A start-up company that allows people to save for retirement when they make consumer purchases.
A start-up company that allows people to save for retirement when they make consumer purchases.
To get START Inc. out of the gate, Larry Andreini and Lew Burger have to persuade consumers they can save money by spending* * *
Seated at a desk in the back corner of a deserted warehouse, serenaded by the clanking of conveyor belts and the stop-and-go screech of forklifts, Larry Andreini began crafting a plan for a business that, if successful, would affect the spending patterns of 50 million consumers. It's a big idea that's taken a toll on its founder: his car has been repossessed, his marriage has been destroyed, he's faced a rumor that his trusted partner planned to steal his company away. But six years and $5 million later, the undaunted and ever-upbeat 30-year-old is ready to launch his company and is preparing for explosive growth.
His company, START (an acronym for Save Today and Retire Tomorrow) Inc., in Herndon, Va., offers U.S. consumers the almost illogical proposition of spending and saving at the same time. The way it works: Consumers sign up with START and are issued an identification card. Armed with the card, a member buys from an array of stores, catalogs, and grocery stores, which START calls cosponsors. Every time a consumer buys from a cosponsor, up to 6% of his or her purchases are swept into an interest-bearing, tax-deferred annuity.
Right now the list of cosponsors is short but includes blue-ribbon names like USTravel, MCI, Club Med, Hertz, GE Capital Small Fleet, NationsBank, and Spiegel. In the next year Andreini plans to add 100 new names to the list, including well-known department stores, grocery chains, and even gas stations. The cost to the enrollee? A onetime $25 fee. Andreini calculates that a couple, age 33, could expect to build up a retirement nest egg of $213,000 by age 65 if they spend $16,000 a year with START cosponsors and draw 3% interest. Andreini says, "It's a painless way to save."
And one that speaks to a power-packed buying group -- baby boomers -- and focuses on one of their most wrenching concerns -- the future. More than 70% of surveyed consumers aged 20 to 49 say their number one concern is saving for the future, reports a Yankelovich Clancy Schulman study commissioned by START. Anxiety over savings outstrips concerns about job security and the current recession. "American consumers are struggling with the save-versus-spend dilemma," Andreini contends. Some lack the discipline, others feel overwhelmed by expenses, and others just don't know how to save. "Our premise is to say to retailers, Why not take the same amount you're spending to bombard people with advertising and instead earn customers' loyalty by helping them save for retirement?"
It's a premise that jibes with what many sophisticated marketing executives are thinking. More and more of them are facing the problem of product parity, meaning that less and less differentiates the hotels, the long-distance carriers, and the department stores of today. Add to that an overall decline in demand, shrinking profit margins, and customers who are less impressed by mass-market advertising. The result? A fundamental shift away from an all-out battle for new customers and toward an emphasis on "loyalty marketing" -- or retaining established buyers.
Today companies large and small alike consider loyalty programs the weapon of the 1990s. Not only is it cheaper to preach to the converted, but they are likely to be bigger-ticket buyers. It's a move that promises robust payoffs, too. Companies can boost profits by almost 100% by retaining just 5% more of their customers, according to a recent Harvard Business Review article. Andreini is betting that START is a cut above traditional loyalty programs, though. Unlike those focusing on a single product -- like frequent-flier programs or Sears's Best Customer plan -- START offers a wide array of products and services concentrated where consumers spend the bulk of their dollars: car payments, travel, clothing, and telephone services.
With a more diverse platter of choices, says Andreini, everyone wins. START will win because more services will mean more consumers, and more consumers will mean more revenues. Cosponsors will win because through START they'll gain access to a gold mine of qualified prospects from their fellow cosponsors, and earn customer loyalty through their contributions. And with so many services tied into the START network, consumers should be pleased by how easily they can build up savings.
After graduating from Notre Dame, in 1984, Andreini went to work for his father at Andreini Insurance. He later moved to a vice-president's position at another insurance company. It was there he met some clients who had an eye-catching concept that allowed people to save and spend at the same time. "What they laid out was the fundamentals of START," says Andreini. Captivated by the idea, he left his job to help the struggling start-up, called Tradevest.
