"The more I find out, the less I know."

Sunday - September 28, 2003 at 03:37 AM in

The cult of the NDA

To all those entrepreneurs with innovative, unique business ideas who want to capitalize on them before someone else does, I have one piece of advice: Get over it.
Riding the tech boom of the late 1990's, there were an immense number of tech companies founded with thousands of innovative, smart new ideas. As a research analyst at an investment bank during that time, I personally visited with hundreds of these young companies, and even invested personally in a handful, either directly or through my firm's venture fund.

Every one of these companies believed they had a unique idea, either a piece of technology, a business model, or a way of building a product. Non-disclosure agreements (NDA's) were the order of the day. One startup even printed its NDA on the back of visitor's badges, just like a software "shrink wrap" agreement: "By accepting this visitor's badge, you agree to the terms of this Non-Disclosure Agreement."

At one point, there was even a venture capital conference called NDA , sponsored by the now-defunct (but apparently rising from the grave) Red Herring magazine.

Unfortunately, none of these ideas were unique. Certainly not unique enough to bother signing a formal contract of confidentiality. In some cases, I visited a half-dozen companies with essentially identical concepts, each blissfully unaware of the others.

Do the math. If you had an idea, odds are that a sizable fraction of the people with the required expertise and who worry about similar problems have had the same idea at some point. For the vast majority, it will just be a passing thought, but a few will take the time to do their homework, and maybe even put together a business plan.

If your idea involves, say, high-frequency analog circuit design, then the number of people with the required expertise is small, and your idea might be unique (on the other hand, if your expertise is in high-frequency analog circuit design, your skills are probably in pretty high demand anyway and you're less likely to be thinking about starting your own company). On the other hand, if your idea involves improving customer service, or a better way to do mass marketing....well, there's tens of millions of people worrying about that same problem, and your idea is probably not unique at all.

Good venture capitalists understand this, and many will refuse to sign an NDA before looking at a business plan. Few entrepreneurs understand it, and many get wrapped up in "protecting their idea" so someone else doesn't steal it.

Why the cult of the NDA?

In our culture, we've elevated the creative new idea to be the core factor in determining whether a startup succeeds or fails. Unfortunately, nothing could be further from the truth, but there's a chain of logic which leads inextricably to the NDA:

1) A unique new product or idea is essential to a startup's success.

2) The first company to capitalize on a new product or idea has a unique and sustainable advantage.

3) I have a unique idea for a new product or service.

4) If others find out about my unique idea, they could bring it to market first, and steal the advantage from me.

5) Therefore, by disclosing my idea only under the strictest confidentiality, I preserve an advantage for myself.

Each of these five points is wrong in most cases, though they are a comforting fiction for a young company faced with long odds against success.

1) A unique new product or idea is essential to a startup's success

This is often not the case, since most products and services can easily be replicated by other companies. The cases where a unique idea is key to success are the cases where a new product or service is dependent upon a very particular skill or invention. Skills are difficult to replicate, and can be protected through trade secrets; and inventions can be protected through patents. Sadly, those cases where the trade secrets and/or patents are both protectable and essential are rare.

The flip side of this is that if the product or idea is truly unique, then the startup is in the position of essentially creating its market from scratch. This is much more difficult than going to an existing market and winning market share from existing companies.

2) The first company to capitalize on a new product or idea has a unique and sustainable advantage.

Many of the most successful technology companies were not the first in their markets, but successful followers which learned from the mistakes of earlier trailblazers.

To take the most obvious example, Microsoft was not the first software company, the first OS vendor, or the first productivity software vendor.

IBM was not the first computer company.

Cisco didn't invent the router, the switch, VoIP, or the firewall.

Google was not the first search engine.

The first two letters of "Yahoo" originally stood for "Yet Another."

You get the idea. More often, the long-term winners are the companies with the willingness to adopt good ideas from other places, and the flexibility to learn from the mistakes of the pioneers. Making mistakes can be very expensive, and being able to avoid certain mistakes can be a competitive advantage.

3) I have a unique idea for a new product or service

Probably not.

My own experience is that very few ideas are unique, and in many cases, there are several startups working on the same idea at the same time. Anyway, in order to market your product or service, you will have to explain it to the industry in great detail. As soon as you start marketing, your idea is Out There, for others to consider, copy, and perhaps even improve upon.

4) If others find out about my unique idea, they could bring it to market first, and steal the advantage from me.

Even supposing that there was an advantage to steal....

Surprise, surprise, but the rest of the world is not watching your every move waiting to pounce on anything you do. Unless you're Bill Gates, but if you're Bill Gates, you're not trying to launch a longshot new company on a shoestring budget.

In fact, large incumbents generally don't take much notice of the startups until after a startup begins to have some success in the marketplace. Sure, they'll keep track of developments in the industry, and evaluate new ideas, and maybe even try to build the more promising technology. Considering that probably 90% of all venture funded startups never have much impact on an industry, it would be a waste of time to try to stamp out every little company which might someday pose a threat. They won't shift into Killer-Borg-Be-Assimilated-Or-Be-Destroyed mode until after a startup begins causing real pain; and by that point, the startup should have enough momentum of its own to stand a fighting chance.

5) Therefore, by disclosing my idea only under the strictest confidentiality, I preserve an advantage for myself.

Except in very rare cases, this simply isn't true. There's isn't any real advantage to be preserved.

More importantly, think of what the entrepreneur is giving up by insisting on excessive secrecy: feedback from others in the industry, including prospective customers, and others who may have tried (and failed at) similar ideas. The opportunity to "debug" a business model or idea at an earlier stage before mistakes are too expensive. A productive exchange of ideas with other industry experts who may be sympathetic, but can't join you for one reason or another.

What should be confidential?

The NDA evolved because of the conflict between the desire to keep a business idea secret, and the need to tell others in the industry what a startup is doing.

My philosophy is that if you must disclose something to someone who has no formal relationship to the company, then it is not confidential.

Information which is appropriately confidential includes:

* Trade secrets, unique methods and algorithms, and processes.

* Customer lists and prospect lists.

* Data generated on behalf of a client.

* Information which a third party has asked be kept confidential.

Information which has no business being confidential includes:

* What a company does or plans to do, and what the business model is.

* Industry statistics and forecasts, particularly those prepared by third parties (I can't even count the number of times I've gotten published Forrester or Gartner statistics, printed on a page marked "XYZ Confidential").

* Feature lists or product roadmaps.

What really does make a startup successful?

If it isn't a great new idea, or being first to market, then what really does make a startup a success? The vast majority of startups fail, and the real success factors aren't things a company can control, or they're much harder than just having a great idea.

1) The most important success factor is dumb luck. Being in the right market at the right moment with the right product (which nobody could have known would be right when you started developing it five years before). The giant order which arrives two days before you run out of money. Knowing somebody who knows somebody who knows somebody who is a decision maker at a huge customer. That sort of thing.

2) Next most important is execution. That means paying attention to the details. Keeping expenses down (don't ever forget you're a starving startup). Hustling to please each and every customer. Underpromising and overdelivering. Often it is the failure of incumbents to do these things which creates opportunities for startups.

3) Finally, stay focused. Remember that the objective is to win business and become profitable. Don't let internal bickering and politics get in the way, and don't let setbacks get morale down. Have you ever watched a baby learn to walk? They take two steps and land flat on their butts. A brief, bewildered expression, then they're hoisting themselves back up to try again. It takes strong leadership to keep everyone in a company focused on success when things look bleak, but you need to be that baby.

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