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Great Timing

If you were starting a company, you couldn't have picked a worse year than 1999. And yet a surprising number of this year's Inc. 500 companies did just that.
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By rights, there should be no companies on this year's Inc. 500 that were founded in 1999. None. Zero. Consider the double whammy faced by companies that were start-ups in the last bubble year and are now eligible for the Inc. 500 for the first time.

Whammy No. 1: getting started at the height of the boom. Sure, money was plentiful then. But a start-up needs other things, too, like human beings and a place to put them. "Man, it was tough to find tech people" five years ago, says Steve Simonson, CEO of Smooth Corp. (No. 135), an online supplier of flooring headquartered near Seattle. "Companies around here were giving away BMWs as signing bonuses." Finding space? "A nightmare."

Whammy No. 2: surviving the recession, which hit in March 2001. "The first quarter of 2001 was really good for us -- our best quarter ever," recalls Noreen Kenny, of Evolve Manufacturing Technologies (No. 89). Then her nostalgia vanishes: "In the second quarter, revenue literally went down 90% in two months."

Nor did this turn out to be an ordinary downturn, a break in the action before the GDP resumed its climb. Industry after industry found itself in a turmoil of restructuring. Service companies as well as manufacturers began moving operations overseas. Giants scarfed up smaller fry just because they could get them so cheaply. Internet, high-tech, and telecom businesses, red-hot during the boom, found themselves at the bottom of a well staring upward. In 18 months, nearly 600 "significant" Web-based companies -- those that were publicly traded or had received formal funding -- closed down, costing investors billions of dollars. Not what you'd call a hospitable environment for entrepreneurial endeavor.

Unemployment Rate

  • 1999: 4.1%
  • 2004: 5.4%

So take a wild guess how many companies actually did start in 1999, survived these grim conditions, and grew fast enough to make the 2004 Inc. 500. A dozen? Two dozen? Somehow, some way, 102 companies -- a fifth of the list -- got off the ground in 1999 despite the overheated marketplace, steered clear of the wreckage, then sailed onward and upward during one of the toughest periods for young companies in recent memory. Their secrets? Some found growing niches, and never mind what might be happening in the rest of the economy. And some uncovered the good blown by all those ill winds, thus capitalizing on the general misfortune. But then there are the others -- the dot-commers, the telecoms, and even a Silicon Valley manufacturer -- that leave you asking, Wait a second -- how did they do that? Clearly, these folks knew some things that everybody else did not.

The thing about economic indicators, those gross measures that we all rely on to gauge the business climate, is that they mislead. Look at the period from the beginning of 1999 to the end of 2002, for example, and you might conclude that everyone was riding the same roller coaster. The Dow peaks at nearly 11,500, then plunges erratically to under 7,600. The Nasdaq hits 4,697, then retreats to 1,172. Unemployment -- probably the best indicator of the economy's overall performance -- falls below 4% in late 2000. Two years and two months later it is two full percentage points higher, which doesn't sound like much but in fact means that roughly half again as many people are out of work. The big picture: unambiguous boom followed by unambiguous bust.

But now, zoom in a little. The U.S. economy isn't one big marketplace, it's a zillion little ones -- and even in downtimes, savvy entrepreneurs have a knack for finding friendly niches. Thanks to rock-bottom interest rates, for example, the mortgage-lending industry pretty much skipped the bust and just kept expanding. So this year's list includes 29 mortgage companies, among them five that were founded as late as 1999.

Consumer Confidence Index

  • 1999: 134.2
  • 2004: 98.2

Or take health care. "The pressures associated with downturns in the economy aren't quite as greatly felt in health care," says Darryl Hart dryly. Hart should know: Once he quit focusing his supply-chain management company, Commodity Sourcing Group (No. 16), on the automotive industry and refocused it on health care, his firm's prognosis for success was much improved. "We got one contract, which led to another, which led to another," he recalls. "Our revenue went from a couple of hundred thousand dollars to a million to $3 million to $9 million to $23 million. That all happened fairly quickly."