But Andreini soon bumped up against problems. "These guys were so busy selling their idea they neglected the basics of building the business," he explains. Regulations were being skirted. An investor was wresting control of the company from the founders. Nearly three months later Andreini left the company, certain it was doomed. Four months after that, Tradevest filed for bankruptcy. But Andreini couldn't forget the idea. He was convinced of its premise; it just needed some fine-tuning, he reasoned, and he set to work building his vision for START.
In 1987 Andreini, only 25 and newly married, set up shop in the back of a friend's warehouse in Nitro, W. Va. Armed with just a credit card and modest savings, he began cold-calling insurance companies -- a critical link in the START concept, since he needed an insurance company that would be willing to administer customer annuities. But the response was less than enthusiastic. "They'd ask who was involved and how much money I had, and then they'd laugh me out of the office," Andreini says.
"After a while it got hard to pick up the phone," he recalls. And despite the free office space, his phone and travel bills began to mount. His credit-card line over the top, his savings gone, Andreini watched while his car was repossessed. And the financial strain tore at his six-month-old marriage. "I felt guilty that I wasn't a good provider," he says. The more guilt he felt, the more he pulled away from his wife. In 1988 the couple split. Facing a failed marriage, fresh out of cash and with the prospect of success dwindling, Andreini met a man who changed the course of his company: Lew Burger.
Andreini and Burger are an unlikely duo. With shoulder-length dark brown hair, a ready smile, and a walk that resembles a run, Andreini peppers his language with words like neat and cool. Burger, 50, has closely cropped gray hair, was an assistant district attorney before he founded and sold his own business, and is forever reminding Andreini about the 10-Times Rule, which says, "If you think something is going to take one unit of time, always expect that it will take 10 times that."
The two hooked up through mutual friends who knew of Andreini's sputtering START and Burger's nose for an opportunity. To Andreini, Burger brought more than money and contacts; he brought an ability to play ball with the big guys. "I pride myself on knowing what I don't know," Andreini admits. And right then, what Andreini knew he didn't know enough about was how to negotiate the web of deals with heavy hitters like Metropolitan Life Insurance and MCI -- partnerships key to START's viability. Not only did Burger have contacts capable of opening doors at those companies, but his years as a lawyer and company builder gave him an edge that Andreini desperately needed. "Without Lew there'd be no START," Andreini says. Yet Burger quickly adds, "This is Larry's idea," making it clear this lawyer thrives on his young partner's unbounded energy and fresh thinking.
In September 1988 the two decided to combine their energies, and Andreini left his dusty warehouse desk and set up shop in Burger's Scarsdale, N.Y., home.* * *
"START's greatest challenge is helping consumers overcome the idea that it sounds too good to be true," Burger points out. "It's analogous to handing out dollar bills on the street corner. People will pass it by just because they're sure there's a catch." To combat the credibility question, Andreini and Burger made an early commitment: "Every step we take has to reek of credibility." Every partner START hooked up with had to be blue-chip.
It was that conviction that brought Andreini and Burger to the New York City headquarters of Metropolitan Life Insurance. The second-largest insurance company in the United States, MetLife has 40 million customers; one out of every four Americans is a policy owner. This was the kind of firepower START desperately needed. Thanks to a friend of Burger's, the two made a presentation directly to a room of senior executives.
For the proposed START program, Andreini and Burger suggested that MetLife drop to $100 the typical $5,000 initial investment required to open an annuity. To cover the high administrative fees of an annuity, they offered MetLife the interest earned on the escrow savings accounts where consumers' money would sit between the time it was earned through their purchases and the time it was swept into the annuity, amounting to several million dollars a year. To give MetLife further incentive, Andreini and Burger estimated that, in the next 10 years, they'd bring 10 million new customers MetLife's way.
"It's a great way to get 20- to 49-year-olds thinking about retirement savings much earlier than they normally would," explains James Valentino, a senior vice-president at MetLife. Typically, an annuity holder is 55, which means MetLife has that money for only four years. Baby boomers still locked in their consumption years don't usually consider annuities. But START would bring this younger generation right to MetLife's door. Not only would MetLife have the use of baby boomers' money much longer; it would also gain an audience to which other MetLife products could be sold.
