course, it’s not nice that all of these criticisms were made behind Eve’s back, and the excerpt above makes it clear that Eve is blissfully unaware of these alternate perspectives on her performance and abilities. She would, I expect, say that they are flatly untrue. However, whether or not these criticisms of Eve were completely fair or accurate, the real question is: Wouldn’t Eve herself have been better off if people had felt that they could approach her with their criticisms? At least then, she would have had the opportunity to refute some of the criticisms and learn from the rest.

Eve Anderson’s account is probably an important contribution to the overall record. All the same, I have trouble giving it the same credit as Michael Yoon’s. First of all, there is no trace of self-criticism, no self-reflection about the obvious mistakes Phillip Grenspun and others did to damage the company (including the initial decision to take venture capital money in the first place). Also, she has apparently removed her essay from her website (the old link simply redirects to the front of her site). The fact that she felt the need to take it down suggests that she was embarrassed to have others reading it, which suggests that she is not comfortable with everything that she said in it. (She currently works at Google, she remains active in the tech community, possibly she felt her essay was overly accusatory, in a manner that those who work with her must surely fear – after all, if they ever fire her, will she write that way about them?). Since she removed her post from her site, I had to track it down using the Internet Way Back Machine. As I am afraid this will disappear entirely at some point, I quote it at length (the following copy is from February 12th, 2002):

This is a story about a company. A company that was profitable from Day 1. A company that built products that were useful to many other companies. A company that had ethics, that treated the breadwinners (programmers) with respect, a company that could afford to help people and give away software and training, while still having enough left over to grow and save a few $million in the bank.

That is, until the venture capitalists arrived on the scene. Lying to customers and employees became commonplace. Greed replaced philanthropy as each of the company’s unique programs was dropped. But, this is a company, and the goal is to make money — any positive impact on the world is secondary, right? The real question is: how much money did they make?

The technical and managerial incompetence of the VCs and those they hired drove the company into the ground. All but 10 of the 240 employees were fired, laid off, or quit. All of the $40+ million in venture capital was squandered. The monthly operating profit turned to loss as more talentless executives were hired who threw out the company’s old, useful products and put their blind faith in engineers who spent millions building complicated software that solved no business problems.

This is a story that will teach you something about building a software product, about profitably running a company, and about what can happen if unqualified organizations obtain control.
The Birth of ArsDigita
Since the early days of the Web, I had been building web sites for big-name clients in California with my friend Aurelius Prochazka. Meanwhile, Philip Greenspun and two of his friends, Jin Choi and Tracy Adams, were doing similar work out in Massachusetts. When I moved to Massachusetts in 1998, we joined forces and were quickly able to quickly attract high profile clients, such as Levi Strauss, Environmental Defense, and MIT Press.

Our band of programmers, called ArsDigita (”Digital Arts”), was profitable from the beginning. We had no office, no marketing staff, no letterhead. But we did have a few thousand dollars’ worth of computer equipment and our five motivated selves.
The Birth of the ACS
It didn’t take long for us to realize that we were solving some of the same problems over and over again for each of our sites. It doesn’t matter if a site sells custom-made slacks, lets people share their photography knowledge with other enthusiasts, helps people fight environmental battles against companies polluting their groundwater, facilitates the trading of financial instruments, or helps people find the best combination of red, white, and sparkling wines for their next soirée.

Every site we built needed:

1. to talk to a relational database management system (RDBMS) to facilitate the collection of content from its users
2. a means for registering users and recognizing them upon their return to the site
3. a permission system to enable administration of the entire site, a section of the site, or an individual content item
4. a mechanism for grouping users so that they can be served content or given permissions appropriately

Instead of reproducing this for each client, we wrote a general data model, a few web pages, and some shared procedures, and called this collection of code the ArsDigita Community System (ACS).

We distributed the ACS free and open-source, not merely to be altruistic, but because it made sound business sense. If you are doing professional services, the best way to get your name out, have more clients find you (yes, free marketing), and improve the code base is to share it with the open-source world.

