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With IPO Hopes Fading, Square And Box Face Reality Of Commodity Products


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Danny Crichton reminds us that the average Box sales price is $3600:

Jack Dorsey seemed to have everything it needed to conquer and crush the physical retail point-of-sale market, an industry that has called out for innovation for years without much progress. Box, the poster child (in a literal sense) of the power of a 20-year-old founder to transform the enterprise into a cloud- and mobile-enabled world, was flying high as one of the top valued startups in America.

Yet, both companies have now delayed their IPOs – perhaps indefinitely – and analysts are seriously questioning the ability of either company to get their roadshows back on track.

This isn’t the kind of bubbly they were hoping to pop.

It is the ultimate of Zero-World Problems: what do you do when your billion-dollar company is hemorrhaging cash, yet can’t be sold, can’t go public, and can’t raise funding? For founders facing the Series A crunch, such questions may seem irrelevant, perhaps even a tad obnoxious. Yet, in the tale of Square and Box lies a grave message for all of us about the ability of certain founders to defy gravity, even in the face of overwhelming evidence of the difficulty of building startups targeting commodity technology markets.

Venture capitalists are hawks for certain signs that a company doesn’t have command of its market. One obvious warning is when sales and marketing expenses are very high, particularly compared to the average sales price of the product. When companies lack highly differentiated products, they can’t compete on technology, so they compete on marketing to try to build differentiation through mindshare.

Thus, you see initiatives like Square handing out Readers for free and lowering fees as lead generation, or Box offering the vast majority of its customers free services while putting up billboards along major U.S. freeways. According to Box’s S–1, the company spent more than $170 million on sales and marketing in the year ending January 31, 2014, a period in which the company made $124 million in revenue. Or, to put it another way, 137 percent of Box’s revenue was spent on sales and marketing.

There is, of course, an argument to be made for spending today to invest in the future. One of the major questions for equity analysts about Box’s S–1 was whether the long-term sales contracts that the company is presumably signing guarantees it an income stream that will allow it to slow down sales and marketing expenses while continuing to rapidly grow its top line. Similarly, if Square can build sufficient penetration into the SMB space, it might be possible for the company to build additional services on top of its platform to grow its income from merchants. The fact that both companies have delayed their IPOs demonstrates what analysts thought of this line of thought.

Another warning sign of a commodity business is a low average sales price, particularly when compared to expenses. In other words, how well can a company protect its margins. Even today, Box’s average sales price is only around $3,600. With Square’s business model, it takes a tiny fraction of the transaction fee for each dollar that flows through its payments network. While its profit margins have never been made public, it’s generally believed that the company is near break even or slightly unprofitable serving its merchants, a pricing decision designed to quickly expand the company’s business.

These high expenses and low revenues lead to obviously high burn rates. Square is believed to have lost more than $100 million in 2013, and Box lost almost $160 million last year, as well. Such rapid evaporation of cash truly limits the options for the founders of these companies, since it puts a very large ticking time bomb around their necks, weakening their negotiating position with potential acquirers.

Finally, a more qualitative sign of a commodity business comes from the culture of the company. In the rush to create differentiation, companies often try to spit out products hoping to find some feature that secures customer sales. Both Square and Box have expanded their product lines dramatically, often without a comprehensive strategy involved.

Levie at Box speaks easily about his vision, but the company’s actual array of products is still blurry, with consumer and enterprise options still prominently featured and at times at odds with each other. Square is even more variable, launching a blistering array of products in the last few months including Square Market, Square Wallet, and Square Cash in addition to its core point of sales products. A lack of focus is not a good signal.

This is the first time I've seen Box and Square referred to as commodity businesses.

Agreed that a lack of focus is not good and geez these companies spent way too much money. 

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