Twelve days after its first meeting with Andreini and Burger, MetLife agreed to START's terms, and six weeks later Burger and Andreini had a contract. While the good news put them a step closer to being in business, it also highlighted their biggest concern: money. For $10,000 they had secured Tradevest's original patent out of bankruptcy court in February 1989. But that purchase, along with the hefty legal costs of negotiating a deal with MetLife, had sucked their resources dry.
Up to then START's lifeblood had been the private coffers of Burger, Andreini, and a collection of friends and acquaintances. But legal bills, promotional costs, and phone bills had chewed up nearly all of the $250,000 raised. Looking ahead, the two could see the huge legal costs of fortifying their patent against copycats, not to mention the costs of soliciting and signing up a top-tier list of merchants, or cosponsors, through which they'd offer the START program. "We knew we needed new money, and fast," Andreini says.
That was when Andreini's high school algebra teacher came to save the day. Robert Podkaminer had left teaching to help launch a software-development company that had recently been bought by USWest. He had kept in touch with Andreini over the years and was aware of, and intrigued by, START. So much so that, armed with cash from the sale of his company, he pulled together a group of private investors that forked over $250,000.
Fortified with cash, and with MetLife backing them, Andreini and Burger began rapping on the doors of the biggest and the best -- MCI, GE, USTravel. Once again, the two knew that to be taken seriously in the marketplace, they needed big-name partners all the way down the line, from vendors to investors to merchants.
USTravel was the first to sign on, but it was tough going. "No one wanted to be the first to jump," Burger says. "Everyone wanted to wait a little longer." And when cosponsors did come aboard, their scrutiny was fierce. GE, for example, spent nine months rifling through every piece of paper START had ever generated. When GE did agree to sign up with START, there was just one proviso: it wanted the right to buy 5% of the company. Burger and Andreini agreed. What better endorsement could we ask for? they reasoned.* * *
Although every cosponsor's contract differs slightly, the general agreement looks like this: The cosponsor pays around 8% of the consumer's purchase to START. START then contributes 1% to the consumer's annuity account if he or she spends up to $1,000 a year with START businesses. The contribution goes up to 3% for consumers who spend a total of $1,000 to $2,000, and up to 6% for those who spend more than $2,000. The contribution accumulates in an escrow account held at Chemical Bank, and those accounts that have reached $100 are swept quarterly into the MetLife annuity, which pays around 6% annually.
START makes money two ways. First there's the up-front $25 enrollment fee. Then START gets the difference between the 8% paid to them by the sponsor and the 1%, 3%, or 6% START then pays out to a customer's annuity account.
So why should these Fortune 500 giants fork over that kind of money to a little-known start-up? "We've now got the credibility," Andreini says. "With names like MetLife behind us, these guys know we're going to be in the marketplace." He goes on, "It's a matter of, Do they want to be with us or competing against us?" Remember, Burger explains, "some of these guys pay out $20 million in advertising in the hope of reaching customers, and they never know if it works. With us, they don't pay us a penny until we bring them a customer."
It's an argument that got the ear of a lot of marketing executives. Although START plowed along slowly in 1989 and 1990, signing up only one cosponsor, Andreini says he's now negotiating with more than 30 cosponsors, and contract-closure time has narrowed from six months to three.
As for signing up customers, half of START's new members come from indirect streams -- or agents. An agent can be a Spiegel catalog that advertises and sells the START memberships to its customers. Or a broker who routinely sells benefits to associations and corporations. Agents assume the entire cost of selling and are paid $17.50 of the $25 enrollment fee for their efforts as well as an average of .5% of all the customers' purchases. "These acquisition costs are minuscule," says Andreini, "compared with the $110 it typically costs to acquire a bank-card customer."
The other half of new-membership sales is direct, harnessing the power of direct mail, TV, and radio. And -- no surprise -- Andreini and Burger have hired only the best to do their bidding. Their ad agency, Messner Vetere Burger Carey Schmetter, in New York City, voted Adweek's 1992 eastern-region agency of the year, will orchestrate the image campaign. Tactics will include dropping direct-mail pieces at the doors of qualified frequent fliers and heavy long-distance-phone-service users. "Documercials" -- whose format is a cross between a commercial and a documentary -- will be used on TV as a way of combating the it-sounds-too-good-to-be-true quandary START faces.