The ACS began as a small core of functionality, but more opportunities for code reuse quickly arose. Many of our clients wanted discussion forums. Quite a few needed ecommerce. Polls and portals and intranets and calendars and address books were repeatedly requested. It would have been foolish to build this functionality one-off for each client. It would have been a wasted opportunity to build this only for ourselves and not let our work reap the benefits of an open-source release. Hence we began the release of ACS modules that could run on top of the core. Dozens of useful modules were created, and that is what led to the adoption of the ACS by programmers and companies world-wide.
Growth
A small group of developers earning lots of money, making clients happy, and developing and releasing a useful software product is wonderful, but … to make a substantial impact on the world, you gotta grow.

And grow we did. At first it was difficult to hire people because developers don’t feel safe working for a company with no office or regularly-scheduled payroll. So, in the fall of 1998, we moved into an office. It didn’t cost us much to rent a lovely old house in Harvard Square (complete with showers and kitchen, both which were well-appreciated after nights of obsessive coding). In January, we began a payroll system so that people’s paychecks would no longer be tied to when our clients paid the invoices. Even if people were earning a bit less than before the structure was imposed, they were happy with the change. We were still earning a large profit each month. And now it was easy to hire people.

On January 1, 1999, ArsDigita had 5 employees. By January 1, 2000, we were up to 57, almost all of whom were developers. We had very little overhead and profits were rising. Around this time, we started looking in earnest for venture capital in order to accelerate growth and to allow ourselves the luxury of taking developers off of paying client projects so they could work full-time on our core product, the ArsDigita Community System (ACS).

By the end of March 2000, we had 110 employees (almost double what we had 3 months previously), 7 offices, healthy profits, plenty of cash in the bank, and $20 million in annual revenue, with the revenue figures still on an upward trend.

…Life post-capital
Revenue continued to rise to about $25 million in 2000. Is this due to the VCs’ genius and vision, or merely a result of the momentum built up before their arrival? Was the subsequent downfall, starting in mid-2000, due solely to the effects of the weaker economy in the United States?

It became increasingly clear to the employees, the customers, and the outside developer community that the VCs and those they had put into management had no idea what they were doing. They discarded the practices that had made ArsDigita a profitable company, destroyed the company culture, and showed their complete technical incompetence by throwing out the ACS, which had been repeately used to solve real business problems, and replacing it with new, partially closed-source software package that was hard to use, had serious performance problems, and met only a small fraction of the business needs that the ACS did.

By the middle of 2000, it was clear that the new management did not understand the mission in front of them. New engineers at our company were routinely complaining about the level of competence and experience we were provided by aD. Communications with the new CEO were unreasonable and frustrating. Contacts at aD went from programmers to project managers to sales VPs. All these people were trying hard, and in some cases doing pretty well – but aD had lost the things that made it unique and successful.
– Josh Stella, former ArsDigita client, April 26, 2001

One of the reasons I joined ArsDigita is its inspiring mission statement, which states that we do not ever lie to customers. The mission statement goes on to say that companies who lie to their customers need to spend time training their employees in the official lies before they can talk to customers, thereby making lying unprofitable…. This week, we were not honest with our customers about the severity of the security holes we discovered in the ACS. We employees even had to sit through a training session so that we would know how to discuss the security holes with our clients. This is a serious contradiction of our mission statement.
– Walt Mankowski, former ArsDigita employee, July 14, 2000

It was sad to see the company slowly being destroyed. It was as if all the life was being sucked out of the company and we had no idea why. Everything that made ArsDigita what it was slowly disappeared until all that was left was just another buzzword-spewing faceless corporation. ACS users moved on, joining in support for projects like OpenACS that still had the spirit of the former ArsDigita… Meanwhile, aD corporate slowly began to shut down programs, including the one that got me to be an ACS user in the first place: ArsDigita Prize. One day a small message appeared that said simply “The prize has been cancelled for 2001.”
– Aaron Swartz, past ArsDigita Prize winner, April 24, 2001

