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Business Defensibility: Identifying Your Moats

Posted by Seth Elliott On February - 17 - 2010

Moated Caerlaverock Castle, ScotlandIn meeting with a prospective client the other day, I had the occasion to ask the founder to detail for me why his business was defensible. “No problem,” Bernard answered. “We’ve got 2 issued and 3 pending patents. We don’t really need to spend any time discussing that any further.”

As you might imagine, I’m not nearly as sanguine as Bernard about that answer. Reliance upon patent (or copyright or trademark) law for intellectual property as your defensibility response leaves much to be desired.

In perfect “Entrepreneur-Land,” you want a proprietary product and a unique position. You want your business to be an unassailable fortress, which is surrounded by an impassable moat. Of course, reality is often a bit different.

The question of defensibility is one of the most important, and difficult to answer in the funding process. It’s critical to identify your “Moats” – what will insulate you from competition swooping in and taking your business away from you. Before offering some suggestions on the right way to handle this, let’s examine what not to say.

We have an unassailable intellectual property position as a result of our Patents (Trademarks/Copyrighted Code/Etc.).

Savvy investors know better. Let’s assume for the moment that you truly do have a fantastic piece of technology with an “unassailable” patent. What does that really mean? If Microsoft, or Google or Research In Motion or Apple or GE (need I go on?) are infringing on your IP, are you going after them? Do you have the resources and wherewithal to successfully prosecute an IP infringement case against a competitor of such magnitude? Do you think a VC believes a good investment strategy is to fund you so that you can burn through the investment fighting with an industry behemoth? What answer do you think a VC would want to hear from an entrepreneur to these questions (hint – it doesn’t begin with “Y”).

Does this mean intellectual property protection is useless and a waste of resources? Not entirely. You should certainly file for patents, but you shouldn’t place too heavy of a reliance on them. With pending patents (even more so issued patents), you demonstrate to prospective investors that you really have developed something that is proprietary in nature. More importantly, you prevent the awful circumstance of someone else securing similar IP protection – placing you in the position of violating someone else’s patent for a product you developed first. Of course, you may eventually be successful enough that your IP can be used in your favor, but by that time the defensibility issue is no longer as relevant.

We’ll address how to “pitch” your patents in regards to defensibility shortly.

It’s cheaper to buy us then build a competing product/business.

This answer gets thrown around a lot by technology entrepreneurs. It actually grew out of the buy/build decision pitch of M&A bankers. Essentially, you’re answering the wrong question with this statement – you’re talking about exit when you’ve been asked about the size of your Moat.

While it’s true that a larger company may seek to purchase you in the future rather than grow the business from scratch themselves, it’s not really an answer to how you’re defensible. The likelihood of such a transaction is after you’ve demonstrated market success – i.e., after you’ve already addressed the issue of defensibility.

Nobody else can develop/build/do this.

Really? When I hear this statement, I invariably wonder whether the entrepreneur believes it (and is, therefore, delusional) or is simply lying to me. Obviously, either scenario is a red flag.

With a handful of exceptions (I mean in all of modern history), somebody else can develop or build what you’ve done. In fact, with enough resources, they can probably reverse engineer your product, develop it faster and likely make significant improvements. This answer truly sends the signal that your clueless (have you even done a Google search to see if someone else tackles the problem?) or deceptive.

Now you know the Big 3 errors to avoid. Let’s take a look at the various ways you can present your answer to the defensibility question to highlight the depth and breadth of your Moat.

First off, there are two general statements that you should incorporate regardless of the rest of your explanation:

  • We Get It.
  • Start off by making it clear that you know there isn’t a magic bullet. Something along the lines of “We understand the importance of the question. We also realize that there’s not some simplistic answer that satisfies. Let me walk you through the various components of our intellectual property, business and method that provide a degree of protection.” Starting this way should send a signal that you know what you’re doing and predispose your audience to listen to the rest of your answer with an open mind.

  • Describe Your IP.
  • Get the answer about your intellectual property on the table as the next order of business. Just be sure to preface the description with a statement that it’s not the sole source of your Moat. Think about something like “Before I describe our patents, let me be clear about the position we take on this. We think intellectual property is important, but not sufficient. Spending precious time and investor money pursuing possible intellectual property infringement at this stage of our life is not a viable business strategy. Having said that, here’s what we’ve done on the IP front…”

    Once you’ve made these two points clear, you can move on to addressing other areas of competitive advantage that enable your Moat. Here are some other thoughts in that area that may be applicable in your individual circumstances.

  • And Their Off.
  • Highlight the head start that you have. “It’s our belief that we are X-Y months ahead of any group that begins attacking this problem now. Our current lead may be temporary, but we will make the most of it. A large company would likely have diffusion of focus if they decided to enter this market today. We think we can establish a strong beachhead before they’d reach the catch up stage.”

  • Domain Expertise.
  • The key here is customer relationships. If you have a management team (particularly at the founder level) that has sold to the customer base that will use the product, that’s golden. Highlight the fact that you understand the market, how to sell, sales cycle time, etc. Make it clear that this knowledge is of critical importance – any competitor attempting to enter the marketplace without it is at a severe disadvantage.

  • Key Account.
  • Even better, if you have one (or more) recognizable customers (even if they have only agreed to use the product and haven’t yet paid for it), use this factor in your answer. If a recognizable name is using your product that means that they’ve been unable to identify another solution to their problem. “Pfizer has begun implementing our solution. It’s our belief that they know the marketplace for this quite well – if they’ve chosen us it’s a good sign that right now nobody else out there can offer the solution they need.”

  • Quantity.
  • Don’t have a household name as a customer? How about a lot of unknowns? If you’ve got a broad user base, you can spin the answer in a slightly different direction. Focus on the fact that many companies/consumers are already implementing your solution. If there were other options, you’d probably have received pushback from them on that front.

  • Do It Again.
  • If you and/or your team have build businesses before, particularly in a related or relevant field bring this fact to the forefront. If you’ve done it before, you can do it again. The fact that you have this background means you’ll be able to do it faster, bigger and better than other competitors.

  • In It To Win It.
  • Emphasize your understanding that business is a race to the finish line – one that you plan to devote full resources to winning. “Look, we know that this is all about getting there first. We know we have a head start [see Answer 1] as I mentioned. We plan to devote all necessary resources to achieving critical mass. Once we hit that level, we’ll be in a very good position to duke it out with all comers.”

    What other sources of advantage have you highlighted in describing your company’s Moat?

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    About the Author

    I have spent the last 15 years advising entrepreneurs on starting and growing their businesses, as well as assisting in financing those growth efforts. I have also been an entrepreneur on several occasions myself. By writing this blog, I hope to provide actionable advice on how to achieve your goals and become more successful.

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