The total bill for direct marketing for 1993: $30 million. It's a much more costly route than indirect -- sometimes three times more -- but it's essential. "It builds awareness," Andreini declares, adding that forgoing an awareness campaign would double the work of his agents.
Given START's cash needs, the company's investor group has widened out of necessity. Andreini and Burger's credibility strategy seems to have paid off, attracting some of the biggest names in marketing and finance. Fayez Sarofim, one of the largest money managers in the country, kicked in $6.8 million. Sarofim has invested his own money in only three other deals: Intel, Teledyne, and Apple Computer. START is the first company in which he's invested personal capital in 11 years. Robin Burns, CEO of Estee Lauder, is also an investor, and although she publicly refuses to sit on any outside boards, she sits on START's board of directors.
Andreini's 25 largest investors bring not just marquee value but hands-on value as well. They've actively taken a role in shepherding Andreini to key contacts -- one even built the cubicles at START headquarters. To routinely tap into their collective wisdom, Andreini formed both a board of directors to discuss broad-based strategy and a board of advisers to hash out tactical questions. And he isn't shy about calling on board members between the quarterly meetings. "I talk to one or two directors at least once a day," he says.
Andreini knows he's lucky to have such a relationship with his investors. In START's early days, he had a very different experience. "One day one of my then-investors phoned to tell me that Burger was planning to take the company away from me," Andreini recalls. He felt burned -- and helpless. It was Burger's money. Andreini had only the idea. But the next day Andreini found out there was a very different plan unfolding. Through an air vent in Burger's home (which was START's base of operations), Andreini overheard the investors trying to coax Burger in on the deal they had masterminded. When Burger refused, the investors pulled out, leaving Andreini and Burger with a strong bond of trust.* * *
Until START was launched, on March 24, 1992, it had been in a prelaunch phase for nearly six years. Andreini and Burger were adamant about putting into place -- well before the first year of full operations -- the systems they'd need to sustain a company that could potentially reap sales of $52 million and service a million customers in its first year. They think their management team is key to that commitment.
Heading up the team is Lloyd Mahaffey. No stranger to exponential growth, Mahaffey spearheaded the turnaround of Commodore Computer in 1989, and headed Apple Computer's education division as it grew its sales from $250 million to $1.2 billion in three years. Mahaffey brought with him a collection of nine managers, all schooled in the art of high-velocity management.
And all were familiar -- many from their Apple days -- with the toll that fast-paced growth can take on employees. "Just as we have accounting and legal systems in place, we need to have our people ready," Andreini says. That's why he hired a human-resources manager two years ago, even though he had only 11 employees below management level at the time. Before the public launch day, the company sponsored two management retreats to delve into such esoteric topics as psychological barriers in the workplace and personal-growth plans.
In anticipation of a much larger staff, the company now occupies a 30,000-square-foot office space. There, customer decision makers (CDMs), charged with managing customer accounts, are the first to hear customer complaints or suggestions. "They run the company," he says. Around that core, partnership developers hunt for more cosponsors to join the START network; strategic planners study the results of mailings; marketing specialists coordinate public relations and advertising; and information-technology experts track the demographics of START customers.
Andreini, predicting 1,000 calls a day, knows that the pressure on his people will be formidable. So he's set up a GRIN (short for Group Win) room, where people come to settle disagreements, brainstorm, or just relax. A sign tacked to the door reads, "Forsake peacekeeping for truth telling." Every Friday a "town meeting" is called. Without regard to title, everyone breaks into groups to discuss the good, the bad, and the ugly of the week's happenings. Each of START's 40 employees is a shareholder, with stock issued according to the worker's salary and position in the company.