It is easy to locate marketing copy on ArsDigita.com. However, it is difficult to get to the information that is actually interesting to anyone building or running an online community, or deciding whether to hire ArsDigita’s services.
– anonymous user of arsdigita.com, September 4, 2000

ArsDigita was the company I dreamed of working for when I graduated… In 2000 everything began shifting. ACS 4 seemed an excellent thing, and everybody was excited, but it was never finished and then everything just turned to Java. Nothing against Java, but even I know that you can’t sell a product that’s not here yet. What happenned to the culture? None of the names and faces we knew posted to the bboards anymore. A few aD faces posted regularly, but mostly we saw a bunch of people only posting questions about the products they should be familiar with, and sporadically. Allan Shaheen only addressed developers twice, in what seemed to be posts typed by his secretary. ArsDigita’s website turned to being a brochure more than anything else, which is not bad if you don’t forget other things.
– Roberto Mello, computer science student, April 24, 2001

For months now, I’ve been trying to figure out how aD’s management can just ignore the ACS community (and the ACSish market) they way they have. Barely speaking to us; releasing incomplete, unscalable, untested software to us; and finally just abandoning the whole thing midstream. And the only thing I can think of is that they are trying to clear out the community, get rid of the community memory, for when they rollout their closed source, java solution.
– Jerry Asher, developer, April 25, 2001

I heartily agree with you about the unfinished condition of ACS 4.x. We (furfly) have lost at least one prospective client because of it, perhaps more, and the project we’re working on now is waaaay behind schedule, much of which is due to our stumbling over ACS 4.x issues. This is not to say that it is unusable, or unfixable, but only that it is unfinished – I don’t want to disrespect the hard work that went into it, only the decision to release it before it was ready.
– Janine Sisk, Furfly co-founder, April 25, 2001

ArsDigita, an e-commerce company in the midst of layoffs and a major product overhaul, is bucking the trend of comrades selling open-source software… The change will allow the company to reach profitability by the first quarter of 2002… The company laid off 29 employees in the last week.
– CNET, April 5, 2001.

The founders fight back
Philip Greenspun has never been one to hide his opinions. If he thinks that an idea is stupid, he will bluntly say so. Therefore, Philip had many things to say after April 2000.

Philip’s harsh words displeased the other board members (Allen, Chip Hazard from Greylock, Peter Bloom from General Atlantic, and ArsDigita’s COO, Ern Blackwelder) so much that they stopped having board meetings after December 2000. Instead, they had “investor meetings” where all the board members except Philip (the chairman) were invited. In March 2001, Peter Bloom sent Philip an email, threatening public humiliation if Philip didn’t resign from the board. Philip went to visit his lawyer who reminded him of his rights as majority shareholder.

It was time to regain control of our mis-managed company before it became nothing but a shell. On April 5, Philip Greenspun and Jin Choi, together holding a substantial majority of ArsDigita’s shares, had a shareholder vote that gave the founders majority control of the board. They demoted Allen from President and CEO to only President, elected Philip CEO (one spot on the board is reserved for the CEO), promoted Tracy Adams and me (both already Vice Presidents) to Executive Vice President and placed us on the board as well, removing both Allen Shaheen and Ern Blackwelder. The two venture capitalists retained their seats on the board. But we had control.

