Ask the Wizard

It's time to take up that new year's resolution to post more often and crank out my q1 post.

There's been some discussion in the tech blogosphere about startups and their need to have a clear business model, and some confusion from entrepreneurs about why it's ok for some businesses not to have known business models when they are expected to show three year pro-formas and be grilled about their model during any investor pitch.

I generally believe that for many technology companies, you need not necessarily have any idea how you will make money when you get started, and if you show good progress on the product and customer adoption, you need not make any commitments to a business model for some time. You do need to intimately understand where you sit in the proverbial value chain and what your position there means for your company, but you don't need to know precisely how you will extract value. In fact, I'll go farther and say that focusing on business model too early can hurt a company's prospects. When asked about Google's lack of a clear business model when he backed the company, John Doerr is said to have responded "With this kind of traffic, we'll figure it out". It's hard for some people to make sense of this when juxtaposed against their own experience pitching VC's, during which an obviously best-guess business model is grilled and questioned. What's going on here?

I have said before in this blog (or if not here, then certainly in my own mind) that I think all startups should think of the long road in front of them in three phases: during phase 1, you need to be passionate about the product (or service); during phase 2, you need to be passionate about your customers (*and* the product); during phase 3, you need to be passionate about revenue (*and* customers *and* the product). That may sound like some statement out of a "7 Habits of Highly Successful Startups" manual, but what does it really mean?

First, it's important to remember that you (you being the startup or entrepreneur) have limited resources. In the beginning, you are the most limited in terms of resources but the least limited in terms of range of motion. It's easier to innovate and change directions in the early days, but it's harder to do nine things at once. This is probably the founding team's favorite part of the lifecycle of the company. Everything is possible, and you can really focus on building the most awesome product/service possible, nimbly making changes in direction on the fly and rolling out different or new capabilities easily while simultaneously shutting down capabilities that seem to make no sense as part of the evolving vision. This is one reason I hate to see very early stage companies sign a big customer before the product is baked. You are encumbered by product commitments and customer support before you truly know what the market wanted. You have to be passionate about a customer and the product when you should be laser focused on the product. The customer's needs and your goals vis a vis the market may diverge. In an effort to show progress, however, the marquee customer is attractive in the belief it will help attract investment (and this may indeed be true). In a previous life before FeedBurner, my founders and I made the mistake of signing a big name customer to a paid monthly contract before we really knew what the product's place in the market should be. Won't ever do that again.

So, you grow, and the product gets to the point where it's usable and people start climbing in the bus, and if you're really lucky, it's growing like a weed and customer adoption is rampant. So, now we come to this curious world in which some people start to say "sure it's great, but what's the business model" while other people are saying "don't worry about the model right now, grow grow grow" (which is in turn interpreted by the first group as either "forgetting what happened in the bubble" or greedy or just stupid). I strongly believe that while you are growing in this phase, and expanding your initial team, you need only be passionate about the product and passionate about the customer. So, what does it mean to be passionate about the customer? Come closer and pay attention because I might not say what you think i'm going to say. If you ask a customer what being passionate about the customer means, you might generally hear "great customer service". This is not necessarily what I mean in the business sense. Passionate about the customer means that you are doing everything in your power to a) get more customers and b) make sure that your existing customers have little reason to want to stop using your product (what's referred to as "churn" in the antiseptic parlance that is preferred by some). Is great customer service one way to accomplish this? It can be, yes. What are some other mechanisms by which you can be passionate about the customer? Well, if you want to minimize churn, your product needs to be as usable and bug-free as possible. Nothing offers the competition an opportunity to show its stripes like your product not working. I think of response time, for example, as part of the passionate about the customer bucket, not the passionate about the product bucket. Slow response times can reduce new customer growth and give existing customers reason to try out a competitive offering.

It is absolutely critical, however, that you not make the fatal mistake of interpreting "passionate about the customer" with a mindset of being in reaction to a specific customer or customers. What the heck does "in reaction to a specific customer" mean? Ted Rheingold, the founder of Dogster and Catster, likes to say "the customer that emails you all the time is not all your customers". If you have a thousand customers, and you think that you are being passionate about the customer because you immediately respond to the two customers that repeatedly send emails like "YOUR SERVICE IS ACTING LIKE A *$#@! !!! PLEASE FIX THIS NOW. WHY CANT YOU PEOPLE GET A CLUE AND GROW THE !@#$! UP???", then you aren't being passionate about the customer, you're just feeding the raccoons. It is really really hard to get this through your head. You want to help everybody that's using your service. Here are a couple people that seem to want to use your service but repeatedly complain like this...if you are trying to help them, then you must be passionate about your customers. Instead, all you're really doing here is causing your team and company a lot of aggravation. I'll use a stupid analogy for those of you who play golf. When you make a bad shot, your inclination on the next shot is to think specifically about fixing that thing you just did wrong and think about making sure you don't do those two specific things wrong again. Of course, this is a recipe for disaster. The right way to play the game is to have a very consistent approach to every shot, irrespective of what just happened on the very last shot. So it is with an approach to being passionate about the customer. You need to understand what things you are going to do, how you are going to communicate with ALL your customers, etc. in order to maximize the number of new customers that will try your service, and at the same time minimize the number of people who you give a reason to try something else. Maybe this includes responding immediately to all caps emails that contain > 50% vulgarity, maybe it means ignoring those. Maybe it means being in reaction to every blog post you see, maybe it means never responding to any of those but frequently letting your community of customers know what's going on at HQ. Maybe it means using your constrained resources to do no communication at all and focus 100% on having the fastest and most highly available service. That's for you to figure out. We happened to be of the "hypercommunication with customers" mindset and practice at FeedBurner, but I know of wildly successful internet companies that had absolutely no customer feedback mechanism and yet almost never lost a customer because the service just worked.

