Perhaps one of the most challenging questions for an entrepreneur to answer is ‘what does my company really do and what is its true role in the marketplace?

It’s a simple question. But it is difficult for many entrepreneurs to answer realistically, because there’s a natural tendency on their part to think their companies do more and have more potential than is actually true.

This is often healthy – ambition and boldness can be beneficial when exhibited in certain quantities. But sometimes an overestimation of your company’s place in the world and where it can go can lead to disaster.

I recently learned of a company that may eventually serve as a case study for this fact. Xobni (Inbox spelled backwards) is a Web 2.0 startup that has created a Microsoft Outlook plug-in “that helps you organize your flooded inbox.”

According to the company, it:

“…offers a new way to organize and search your Outlook email. Xobni creates profiles for each person that emails you. These profiles contain relationship statistics, contact information, social connections, threaded conversations and shared attachments.”

Backed by with over $4m in funding and heralded by Bill Gates as “the next generation of social networking,” it might be easy to overlook the fact that Xobni is, at the end of the day, still a Microsoft Outlook plug-in.

Given that and Gates’ favorable comments, it’s no surprise that Microsoft decided to buy Xobni, reportedly offering $20m.

To many, accepting such an offer would be a no-brainer. The offer is at a multiple that seems viable and the ability for Xobni’s founders to join the company that their product was designed for seems like the type of opportunity they’d be attracted to.

But according to TechCrunch’s Erick Schonfeld:

The deeper that Xobni got into the discussions, the less comfortable it felt about its eventual fate inside the Microsoft machine. The fear was that Xobni would end up nothing more than a feature of Outlook.

Fears about being eaten and chewed up by Microsoft are one thing, but fearing that your Outlook feature would wind up as an Outlook feature are, to say the least, quite amusing.

Xobni’s apparent inability to recognize that it isjust an Outlook feature have prevented it from what common sense observers would consider to be a successful and desirable exit.

But such an inability to realistically assess the position of a company in the marketplace is not uncommon - especially in the world of Web 2.0 where, as I recently discussed, many standalone companies have been started around “features” that are best-suited to being components of larger businesses.

As Cyndy Aleo-Carreira at Profy observes:

“…when Xobni’s near-imminent purchase by Microsoft seemed all but signed on the dotted line, it all made perfect sense. Xobni was a plug-in for Outlook. Microsoft owns Outlook.

“And they are alleged to have a behind-thes-scenes project to merge Outlook with Yahoo Mail, ideal for a company who is supposed to be buying Yahoo any second now. Why not buy them? And it was a sweet deal, according to all the rumors, in the ballpark of $20 million USD for a company who has only raised under $5 million USD to date. Wouldn’t most people sign?”

She goes on to suggest:

“When it comes to these apps that are really, at their core, extensions of existing products, and only one potential exit strategy exists, people need to start realizing that a bird in the hand is worth two in the bush.”

This is common sense, but as I end up stating time and time again, common sense isn’t so common and unfortunately, in times of irrational exuberance, it’s exceeding rare.

In the case of Xobni, of course, its founders and investors could argue that the company has the ability to add its “feature” to other email services and to even build some sort of standalone service.

But is this likely to lead to type of success that would eventually make accepting Microsoft’s $20m offer look regrettable?

This, in my opinion, highlights the importance of the “reality check.”

Possibilities are endless, opportunities are not. A “reality check” forces entrepreneurs to distinguish between the two.

Xobni could expand and offer its plug-in with other email clients and services, but it will still remain a plug-in that consumers have to install or possibly (eventually) a “product” that a corporation has to buy.

In other words, as a standalone company, Xobni faces significant distribution challenges. Although it can leverage other markets by offering its plug-in for email clients other than Outlook, its ability to successfully market itself to users of those clients is unknown.

And no matter how useful Xobni is, as a standalone company it will never receive the type of penetration it would by being a part of Microsoft, which can give it direct access to the hundreds of millions of Outlook users.

Xobni’s failure to look at Microsoft’s offer in this manner stems from the fact that it clearly does not understand who it is and what its role in the marketplace is.

Unfortunately for Xobni and other companies like it, understanding these things often contributes more to a “successful” outcome than building a great product.

For technology startups, conducting a healthy “reality check” probably consists of asking questions similar to the following:

  • Have we created an “application” that performs best as a standalone product or have we created a “feature” that is most effective when integrated into another product?
  • Have we built something that serves an existing market or have we built something that could realistically create new markets for others?
  • Could another company replicate what we have and distribute it more effectively than we can?
  • Do we have direct, obvious synergies with larger, more established companies that would uniquely change the dynamic of our business if leveraged?

Somehow I suspect that if Xobni’s founders and investors sat down and pondered these questions for any length of time, they’d realize that not only does accepting Microsoft’s offer make a lot of sense, not accepting it makes little to no sense.

Hopefully Xobni gets the opportunity to reevaluate its decision and to “ekat eht yenom dna nur” before it’s too late.