Yes, it had required drastic measures to ensure that our ideas would be heard, but we were willing to now work hand-in-hand with Allen and the VCs to return ArsDigita to a state of health. But we didn’t get the chance. Six days later, on April 11, 2001 Allen Shaheen, Ern Blackwelder, General Atlantic, and Greylock filed a lawsuit against Philip, Tracy, and me:

ALLEN SHAHEEN, ERNEST )
BLACKWELDER, GENERAL ATLANTIC )
PARTNERS 64, L.P., a Delaware )
limited partnership, GREYLOCK )
X LIMITED PARTNERSHIP, a )
Delaware limited partnership )
and ARSDIGITA CORPORATION, )
a Delaware corporation, )
)
Plaintiffs, )
)
v. ) Civil Action No. 18821
)
PHILIP GREENSPUN, EVE A. )
ANDERSSON and TRACY E. ADAMS )
)
Defendants. )

Now, I’m not a lawyer, but I never understood how it could possibly be legal for ArsDigita Corporation to be listed as a plaintiff, since that would have (obviously) been against the wishes of ArsDigita’s majority shareholders. And how could it be legal for General Atlantic Partners, Greylock, Allen Shaheen, and Ern Blackwelder take hundreds of thousands of dollars out of ArsDigita’s bank account and use it to pay their lawyers to sue ArsDigita’s majority shareholders?

The case came very close to going to court but, at the last possible moment, the plaintiffs came to a settlement agreement with Philip. Perhaps the plaintiffs were afraid they would lose the case because the judge had looked at their “evidence” and said that he was uninterested in approximately 90% of it. The plaintiffs’ lawyers had wasted their time and, more importantly, ArsDigita’s money, preparing a case about Philip Greenspun’s personality instead of thinking about whether someone’s personality gives one a right to try to illegally seize control of a company.

In the settlement, Philip received $7.6 million. In return, he gave up more than half of his stock, resigned from the board, promised not to attempt to execute any control over the company, and signed a non-disclosure agreement. Before the settlement, Philip owned more than half of ArsDigita’s stock. Now that the VCs owned more than half the stock, they had no need to settle with any of the other defendants.

The VCs poured a few more $million into ArsDigita so that it could take a few more gasps of air before collapsing.

…Now, What?
What has ArsDigita been doing over the past year?

Lying to the employees and to the press:

Tech startups aren’t exactly on the front burner nowadays in the market for initial public offerings, but ArsDigita is steaming ahead anyway with plans to go public next year… The four-year-old Cambridge, Mass. Web software company is hoping to kick off its initial public offering some time in 2002… If it keeps growing and building its customer base, and the IPO market continues its gradual comeback, ArsDigita will be able to take itself public, Shaheen figures.
– Steve Gelsi, CBS.MarketWatch.com, May 24, 2001, a few weeks before Allen Shaheen admitted during his deposition that he didn’t think ArsDigita would ever be able to go public

Firing people, spending money:

Beginning Thursday, ArsDigita Corporation has cut a confirmed 24 (from 165) employees and announced plans to close the Berkeley, CA, office. Rumor from several connected inside sources has the final tally climbing to 67 (or higher) over the next few weeks. Late last week the CEO was demoted by the VCs and replaced with Dan Keshian (http://www.greylock.com/team/DanKeshian.asp), one of Greylock’s partners, while they wasted another $10 million (reportedly) on the company, presumably to help it stumble along to a fire sale. Those not yet gone are those in engineering, upper management, or are working on billable projects. Those on billable projects will be terminated upon project completion. Standard severance is reportedly 1 month salary plus unused vacation.
– FuckedCompany, October 11, 2001

Building products that nobody wants to use:

When the VCs and Allen Shaheen seized control in April 2000 the company had revenue, profits, a customer list of AOL, HP, MIT, Oracle, Siemens, etc., a $160+ million valuation, $41 million in cash. In about 1.5 years the same company had a product that nobody wanted to use (though it was based on more fashionable tools), no profits, no cash, and few customers. Despite the infusion of more cash and a new CEO, a Greylock partner, in the fall of 2001, the company continued to spiral downward. Now they are dead and RedHat is buying some bones.
– FuckedCompany, February 7, 2002

And trying to make some money for themselves out of the scraps:

ArsDigita, a privately held software company in Cambridge, was shut down on Tuesday. At least some of the company’s assets, primarily from its professional services division, will be sold to Red Hat Inc., an open-source Linux software company in Durham, NC, according to sources close to the company… Dan Keshian, a venture partner at Greylock, became ArsDigita’s CEO in the second half of last year to lead the company to profitability. Keshian was not present when the shutdown and sale were announced to employees.
– Jeff Miller, Mass High Tech, February 7, 2002