Andreini's attempt to teach "START-ers" (as they've nicknamed themselves) how to cope with the strain of wrenching growth was put to the test early -- just after the company's launch. The phones were ringing off the hook, thanks to an ad in USA Today introducing START. Experts predicted 6,000 calls at most in the first week and 3% enrollment from those calls. As it turned out, there were 11,000 calls, and enrollment was 11%. To prepare for those numbers, more CDMs were hired. "We were ecstatic," Andreini declares. "Finally, after all this preparation, we're ready to roll." But in early April everything came to a halt. Advertising was pulled back; phone calls slowed to a dribble.
What had happened was actually good news. Another insurance carrier was so impressed with START that it offered to upgrade START's deal with MetLife substantially. Unfortunately, for negotiations to proceed, START had to pull out of the marketplace until a decision was made. "It was hard," Andreini confesses. "There was a lot of tension because we couldn't tell everyone why we'd pulled out." Fortunately, there were mechanisms within the company -- town meetings, retreats, the GRIN room -- for venting frustration. Seven months later, Andreini held an even better agreement with MetLife, thanks to the pressure of a competitor, and START was preparing for a relaunch in January 1993.* * *
"We need to get critical mass, and fast," Andreini says of the January kickoff. START's greatest hurdle? "We have a real chicken-and-egg problem." To attract merchants, START needs consumers to sign up in droves; yet before they sign up, consumers want to be guaranteed an array of desirable merchants. For now, Andreini and Burger take comfort in the 18 studies they've conducted, with MetLife's assistance, showing that consumers are very concerned about saving for the future. And what consumers want, they reason, merchants will provide. Picking only top-tier names helps, too. "People are more eager to sign on when they know the names backing START," Andreini says.
But even if consumers excitedly sign up on day one, will their excitement fade over the years? In a society used to instant gratification, 20 to 30 years is hardly around the bend. One observer says START's plan is comparable "to selling cemetery plots." Andreini admits there's a wait, but he thinks consumers will join and then forget about the money -- much as they would with a college fund. "This isn't grocery money," he emphasizes. But for those unable to hold out until age 59½, the money can be withdrawn anytime, subject to a penalty charge.
Andreini and Burger stress that their projections are conservative. They estimate, for example, they'll have one million subscribers by the end of the year -- a number that seems well within reach. NationsBank, a cosponsor and the fourth-largest bank in the country, has projected that it will sell a minimum of 800,000 memberships. MetLife also bought a batch of 300,000 memberships and agreed to purchase another 4.7 million over 10 years, which it will parcel out to favored accounts.
Still, START's greatest hurdle is its own ambition. The stakes are high. Playing with big names and big dollars does suggest a certain credibility, but it also means big expectations. Unlike most start-ups, START, once it leaves the gate, will have little room for slipups. Working alongside an MCI or a MetLife means falling into rhythm with a Fortune 500 company that's had years -- not to mention millions of dollars -- to work out the kinks, to polish up the act. START won't get that kind of leeway. "This is an all-or-nothing game," Andreini admits candidly. "We have to be all from the beginning."
Company: START Inc., Herndon, Va.
Concept: To create a program that allows consumers to save and spend at the same time. A consumer purchases services or products from START's network of merchants, who in turn pay a portion of the purchase price to START. START then puts a portion of that money into a retirement-savings account for the consumer
Projections: START will lose $20 million on revenues of $52 million in 1993. By 1997 revenues will skyrocket to $1.2 billion, with pretax profits of $308 million
Hurdles: Asking consumers to wait until retirement to reap START's reward might be too much to ask. Company faces a "chicken-and-egg" problem: merchants won't sign up with START unless they see lots of consumers on board, but consumers won't sign on unless they can buy from a wide array of merchants
Personal funds invested: $2,000
Equity held: 20%
Education: B.A. in marketing from the University of Notre Dame
Last job held: Brokerage rep for Phoenix Mutual Life Insurance Co.
