Great Expectations

great.JPG"Now, I return to this young fellow. And the communication I have got to make is, that he has great expectations."

Charles Dickens, Great Expectations

A: You win a $20M lottery. Several days later, you learn that four other people also had the winning number and thus your actual winnings are reduced by $16M to a total of $4M.

B: You win a $2M lottery. Several days later, you learn that due to an accounting glitch, your initial winnings were misreported. Your actual winnings increase by $1M to a total of $3M.

In which situation would you be happier?


High School Algebra

You would likely be relatively happy winning the lottery, irrespective of the ultimate denomination. Winning is winning. However, in the first instance, many people would experience a sense of loss, as the winnings were reduced by $16M. In contrast, in the second instance, the ultimate size of the winnings was increased by 50%. Even though the net gain is still significantly larger in the first instance (i.e., $4M vs. $3M), the manner in which the events unfolded contributes to a sense of either fulfillment or failure.
In High School, we learned that Slope is defined as, "the ratio of the altitude change to the horizontal distance between any two points on a line". Entrepreneurs on The Fringe know that in business, the expectations Slope is dictated by the manner in which you manage your Stakeholders' expectations.

As the Lottery example highlights, you can enhance a Stakeholder's satisfaction by delivering results that exceed their expectations.

This concept underlies one of the most over-used phrases in business: under promise and over deliver. In the startup world, this is far easier said than done. As described in Personal Pitch, Entrepreneurs constantly battle numerous competing interests in an effort to entice Stakeholders and Donors to lend assistance to their adVentures. For some entrepreneurs, the temptation to oversell the future in order to attract near-term resources is overpowering.

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The graph on the left represents negative slope. Expectations were initially set at Point B, a significant movement up the slope from Point A. Unfortunately, expectations were subsequently reset at Point C, falling short of the previous expectations.

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This graph on the left illustrates how effective expectations management can result in Positive Slope. As in the first graph, Point C falls midway on the line. However, in the second graph, the attainment of Point C represents positive progress from the expectations set at Point B, rather than a regressive, disappointing downward movement.

Bagging The Sand

There is a fine line between managing your stakeholders' expectations and outright deception. Deception arises when you already know a particular outcome, yet you misrepresent or withhold your knowledge. Deception is not the essence of expectation management. As noted in Time Wounds All Heels, entrepreneurs on The Fringe know that they cannot win in the long run if they engage in dishonest behavior.

Managing expectations involves guiding people up a positive slope when the results are unknown. For instance, if you are speaking to a venture capitalist and you are confident that you will close 15 new customers within the next 30-days, indicate that you hope to have 10 new accounts within the next 45-days.

This conservative approach will minimize the risk that you impair your credibility by missing your forecast. It also offers you the opportunity to guide your Stakeholders up a positive slope. It is unusual and refreshing for Stakeholders to hear an update from an entrepreneur who has missed her forecast because she underestimated her results.

The obvious challenge is to communicate meaningful and compelling objectives that will motivate and excite your Stakeholders, while ensuring your team a high probability of success. If you set the initial expectations too low, you may damage your credibility and be labeled a sandbagger. You may also fail to capture the would-be Stakeholder's interest if you represent the potential opportunity as too modest.

Establishing reasonable and highly attainable financial projections at the outset of your adVenture will also help you avoid a down round investment. Such investments arise when a company significantly misses its financial goals and must seek additional financing. In a number of instances, the Founders and employees take a significant dilution hit as the company's valuation in a down round is, by definition, lower than in its most recent prior funding round. In addition, such negative slope rounds may also contain financial ratchets which allow investors to participate in the down round at highly advantageous terms - advantageous for them and detrimental to the owners of common stock (i.e., Founders and employees via stock options).

Negative Selling And Positive Surprises

When you establish reasonable but relatively low expectations, you may find that your Stakeholders will encourage you to aggressively revise your projections. For instance, you may hear statements such as, "Come on, you should be able to sell twice that much."