Lessons learned
Over the past 1.5 years, the VCs and their management team have taken a profitable, healthy, interesting company and:

* spent the profits that ArsDigita had saved
* spent all the capital raised
* destroyed an excellent software product
* released a horrible product a year behind schedule
* hired a slew of incompetent managers
* fired the people who made ArsDigita profitable
* repeatedly lied to customers
* repeatedly lied to employees
* repeatedly lied to the press
* repeatedly lied to the outside developer community
* and given themselves big bonuses as a reward

Greylock and General Atlantic Partners have mis-managed ArsDigita into the ground.

What can we learn from this? Be clear about control. Don’t assume that people with MBAs know a thing about business, let alone technology. Don’t throw out your prime source of revenue before another one is in place. Fashionable programming languages don’t equal useful software. Don’t lie. And steer clear of General Atlantic Partners and Greylock.

Daniel Markham notes that most startups fail.

He also links to this rant by John Pratt , the guy who did Fundable:

I cannot tell you how painful it is to watch 5 assholes take your idea and run with it and not even give you credit. I hate all 5 of them for that. If I see them, I may punch each one of them in the face. If you have never started your own company and then had someone else steal the credit for what you worked hard to develop, you don’t understand.

I think it is unwise to write in this style about your own failed startup. If you’ve got a story to tell about betrayal, it is important that others on the Web corroborate your story. A good example here would be Phillip Greenspun. First of all, in telling his story, he uses a measured tone, and he seems to stick to the facts:

By March 2000 we had grown to 80 people. I was still CEO and beginning to feel nervous that, for every task in the company, I could not say exactly who was supposed to do what and by when. But we were profitable, with monthly service contract revenue coming in at a $20 million/year rate. We’d paid nearly $1 million in income tax on our profits for calendar year 1999. Not so bad considering that we built everything from a $10,000 investment.

We’d never sought venture capital but our revenue and profits were bringing some of the top East Coast firms to our door. Most of the time these guys were being forced by the frenzied times into investment in a company and figuring out how to get revenues later (and profits much much later). ArsDigita looked a lot better than than the typical “wing and a prayer” bunch of guys with a fancy spreadsheet. Despite 1000 percent annual growth, we had cash. Most of our revenue was recurring. Most of our customers were happy and loyal.

But what is really important is that the other folks that Greenspun worked with all seem to agree on what happened. Eve Andersson writes:

The marginalization of Philip Greenspun started taking place quickly as Allen Shaheen discovered that it was difficult to work with someone who wouldn’t let him get away with incompetence and dishonesty. Over the course of 2000, more and more responsibility was taken away from Philip and given to so-called professional managers who didn’t understand the Web or software development. Instead of firing Philip outright, he was banned from decision-making meetings and was put in charge of the less profitable parts of the company.

In March, 2001, Jin Choi, the company’s 2nd-largest shareholder was fired. Jin didn’t seem to mind so much because he has never had any tolerance for anyone he deems stupid.

Around the same time, the VCs pushed out Aurelius Prochazka. Aure had built up most of ArsDigita’s west coast operations. Most of the clients were there because of Aure. He had trained most of the developers. He had personally built some of the most important modules of the ACS. He could construct an enterprise-quality site himself that would normally take a team of 4 or 5 developers to create.

John Pratt should take note. One guy ranting on the Internet is a lunatic, but several people all agreeing with each other is a story.

Interesting info on startup founders. The suggestion is that Silicon Valley venture capitalists prefer younger entrepreneurs because younger entrepreneurs are easier to push around.

