Blog reader Curtis Thompson asked me a very good question a few days ago: What should an entrepreneur say when she’s asked what makes her company defensible? This question is more and more common as more and more entrepreneurs start “Web 2.0 companies,” and investors torture themselves by wondering why they didn’t fund YouTube.

“Defensible Web 2.0 company” is an oxymoron in the sense of a quick, irrefutable response to the question. First, do yourself a favor and examine the source of the question. If it’s a pencil-necked rookie investor or associate with an MBA, it means that you’re dealing with someone who wants to make himself look smart. If it’s an experienced investor, then understand that he’s not expecting a bullet-proof answer but wants to see if you’re street wise, clueful, and cool under pressure (or a reader of my blog).

Thus, this seemingly simple question is one of the hardest for an entrepreneur to answer. A good response requires a combination of clairvoyance, street wisdom, humility, honesty, and cockiness. More than anything else, it’s a trick question to see what you’re made of. First, let’s discuss the three worst possible answers so that you don’t show that you’re made of stupidity:

  1. “Patents make our business defensible.” Go ahead and file them because you may someday achieve huge success and therefore have the time and resources to go to court. However, the most valuable outcomes of a patent are often impressing your parents and filling up space in your MySpace profile. (The exception to this rule is biotech, chip design, and medical devices where a patent really means something.)

    As a startup, it’s highly unlikely that patents will make your company defensible because you won’t have the time or money to do battle with a Microsoft-esque competitor. Sure, every few years you hear that Microsoft has to pay a company tens of millions of dollars, but “suing Microsoft” isn’t a viable (or attractive) business strategy.

  2. “We’re the only guys who can do this.” This is a signal to investors that you’re clueless and don’t even know how to use Google. There are very few teams that have a monopoly on knowledge or implementation skills. This is like Terrell Owens claiming that he is the only wide receiver that can help a football team win the Super Bowl, so skip the grand delusions.

  3. [Big-name potential competitor] won’t compete with us; they’ll simply have to buy us out.” Speaking of grand delusions, this is even worse than TO’s. Espousing the theory that what makes your company defensible is that potential competitors will buy you out will put you in the main display of the Bozo Hall of Fame.

Now that you know what not to say, here’s a top-ten list of what to say. However, as my mother used to tell me, “Don’t be a khazer“ (Yiddish for “pig”) by using them all because your answer won’t ring true if you do.

  1. “We know that there are no ‘magic bullets’ that provide defensibility.” This is a great way to start your answer. It shows that you’ve been around the block and understand how the world works. An experienced investor will breath a sigh of relief; an inexperienced one will want to call his professor.

  2. “We have filed for patents, but we know that we cannot depend on patents as a major component of defensibility.” This is the perfect treatment of patents: You filed for them just in case you can someday use them as a legal tool, however you realize that until those halcyon days, you will have to fight with different weapons on the battleground called the market, not the legal system.

  3. “We have an x month head start (mention “x month head start” only if x exceeds nine), and what we’re doing is hard. We know we have, at best, a temporary lead. It’s so hard that few established companies would defocus themselves by trying to do what we’re doing.” This shows that you’re both ahead of the market but clueful enough that leads don’t last. Plus, investors want to believe they’re ahead of the pack.

  4. “We’ve built similar businesses before.” This makes the case that you have an advantage on your side: you’ve done this before, so that even if others are doing it, you can do it better and faster.

  5. “We’ve amassed a ton of relevant domain expertise because our founders sold to these customers before.” Now you’re talking. You’ve got an inside track with established contacts and established reputations. This is getting interesting.
  6. “We used to work at [insert big-name company], so we know it won’t be a competitor. In fact, we quit the company to start this because our management refused to address this lucrative market.” This is a twofer: believable inside info about a worrisome potential competitor and another way to claim domain expertise.

  7. “We don’t know if we’re the only people who can or are doing this, but we’ve already signed up key customers like [insert the biggest names that you truthfully can] to use our product. You’d think they’d know of better solutions if they existed.” The point of this is use external, third-party confirmation of what you’re doing.

  8. “We came to you because we believe that the backing of a firm like yours will dissuade other firms from investing in competitive companies. We also know that you have a world-class Rolodex as well as access to the best talent.” The key to this response is to say it with a straight face because it is a suck up, but investors loved to be sucked up to. This is a lot easier to say at a Sequoia Capital; Draper, Fisher, Jurvetson; or Kleiner, Perkins than at, say, Chaim, Yankel, and Pippel, LLP.

  9. “We expect that there will be competition because we’re not working on a get-rich-quick gimmick. This is a real business that we think is going to be big.” This is music to an investor’s ears: a big market that has competition beats the hell out of dominating a market that doesn’t exist.
  10. “It’s a race, and we’re going to work like hell to reach escape velocity. That’s the bottom line.” Whether you realize it yet or not, this is as good as it gets. What makes a company defensible is that it has scaled to the point where it’s achieved critical mass and has become synonymous with a market (online video: YouTube), sector (rental DVDs: NetFlix), or task (search: Google). And this achievement renders all the other bull shiitake you can fabricate essentially impotent if not downright laughable

When all the dust settles, the goal is to paint this picture:

  • You’re street wise, so you know that you can’t depend on patents.

  • You understand that very few companies are truly defensible for reasons other than because they either achieved critical mass or had a nine-month head start.

  • You have domain expertise, connections, and what you’re doing is hard.

  • You’re not the only team that can do this, but you’re in a better position than most.

  • You believe that you can build a business better than anyone (a little cockiness is necessary for an entrepreneur to survive).

One last power point: These explanations will only work on an investor that already fundamentally believes in what you’re doing. If the investor doesn’t believe, then there’s probably nothing that you can say that will convince him of your defensibility. Nor, frankly, is defensibility the sole reason why he’s not interested. Then you should just move on to the next investor with the full understanding that achieving success is the sweetest revenge.