Back in the late 90′s people were investing in all kinds of crazy schemes trying to get rich off of IPOs and whatever the “internet” had to offer. Everyone was building some new way of doing business that was going to revolutionise everything we knew and change civilisation at its very core. None of these businesses had any revenue, some didn’t even have a product but that didn’t stop people. Plenty of money was made by day traders, speculating on which new shiny internet or technology company would be the darling of the day on Wall Street with several hundred percentage points of increased valuation on launch day.
It was a period of madness and your classic “bubble”. The hype outpaced the reality, the internet itself making it easier for individuals to do their own trading and ramp their own investments. Australia was certainly not immune to this global craze either. Companies like Sausage Software and Solution 6 were bought and sold for silly sums of money and K*Grind was the “cool, hip” urban youth portal with no business model, a high cash burn rate and ultimately a very short lifespan.
One story jumps out at you though from Australia and it re-appeared in my mind today courtesy of the Sydney Morning Herald. A young guy named Adam Clark, back in 1998 made bold claims that he could produce the technology to run high definition video down a standard telephone line. Clark purports to have knocked this technology out in a little over three weeks with the final “ta da” moment coming to him like divine inspiration. Of course, Mr. Clark could produce no proof or evidence of this stunning breakthrough and he wouldn’t allow anyone to test his technology outside of his environment. So what happens next? In April 2004, Mr. Clark releases a prospectus of course and raises $27m dollars from Australian investors!
The case is now before the courts as you may have come to realise the whole thing was a scam. Clark, had flung together some off-the-shelf encoding technologies and rigged it to look like he created something. It is alleged that he proceeded to move $17.7m of the $27m raised into other interests he controlled and within 12 months of raising the money, the company directors were declaring the thing a colossal mess.
DUH!
I won’t bother talking about Adam Clark that’s for the courts to decide, but I will talk about the investors. What on earth were you thinking? A bit more due diligence about this kind of revolutionary technology seems to be in order before plunking down a whole bunch of money, don’t you think? One report from a US testing company was enough to convince you? Why not hire someone locally to go have a look at the thing? Surely when Mr. Clark started talking about not letting the technology out of his lab, someone should have smelled a rat – that’s a tough thing to sell when the inventor won’t let it off his equipment. The whole thing smells bad yet they managed to raise $27m and go public.
The lesson out of this for both entrepreneurs and investors is – due diligence! It just isn’t good enough to read a few test results before plunking down some money. Obviously the level of technical due diligence depends on the stage of the company, but if there is a product, then seeing it work and testing it yourself shouldn’t be too much to ask. In fact, as an entrepreneur, one thing you should try and do if you have a working product and you’re raising money is send potential investors a trial account. If the company has revenue, then more formal due diligence looking at existing bookkeeping standards, record keeping (contracts, leases, employment arrangements, etc) and the technical team’s background should be par for the course. A lack of willingness to undertake or comply with this type of diligence should be a warning signal for either side.