I’ve got a message for all the Silicon Valley venture capitalists who think a CEO is over the hill after age 40. Old guys rule. And they are far more likely to be the founder of a successful technology company than most of you understand. How do I know this? Research that my team conducted, based on a survey of 549 entrepreneurs in high-growth industries, showed that the average founder of a high-growth company launched his venture at age 40. We also learned that these founders are likely to be married and have two or more kids. They typically have six to ten years of work experience and real-world ideas. They simply got tired of working for others and wanted to rise above their middle-class heritage.

These clearly aren’t the talented 20-somethings who have “great passion” minus the “distractions like families and children…that get in the way of business” which Sequoia Venture’s Michael Moritz raves about (also in this Building 43 video). Or the ”very low paid” young entrepreneurs who, according to Google’s Eric Schmidt, make “all the right things happen” by “working themselves to death”. But these are the companies which Silicon Valley VC’s seem to flock to. And maybe that’s one reason why the failure rates of VC investments are so high.

The venture capital model is broken:

Within the past 3 years I’m seeing a huge tsunami of innovation that has nothing to do with technology advantage (a cornerstone of the venture capital market) but instead business model or market demand oriented solutions – technology is become less of a core driver. This is turning the venture playbook upside down.

The article mentioned above talks about what I call “market factors” from a venture perspective- the liquidity market (and regulation mainly liquidity). Because of the breakdown in liquidity there are just to many company that is causing a “backup” in the system. The venture capitalists depend on liquidity to exit out the companies in their portfolio. So if the venture capitalists don’t change their model the trickle-down effect hurts entrepreneurship.

I would like to see new funding models. It would help if the various state governments (in the US) offered standard models for incorporation other than the C-form. I started a company in 2003 where we used the flexibility of the law, in regards to LLCs, to mimic certificates for my tiny company. Then I got all my friends to buy a share for $100. So that company was an LLC that in many ways imitated a C-form corporation. But myself and my business partners burned through $5,000 of legal fees to get the right agreement. I would love to see the government offer that model as a standard, a sort of hybird of C-form and LLC. The goal would be to make it easier for entrepreneurs to raise money from strangers, without having to look toward Wall Street. I realize some people will respond with concerns about fraud – those concerns are valid, but they can be gotten around by other aspects of the LLC model, especially the understanding that everyone has some of the old rights that a partner would have had in a partnership – in particular, the ability to examine the corporate accounts. We now know, from examples such as Enron and more recently with GE, that big companies, even with formal audits, can lie about their finances. The best protection against fraud is transparency.

I wouldn’t say that the model I worked out in 2003 is necessarily the one that the whole world should follow, but I do strongly believe that there are C-form/LLC hybirds out there that can facilitate early stage funding while also lowering the risk of fraud.

Sarah Lacy points out that risk aversion and short term thinking are overwhelming the tech industry:

I think there’s also a mindset problem when it comes to venture capital. Investors and many entrepreneurs are no longer focused on building companies and taking real risk. Paul and I did another clip yesterday about Facebook, where he argued it doesn’t make sense for Facebook to stay a stand alone company anymore because the ad markets are going to be locked up for 24 months.

I love P-Ked, but what the hell does a 24 month contraction have to do with building a company? Especially a company that’s still private, growing like mad, has loads of money in the bank and is essentially break even? We’ve got to break ourselves from this quick-fix, quarter-to-quarter mentality of Wall Street– and increasingly Silicon Valley– if any next great tech companies are going to be formed. The very reason great companies are typically started during downturns is they’re started by people who aren’t obsessed with timing a market. They’re started by real entrepreneurs.

In her BusinessWeek column, she also points out that it’s been a bad decade for tech focused venture capital:

But check your calendar. We’re closing in on 2009. And even if the financial system on which VCs depend for returns averts collapse, it’s still in for a few years of serious wound-licking and stepped-up government regulation. Ask anyone in Silicon Valley whether Sarbanes-Oxley had a chill on IPOs.