As the cryptic line in the musical Pippin says, "It's smarter to be lucky than it's lucky to be smart." But some companies were both smart and lucky, though luck seems not quite the right word when a business is positioned to grow on the basis of tragedy. Case in point: SecureUSA (No. 242), in Cumming, Ga. After the Oklahoma City bombing in 1995, government agencies and others began placing vehicle barrier systems around their buildings. But most of the new systems weren't correctly installed or properly maintained. Entrepreneur Bevan Clark proposed to do a better job. His company, which forged an alliance with a major manufacturer, launched its website in August 2001. "And then we had 9/11," says Clark. By early 2002, SecureUSA's sales were on a sharp upward path and have continued so to this day.

So it's not hard to understand how some of those 1999 companies made this year's list. But then there are the others, the ones that grew in markets that can only be described as wastelands, that really make you wonder how they pulled it off. Remember when e-commerce was the hottest market of them all? Back in those heady days, Steve Simonson was running a flooring store in Bellevue, Wash., near Seattle, but he was a "tech guy from way back" and he really wanted to join the party. He racked his brain for something to sell online, until finally it hit him: "After tripping over flooring samples for the umpteenth time, I finally said, 'Why don't I just try to sell floors?" He managed to find a few programmers even in Seattle's zipped-tight labor market. He got a building ("basically a teardown") and fixed it up. And, yes, the customers were there. "How cool is it to come in on Monday and see orders that were placed without human interaction?" he says. "Very fun!"

Prime Interest Rate

  • 1999: 7.75%
  • 2004: 4.25%

The birth story isn't much different for Noreen Kenny. She was working for a Silicon Valley semiconductor company and couldn't find a supplier to do precision mechanical work. A business niche, she surmised -- why not start a company? She too had the people problem: She had to persuade several workers from her old employer to join her, then get them to talk friends and family into applying for jobs. Space was tough to come by as well. The only facility she could find in the Valley was going for $3.50 a square foot, unheard of for a plain-vanilla manufacturing facility. But, boy, was she right about that niche. "We got the work as fast as we could take it," she says now. "I think it ramped up 700% in the first year."

And then there were the telecoms. Remember that industry's irrational exuberance? WorldCom and Global Crossing were growing like there was no tomorrow. The Baby Bells and others were pouring money into fiberoptic lines. The Telecommunications Act of 1996 -- "the first major overhaul of telecommunications law in 62 years," according to the FCC -- was designed "to let anyone enter any communications business." The word was that new entrants could snatch as much as 25% of the market from the Bells and other established firms.

For entrepreneurs, the pull was irresistible. "We were part of that initial euphoria," acknowledges Dan Moffat, of New Edge Networks (No. 28) in Vancouver, Wash. "I had top-tier venture capitalists calling me at home, 11 o'clock at night, saying, 'Take our money!" Moffat dove in with a plan to take broadband capabilities to nonmetropolitan areas -- "broadband for the rest of us." Paul Chapman jumped in too, though his own niche was different. A GTE veteran, Chapman set up a little company called Pathwayz Communications (No. 121) in Amarillo, Texas, to provide local and long-distance service to towns in West Texas. "It was this crazy time," he remembers. "There were lots of start-ups."

It wasn't long before that fiery enthusiasm all but evaporated. Big firms downsized, start-ups vanished, e-commerce and telecom ventures were suddenly reclassified as likely losers. Silicon Valley seemed particularly toxic. It was a terrible time -- except, of course, for our exemplars, who not only lived but thrived.

Common lessons emerge from these survival tales, even though the companies come from very different industries. Call them the Lessons of Keeping Your Head Even When People Around You Are Losing Theirs.

