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Sheldon Waters, founder and president of DSM Computing Solutions Inc., (Tim Fraser/TIM FRASER FOR THE GLOBE AND MAIL)
Sheldon Waters, founder and president of DSM Computing Solutions Inc., (Tim Fraser/TIM FRASER FOR THE GLOBE AND MAIL)

THE CHALLENGE

Funding innovation: no outsiders, please Add to ...

Every week, we will seek out expert advice to help a small or medium-sized company overcome a key issue it is facing in its business

Sheldon Waters, founder and president of IT service provider DSM Computing Solutions Inc., is accustomed to keeping up with a fast-changing industry.

When he launched his Toronto-based firm in 1990, he mainly sold computers. But as they became a commodity, DSM became a low-margin business, and Mr. Waters recognized the need to offer more services.

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Today, he is again forced to reinvent his firm, as the rapid evolution and growth of Internet-based technologies means his customers – small and mid-sized companies – are increasingly purchasing IT products directly from product vendors, cutting into the opportunity for IT service providers such as his company.

Mr. Waters’s 35-employee company is addressing the challenge by building its own Internet-based products.

In 2008, under a spinoff company called IT Control Solutions Inc., it launched itControl Suite, which is software delivered as a monthly paid service, or “SaaS,” which allows IT staffers to remotely monitor and manage their company's computers and network systems. The product has gone on to win 18 prestigious awards in the North American IT industry.

But such innovation costs money. DSM has so far funded innovation by reinvesting profits, and taking advantage of government programs and bank financing.

But the company has stretched such resources to the limit. Paying for innovation and product development is “a huge strain on the business,” Mr. Waters said. “Yet we know it’s imperative that we continue to create these new-age, Internet-based solutions.”

The obvious answer is outside investment. Mr. Waters has been approached by venture capitalists and angel investors, but has turned them down. He’d rather not dilute his ownership in the company, and wants to avoid the pressures that external investors can put on entrepreneurs, he said.

He’s also concerned about losing control. “An investor making operational decisions based on elements of the performance of the business can be very destructive and intrusive,” he said.

The Challenge: How can DSM continue to fund innovation and new product development without bringing in outside investors?

THE EXPERTS WEIGH IN

Andrew Maxwell, chief information officer, Canadian Innovation Centre , Waterloo, Ont.

Maybe DSM doesn’t have to come up with a brand new product. One of the fastest ways to make money is to extend the life of a current product by adding new features and issuing a new version of it that makes it more functional. DSM could consider doing this to itControl Suite.

They could also look at new business models for the product. Maybe they could do a “freemium” version of it and then charge for a full-function version.

And they might want to cut the distributors out of the picture and look to increase direct sales, which would improve margins because there’s no middle man. Distributors can disconnect the customer from the developer of the product, and, the closer you are to your customers, as a developer, the better it is. Some distributor relationships are vital and important and effective, but when you’re innovating a technology product, an intermediary can be an unnecessary evil.

Jeremy Laurin, chief executive officer, VentureLAB , Markham, Ont.

I applaud Mr. Waters for looking long and hard at this issue. Companies too often go straight to growth financing before they properly evaluate all the options.

Companies in this situation would be smart to look into developing strategic channel partners that are synergistic to the business you’re in, and can see value in your products. A strategic alliance with a large company could help DSM access new markets and customers for its current product that it couldn’t before. Once the partner sees the value of what DSM has today, it will want to help develop future products.

More than just a distributor or reseller, a strategic partner will understand the cash restraints of a smaller company, and will often bridge the receivables in your business.

Why would they do this? The value proposition to the larger company is that it doesn’t have to invest in R&D to develop the product itself. They’re investing because there’s mutual gain.

The other benefit to this strategy is that your relationship with your bank will be strengthened when you have a great, large strategic partner.

Exactly who the partner could be, and the precise nature of the partnership, won’t be readily obvious. That will require some strategizing and research.

Brian Joe, chief executive officer of Ottawa-based Apption Inc.

To finance new product development without outside funding, DSM could consider lowering salary expenses by cutting deals with key development employees, substituting salary with “sweat equity” grants in the form of stock, stock options or shadow stock that will give them a level of ownership in the new product and allow them to share in profits.

DSM could also consider spinning out the new product development into a separate company and lowering costs and re-energizing with pure startup culture; couple experienced management with young talent fresh out of school, willing to work long hours for low pay for the chance to make it big with an ownership stake.

Mr. Waters could lower his costs dramatically by building a development partnership with a trusted individual or firm in a developing country, such as Vietnam, Russia, or Eastern Europe.

Finally, DSM might want to approach existing clients to offer them an investment stake in the new product, or ask if they will pre-pay to help finance development in exchange for free or discounted licensing of the finished product.

THREE THINGS DSM CAN DO NOW

Keep the focus on its current product

Instead of spending to develop new products, boost sales of what it already has by rethinking its business model, sales channels, pricing and product features.

Lower salary expenses

Spin out new product development into a separate company using young talent willing to work for lower pay. Or offer “sweat equity” grants in exchange for lower pay.

Form strategic alliances

Find a strategic partner that could help DSM find new funding and markets for its current product and see mutual gain in helping to develop the next one.

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