This realization hit me like a ton of bricks during a recent trip to Boston, coincidentally the same day Lehman Brothers (LEHMQ) filed for Chapter 11. I was sitting down with Tom Crotty, of the venerable Battery Ventures, which had a unique approach to the tech meltdown. Battery, full as it is with more financial gurus than Valley-style engineers, responded by diversifying from traditional startup investments into so-called Private Investments in Public Stocks (PIPEs). Battery also capitalized on the consolidation of cash-rich but fragmented industries.

Crotty hopes the atypical investment approach will insulate Battery, but he nonetheless sees a reckoning coming—specifically toward the end of 2010. He points to 2000 as the “last really good year” for venture capital. Looking back, “the one-year, three-year, and five-year indexes are all going to be terrible,” Crotty says. “And once 1999 and 2000 fall off, the 10-year will be, too. It’s going to be painful.”

But she also points out that there are new markets out there waiting for investment:

That won’t be such a bad thing. After a painful period of forced reckoning with bad past decisions, VC will emerge stronger. Entrepreneurs and the larger U.S. economy will still need venture capital. Some venture capitalists will engineer a new way to make venture-style returns, like Battery Ventures did eight years ago. Many will turn to emerging markets such as India and China. There will be even fewer Google-like (GOOG) home runs. Then again, a leaner, smarter industry may not need as many.

She puts needed qualifiers around the idea that downturns are good for innovation:

To those of you who say platitudes like: “Downturns are GREAT times for innovation!” yes, that’s true, but you are missing the point. This isn’t just the cause of a downturn. This is a structural change in the industry that needs to occur and has been building for nearly a decade. There is far too much money, tech is maturing, and clean tech isn’t mature enough.

Real innovation can not be done in 90 days. Real innovation does not conform to quarterly profit reports. Real innovation comes from those people who can see a potential business when it is still way out on the horizon, and then find ways to reduce the risk of getting from here to there:

People think entrepreneurs are risk-loving. Really what you find is successful entrepreneurs hate risk, because the founding of the enterprise is already so risky that what they do is take their early resources, the small amounts of capital that they have, whatever assets they have, and they deploy those resources systematically, eliminating the largest risk first, the second-largest risk, and so on, and so on.

Jeff Bezos

In the title of this post I used the word “coward”. That is a strong accusation. It is deserved by those who feel the normal risk minimization of entrepreneurs is no longer enough to allow a business to be trusted with money. It is deserved by those who now only place sure bets, and only short term ones, too.

The tech industry, especially the web portion of it, has been infected with speculative excess. During the South Sea Bubble of 1720 financial manipulators raised money for “a company for carrying out an undertaking of great advantage, but nobody to know what it is” and today we have similar ill dealings: “The company will ‘let its purpose and presence be known’ as soon as they reach their goal of raising a Series A capital round of $10 million”.

For the true entrepreneur, the goal is always MR4MR: minimum risk for maximum reward. But they have bold goals that demand big risks be taken — they then set out to find the least risky way of achieving that goal. This applies to many fields. Shakespeare, Napoleon, Thomas Edison and Bill Gates had this common: they were all successful at minimizing the risks they had to run to achieve their goals, yet their goals were so ambitious that even the least risky path still entailed big gambles. The NASA team that first sent men to the moon was fanatic about reducing risk, yet still the mission was among the riskiest endeavors ever undertaken by the human race.

The driving force of the digital revolution were two fold: the increasing power of computer chips, and the dramatic fall in the price of communications, due to breakthroughs in multiplexing. The pulse of change for both has grown slower. Wal-Mart, Fed-Ex, Google and Twitter were all instances of a creative soul finding that the digital revolution allowed a new way to organize human activity. Such surprising alterations to the existing scene will continue as long as there is still growth in computing power and communicative capacity, though the appearance of such novel businesses can be expected to slow as innovation in the underlying technology does.