Offset such well-meaning attempts to prematurely pull your forecasts up the expectation Slope with a bit of negative selling. Rather than countering with an emphatic denial that such results are impossible, make it clear that you and your team will work to achieve the best results possible. However, remind the Stakeholders that it is prudent for the company to publicly commit to a forecast which has a high confidence factor so you can maintain positive slope momentum and a high level of morale within your team.

All surprises should be positive, even if they really are not surprising to you. For instance, if you are properly managing expectations, you will periodically have the opportunity to communicate a surprise sale, partnership, alliance, etc. to your Stakeholders. If you communicate every potential deal to your Stakeholders, not only will you inundate them with too much information, they will often focus their inquiries on the potential deals you previously trumpeted but which never came to fruition. By undersharing the specifics of your deal flow and sales pipeline and not overselling the scope or timing of a particular deal, you can avoid the inevitable sense of loss associated with the deals that got away.

Positive surprises instill confidence and cause Stakeholders to wonder what other positive surprises you have waiting in the wings. This is far more advantageous than causing Stakeholders to wonder why you keep "losing so many deals". The law of averages dictates that you will lose more deals than you close. As such, keep your Stakeholders out of the kitchen and only serve them finished meals. This approach will be good for your indigestion, as well as that of your Stakeholders.

Snapshots

Many Stakeholders' exposure to your adVenture is in the form of episodic snapshots, such as monthly Board of Directors meetings, quarterly customer reviews or periodic all-hands employee meetings. The nature of such episodic meetings is to review what was previously discussed, present the company's current results and then explore the company's future opportunities. If you are properly managing your Stakeholders' expectations, you will be able to quickly recap the past projections (which hopefully you have exceeded) and focus on how the company will continue progressing on a positive slope.

If you mishandle your Stakeholders' expectations, you will be forced to spend most of your time explaining why the company missed its projections and what changes you have put in place to ensure you will not miss them again. Not only will this demotivate your Stakeholders, it will also limit the time available to discuss your growth plans and how your Stakeholders can help you meet your future objectives. By establishing meaningful goals which are readily achievable, you can ensure that the present will consistently be better than the past and that the future will, in turn, be better than the present.

Segment the data you share with your Shareholders, based upon their respective roles. For instance, I often maintained internal and external sales forecasts. I used the internal forecast to manage the performance of my sales team, establish their quotas, bonuses, etc. My external forecast, which was less aggressive, was our commitment to our Board and served as the basis for our expense budget. As such, we motivated our sales team to meet the internal sales budget while limiting our spending to that which was in line with our less aggressive, external forecast.

This duel forecasting approach ensured that: (i) we communicated conservative and figures to our various external Stakeholders, and (ii) we maintained a solvent cash position by basing our expenses on our more conservative, external sales projections.

Capitan Rollercoaster

The highs are higher and the lows are lower at a startup. Due to the long-hours, uncertainty and never-ending pressure to survive, your team is likely to overreact to both small wins and small losses. As Capitan of the Startup Rollercoaster, you must modulate such company-wide mood swings. As noted in Bang A Gong, do not attempt to smooth the highs and lows by maintaining a stoic, unemotional response. On the contrary, create a tempered, judicious culture of celebration.

Managing expectations is a constant balancing act. Your Stakeholders will remain happy and applaud you from the sidelines as long as you maintain an increasing ratio of the altitude change to the horizontal distance between any two points on the line. It is as simple as High School Algebra.

John Greathouse is a Partner at Rincon Venture Partners, a venture capital firm investing in early stage, web-based businesses. Previously, John co-founded RevUpNet, a performance-based online marketing agency sold to Coull. During the prior twenty years, he held senior executive positions with several successful startups, spearheading transactions that generated more than $350 million of shareholder value, including an IPO and a multi-hundred-million-dollar acquisition.

John is a CPA and holds an M.B.A. from the Wharton School. He is a member of the University of California at Santa Barbara's Faculty where he teaches several entrepreneurial courses.

Note: All of my advice in this blog is that of a layman. I am not a lawyer and I never played one on TV. You should always assess the veracity of any third-party advice that might have far-reaching implications (be it legal, accounting, personnel, tax or otherwise) with your trusted professional of choice.

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