Lesson No. 1 might be titled Don't Take the Money. One thing that distinguished Smooth Corp. and other e-commerce survivors such as shoe seller Zappos (No. 15) is that they didn't go after venture bucks during the boom and so didn't find themselves overextended later on. "Because we didn't raise $20 million, we didn't spend $19 million on marketing," says Smooth Corp.'s Simonson. "We didn't build an infrastructure bigger than the business would serve." Same with Pathwayz. "We didn't think we needed the kind of dollar amount that group tends to want to invest," recalls Chapman, "and we had concerns over what they wanted."

Relative to so many of the players in their respective fields, Simonson and Chapman began their companies with small amounts of money from small groups of investors. They built the business slowly, and they made a virtue of austerity. Simonson's programmers created a homemade, low-budget Linux platform that proved robust and capable enough to coordinate the deep back-office support required by big-ticket items like flooring. Chapman spent $5,000 on his phone system instead of $50,000 -- and made it a point for Pathwayz to be the company "that answers the phone with a person who's trained well" instead of the voice-mail hell offered by so many of his competitors.

Evolve's story wasn't so different. Kenny started the company on "just my credit cards plus whatever cash I had," taking outside funds only in the form of short-term cash-flow financing from an angel investor. Today, the fact that she has no debt allows her to keep prices low and revenue growing. Even New Edge Networks, which did need big infusions of capital, spent the VCs' money carefully, focusing on profitability more than on sales growth. "We knew it was going to take a long time" to make money, says founder Dan Moffat. "There's a huge infrastructure required. But we told investors it would take four years, and we actually went cash-flow positive in the 47th month."

Lesson No. 2 follows from the first: Take Advantage of the Fools Who Did Overextend Themselves. When the bust hit Silicon Valley, larger manufacturers began shuttering factories, laying off employees, and outsourcing what work was left. Evolve snapped up errant product lines and the people who knew how to make them. Pathwayz found the collapse of the telecoms equally a blessing. "It took the people that were doing crazy things out of the market -- people paying too much for customers, things like that," says Chapman.

Smooth Corp. may have hit on the cleverest strategy for capitalizing on the change in the market. When e-commerce companies began hurting, Simonson went shopping for acquisitions -- and found a nice but struggling little company that had some $4 million in cash. He engineered a buyout using Smooth's stock, and presto: His company's bank account was $4 million richer. "That cash gave us a really long runway" to survive the downtimes, he says.

Lesson No. 3, finally, is that old chestnut -- Don't Stand Still! But it takes on new meaning when the economy is heading from boom to bust. If you have a solid business and your competitors suddenly don't, you can do things they can't. That means expanding your horizons, shifting your strategies, and undertaking ventures that you thought might be beyond you. Smooth Corp. continued on the acquisition trail, and at this writing has scarfed up close to half a dozen would-be competitors. Pathwayz has bought its first switch, as the specialized computers that control telecommunications are called, and is evolving from a pure sales and service outfit to a company with its own facilities.

New Edge Networks retrenched during the collapse, too, laying off some 150 people and holding off on buying more switches. That allowed it to reach its profitability target and to position itself for a comeback as the market picked up. The comeback involved a host of strategic shifts. "We stopped focusing on consumers and went to business customers," says Moffat, and "we came out of the hinterlands and started doing more nationally." Another shift: At the outset, the company had sold its wares through Internet service providers, which resold to consumers; in other words, New Edge Networks was purely a wholesaler. Now it began selling to businesses directly. What emerged was a thriving cash-flow-positive company with close to $100 million in sales last year -- and a company that didn't look much like the New Edge Networks of 1999.

"When the meteor hits," concludes Moffat, "you want to be a small, furry, nimble omnivore. If you're big and slow you're going to be challenged." That could serve as the motto for all the exceptional enterprises that launched themselves in one epoch and learned to survive through a very different one. That so many should not only live but grow fast enough to make the Inc. 500 -- well, as George W. Bush might say, never misunderestimate an entrepreneur.

Contributing editor John Case is co-author of Equity: Why Employee Ownership Is Good for Business, to be published by Harvard Business School Press in spring 2005.

Last updated: Oct 15, 2004




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