We should not allow the term “innovation” to be killed by its over-association with the industries that grew during the last few booms. There are other fields desperate for the intervention of  the entrepreneur: green energy, green transport, recycling, lower impact production methods, the education of adults, the teaching of children, child care, environmental clean up. We will soon see a new wave of change in the oldest industry, I mentioned community supported agriculture in the post where I made predictions, in some sense no economic activity is more important than how the human race feeds itself. And at some point in the next 50 years we will see considerable breakthroughs in the way the human race relates to living things on earth, as our understanding of the underlying rules of DNA come into focus.

Downturns are a great time for innovation, but the invitation is only there for those who are thinking long term.

Sam Zell made a terrible mistake when he bought the Tribune Company:

When the Tribune Company announced that it was filing for bankruptcy, last Monday, Sam Zell, the man who bought the company a year ago, for $8.2 billion, said that its problems were the result of a “perfect storm.” You take readers and advertisers who were already migrating away from print, and add a steep recession, and you’ve got serious trouble. What Zell failed to mention was that his acquisition of the company had buried it beneath such a heavy pile of debt that any storm at all would likely have sunk it. But although Zell was making excuses for his own mismanagement, the perfect storm is real enough, and it is threatening to destroy newspapers as we know them. Layoffs and buyouts have become routine. The Miami Herald and the San Diego Union-Tribune are reportedly on the selling block, while lawmakers in Connecticut are trying to keep two newspapers there afloat. Even the New York Times Company has slashed its dividend and announced that it would borrow against its headquarters to avoid cash-flow problems.There’s no mystery as to the source of all the trouble: advertising revenue has dried up. In the third quarter alone, it dropped eighteen per cent, or almost two billion dollars, from last year.

Newspapers are simply a method of delivering ads:

It turns out that subscribers are more expensive, not less expensive, than online readers. Yes, they pay more — but they’re not paying for intensive reporting, experienced editors, and the like. They’re paying for printing presses, mobbed-up newspaper delivery operations, and the whole enormous physical infrastructure involved in getting thousands of tonnes of newsprint delivered to millions of front doors every morning. It’s a hugely expensive operation, and its costs are nowhere near covered by subscription revenues.

There’s an old saying that you’ll never understand newspaper economics until you understand why newspaper vending machines are designed so that you can take as many papers as you like for your quarter. Newspapers are, first and last, devices for delivering ads to readers. It’s the ads which account for all the profits, not the cash coming from subscribers or people who buy their paper at the newsstand. Yes, news itself is free, nowadays. But it always has been. What we’ve been paying for all these years was never news, it was papers.

Lately there have been a lot of articles about the newspaper industry. We are told that this recession is killing off newspapers, everything is moving to the web. There is some mourning, people wonder how journalism will survive once the newspapers are gone. But consider the other side – where will the ad dollars go? When the next boom hits, America will have a lot less newspapers than it has had in the past. And much more of the public will think it natural to get their news online. Doesn’t it seem that at some point quite a bit of ad revenue must become available to online ventures?

I’ve never, ever known a start-up that stuck to its business plan. Therefore, I think business plans are worthless. It’s possible that they are worse than worthless: they create a false sense of certainty and thus secretly increase risk.

From 37Signals:

It begs the question: What’s the point of a business plan if it’s obviously a fantasy that has nothing to do with reality? If these projections are just numbers pulled out of thin air, why pay any attention to them? Wishful thinking doesn’t really benefit you in any way.

It seems like most people write business plans just because they think they’re supposed to. They’ve been told a business plan is what a “real” business needs so they go ahead and start making shit up. Then reality happens and the whole thing goes out the window.

Sure, thinking about the future can help. But writing it down and thinking it’s any sort of plan is foolish. The truth is you’re not going to know what to do until you’re actually doing it.

Seems to me the only point of a business plan is to try to get money from venture capitalists. In that scenario, you lie to them and pretend to be confident about your plan, and they lie to you and pretend that they trust you. Seems to me a bad way to go, all around.  I’d like to think there is a way to build up long term relationships between innovators and funders, but, I admit, there will always be the unique, breakthrough technology that must be funded even when the VCs deeply distrust the entrepreneur.