The Microsoft trial isn't just about anticompetitive behavior. It's a window into fin de siècle industrial scheming and the hazards of small companies trying to maneuver amidst the giants. Although the trial spotlights technology companies, entrepreneurs in any industry face similar questions: How to remain independent amid leviathans? Does a partnership or distribution deal with a global conglomerate gain you an ally or make you helplessly dependent? Do you resist predatory behavior or play dead?

Peter C. Wendell has been there. He is the founder and general partner of Sierra Ventures, a venture-capital fund in Menlo Park, Calif., that has invested in 23 information-technology companies. Wendell's résumé includes serving as an adviser to Intuit -- the subject of an aborted takeover by Microsoft in 1995, which was scuttled after federal officials raised antitrust concerns. He also advised Teradata, an upstart maker of database systems that took on IBM Corp. on its home turf. Wendell also teaches entrepreneurship and venture capital at Stanford University's business school. He spoke with Business Week Online's Dennis Berman. Here are edited excerpts from their conversation.
 

Q: Intuit's relationship with Microsoft has been well publicized. What did you learn from that experience?
A: The smart thing Intuit did is that they found something early on that the big guy wasn't focused on. Microsoft started in the operating-system world, and as they got more successful, started on computer applications. Their personal finance software was called Microsoft Money.

Meanwhile, at Intuit, [CEO] Scott Cook and the boys there already had a stronghold in this application niche and constantly innovated even when they didn't have to. Even when it had a 50% to 60% share, Intuit was constantly innovating so that Microsoft could never catch them.

It's always easier to beat a big guy before he enters the market, and it's harder to take him out once he's in the market. When Microsoft was bringing out Windows and Intuit ... was on DOS, most of Intuit's users were at home. Windows was aimed at a more professional user. Intuit's original strategy was to get a Windows release out but not to turn things over to do it. Then we were at a board meeting and John Doerr [a renowned Silicon Valley venture capitalist] told them, "You get a Windows version out there the day Windows is out there. If you don't have it ready to go, as soon as Microsoft starts to get a hold of the Windows market, you'll spend $5 for every one of theirs to catch them."

They worked for 60 days, day and night, and got it out there three days before Microsoft Money came out. Intuit still outsells Microsoft three to one. So the lesson is: Go where the other guy isn't, and get there quick.

Q: Let's say a Microsoft comes to your small company and offers to divide a market. This may or may not be legal. But it could be a huge boon to your company. What's your ethical obligation?
A: In any of the 50 or 60 companies we've backed, we always have counsel and auditors. If something's close to the edge, you need to ask your counsel. But these things tend to be far more driven by market forces than legal forces. The concept of one or two guys in an industry colluding to carve something up tends not to be sustainable, because in most of the tech fields, there's a sufficient rate of innovation. There are lots of opportunities for ethical dilemmas, but I'm not sure that carving up markets is one of them. The biggest dilemmas are more like what companies represent about the state of their products. Or how they choose to represent their financials. Everyone is trying to look bigger than they are. That's where the prevalent ethical questions are.

Q: What about when you're trying to work a deal with a company that's the acknowledged leader in your industry? You can't exactly say "no" to them. Are there any ground rules for establishing contracts?
A: You can't always get everything you want. But you have to shoot for it. First of all, try to keep some branding on what you're bringing to the end customer. If Microsoft is embedding your service or their product, try to keep it branded in some way. So that way, it gives you leverage over the Goliath because the end customer knows what they're buying. They're buying your product, not the distribution channel.

Q: Any guidelines for exit strategies?
A: If someone takes a minority investment in your company, you want to be careful on the secondary and tertiary terms. Those terms often give them blocking power over your corporate destiny. That minority stock may give them veto power over any mergers, acquisitions, and you don't want to give them any blocking power, though that is frequently asked for.

And you don't want to give them the pre-ordained right to buy your company at a fixed price. What we counsel our companies to do is to give a right of first offer, which says that if I'm going to sell my little company, the first thing I have to do is offer it to you. If I can't get a better price, usually in 90 days, then you own it. That gives the Goliath a perception of some control. But it gives the David another first bidder, too.

Q: How does a little company effectively compete against, or dance with, a behemoth?
A: Our firm has been closely involved with three different companies that have competed against what, at the time, were alleged monopolists. And thinking about how they did it, they competed in a way that was hard for the behemoth to fight against. They found chinks in the armor.

For example, Teradata. The company makes large relational database processors, and it systematically picked off IBM's biggest customers. Having spent my earlier career at IBM, I was flabbergasted at how they did it.

At the time, in the mid-1980s, IBM was selling database management to their customers and was selling them these hierarchical databases. In a hierarchical database, data is arranged in a prescribed manner, which makes it slower to find things. In a relational database, the elements of the data can be arranged in any way, and the computer can get to the data much quicker.

Teradata was first on the scene with relational databases. IBM had all this hierarchical software sold to their big accounts. So they could not embrace this new technology. IBM could not say, "Use relational databases." [If it did,] the IBM customer says, "I just hired 200 programmers for five years. Now you're telling me to throw it in the trash?" They were a prisoner of their own success -- which left a flank open for a new agile competitor.

Q: Are there other ways your companies have found that chink in the armor?
A: Centex Telemanagement offered a service that brought together clusters of small businesses and formed a buying co-op so they could buy from the phone company as a single big customer. Centex goes to the phone company and says it's now buying five million minutes per month because it represents 400 companies. The companies get a great deal, and Centex keeps some of the benefit for itself.

Pacific Bell had a monopoly, and it used to have all these high-margin small customers. Now, suddenly, they've got to charge rates that are more like what they are charging Bank of America.... Their revenues will go into the toilet. Pacific Bell is not going to change the pricing structure just to compete against this thorn in their side. So that gave us the chance to build an attractive, profitable business. We figured out strategically what the big guy cannot do -- or what is in his interest not to do.

To: LAW