START's Income Projections
($ in millions) 1993 1994 1995 1996 1997
Number of memberships 1,000,000 -- -- -- 11,800,000
Revenues $51.5 $225.8 $517.8 $894.2 $1,240.8
Cost of revenues (agent commissions, contributions to $44.8 $171.7 $378.2 $641.1 $881.7 members, solicitation and enrollment costs, membership maintenance)
Gross profit $6.8 $54.1 $139.7 $253.1 $359.1
Corporate expenses (marketing, general and $26.8 $36.0 $40.0 $44.4 $51.1administrative costs)
Pretax profit (loss) ($20.0) $18.0 $100.2 $208.7 $308.0
WHAT THE EXPERTS SAY
Chris Ohlinger, a consultant who reviews and recommends marketing programs for retailers like Wal-Mart discount stores, Kroger supermarkets, and Montgomery Ward department stores. His business, Service Industry Research Systems, is based in Cincinnati
First, START's timing may be a problem. To compete with the wild success of the warehouse discount formats, traditional department stores, grocery stores, and drugstores are madly pruning costs out of their systems rather than adding them. They're preoccupied with cutting so they can deliver the best deal to customers who are obsessed by price.
Second, a majority of retailers are overleveraged because of the buyouts of the 1980s and the low inflation of the 1990s. They're like deer frozen in the glare of headlights, and they're not responding to sales-oriented ideas like START. And don't forget, a traditional food retailer earns less than 1% on sales. With that slim margin, it's extremely unlikely those retailers can afford anywhere near the 8% that START's negotiating in other deals.
Walter Erickson, executive vice-president of the promotion division of Carlson Marketing Group, a billion-dollar worldwide marketer in Minneapolis specializing in creating loyalty programs for airlines, hotel chains, and credit-card companies
Most businesses understand that there's greater value in selling more to existing customers than in searching for new customers. Thanks to the success of frequent-flier programs, there's no lack of interest in the marketplace for this kind of program. The question is, can this one be executed?
START needs more sponsors, and fast. To win, Andreini needs to corral enough sponsors into his network so that customers will use START on a daily basis. He's far from that now. The $25 enrollment fee, while a great way to weed out people who don't intend to play, does dramatically limit the number of people who do play. It's easy to take 200 consumers, look at the way they spend, and assume your whole universe of consumers will spend that way. But our experience with loyalty programs is that you have a big database of names in the beginning because lots of people join, but a much smaller portion play, and then an even smaller group play continually. And although groups signed up through agents make Andreini's membership numbers spike up, those members will play very little. They haven't requested START. In that kind of automatic enrollment, less than 50% will play, and Andreini would be lucky to get 10% to play heavily.
Richard G. Barlow, a consultant who does customer-retention marketing for clients such as Sheraton Hotels worldwide, whose program has a million members in 65 countries. Founder of Frequency Marketing Inc., in Cincinnati, Barlow is also crafting his own loyalty program for avid golfers
There's no jump start to this program -- to get members playing and to entice cosponsors to sign up. Any program like this needs to give Joe Average a reason to get in early and play heavy-duty -- like double points for the first 30 days. Also, START's funding formula is going to have to change. Here's why: Eight percent is a huge amount. START would like to be able to assure cosponsors that this is a great investment because it brings new customers. But it can't. It's likely that a cosponsor will often be paying just to keep a current customer. Knowing that, cosponsors will push to cut lower deals. On the other end, members are going to be disappointed once they get in and see how slowly their retirement funds accumulate. To keep members, START will have to come back and run bonuses -- meaning that START's margins will be squeezed. That's when Andreini will have to return to his investors to make a whole new case and reconfigure his funding formula -- or close the doors.
Ted R. Dintersmith, general partner at Aegis Venture Fund, based in Lexington, Mass., who does large early-stage deals, a third of them in service businesses
My biggest concern is the amount of exposure START will get before it has any feel for where it's going. After six years in the prelaunch stage, roughly $5 million has been consumed, and the company is projecting $20 million in operating losses in 1993. It wouldn't surprise me if we're talking about a $30-million bet on this company. That's a huge bet. You won't know whether this is a profitable or an unprofitable business until 1994, when START can calibrate custom acquisition costs, margins on current customers, and retention rates. The problem is that how those numbers stack up depends on more than how well START does its job. In large part, success or failure hinges on how well START's vendors and cosponsors work as a team -- some of which is out of START's control.
Managing customer expectations is also going to be a challenge. Customers haul these cards around and steer their purchases in certain directions and then get the first statement. If people are disappointed with their rate of savings early on, they'll quickly drop the program, and you'll see retention rates fall to the floor.