So, we come to the point of the whole post: business model. Let's say you have 20 people in your company working with you. Let's say your initial product is a big hit, and people are adopting it with such enthusiasm that your growth rate is beyond your wildest dreams. The product is still in its relative infancy, but you're working out the kinks.
Is it critical that you figure out your business model as soon as possible? No.
Is it critical that you have enough cash to make sure you can grow the business? Yes.
Might it be the case that you can't get access to capital unless you have a sound business model? Yes.
Is life fair? No.
Don't you ultimately have to figure out how the heck you're going to make money? Of course, but....

You've got limited resources. It's still early. It is very likely the case that the first business model you try will not work (or will need to be amended or supplemented with other mechanisms). So, while you should be laser focused on having your company be passionate about product and passionate about customers, you don't need to be (and in fact you shouldn't be) passionate about revenue until the business model reveals itself. How the heck does a business model reveal itself? You try different things....the less you worry about fixating on a specific model, the more different things you can try. Maybe it's an ad model, maybe it's a free/premium model, maybe it's a private label model, maybe it's something else altogether. But leave yourself room to be in that quantum state of "it could be this or it could be that" until you figure out what works. Only then do you have to ramp up sales, finance, sales engineering, etc. and go out to the market with a very specific model. Announcing your model to the market before you really figure out what works forces you into multiple binds....the model may not scale, the model may be wrong, and you're now in a position where you have very limited resources and you are trying to get your company to be passionate about three things: product, customer, revenue. You also signal to the market and your investors that the clock is now ticking. Didn't hit your q1 revenue number? Uh oh, you're now going to be a lot more focused in q2 on figuring out how to hit that revenue target but you're also still in hyper-growth mode so the product and customer base require everybody's critical attention. Much better to be internally focused on fostering continued growth and innovation while tinkering around on the side with potential models, knowing that the ultimate model may not present itself for some time.

Conundrum: if this is true, then why do potential investors always drill you on your business model?! Because they want to understand how you think of the company and the business. It will ultimately have to go through these three phases. Does any of your thinking about business models sound even remotely plausible? Is it the case that you are starting a company in an area in which many others have tried and failed? If so, then why do you think yours will work? What you are hearing when potential investors ask you this question is not: "I don't see how that business model will make the 9 million in top line, with 39% margins that you show on page 10", instead you are hearing "help me understand how you see this ultimately functioning as a business". It may be that your answer is "look, we think there is a free/premium model here that works if X and Y are true. However, if A and B are true, and so far that appears to be the case, then it's more likely that we go go go on product innovation for the next year and then attack this as a private label model when enterprises follow consumers into the market". Bottom line: Investors are trying to see how you're thinking about this, not whether you have the right answer.

Conundrum Part II: Our service is free and because we don't have a business model, should we pursue charging for it as one of the potential models? Uh, I suppose you could, but why would you do that if it's going to impede growth? Look, there are plenty of great business models based on charging a subscription fee. It's also the case that we've all been burned by "now it's free, now it's not" services in the past (think ATM's, for example....it's free until we're all using it, at which point it's $2 per withdrawal). Nonetheless, it would appear that models in which revenue and earnings accrue to a company as an indirect function of its free use are the models that have the most powerful impact on the Internet today, and you work against that trend at your own peril. This is probably true even where specific industries continue not to admit it. When you add costs to using a product/service, you add friction to customer adoption (he said, stating the obvious). If somebody else comes along and figures out how to make money on such a service by providing it for free, then it's not so much fun to be you because your competitor's lack of friction is going to make life harder for you. And time and time again on the Internets, we see that somebody ultimately comes along and figures out how to make a lot of money by offering for free a service for which somebody else is charging.

When do you need to figure out your business model? Before you run out of cash. Sucks to read through that much text for such an unenlightening conclusion, but there you have it.

Posted by Dick at 12:33 PM | Permalink | Comments (0)

I received an email the other day asking what books I found useful as an entrepreneur. I realize this is a simple question, but I always find these kinds of things challenging because a) I don't read a lot of business books and b) I think too often people's lists are more about "look how smart I am" than "here are a couple things I found interesting".

I'll mention two books that I think are relevant to entrepreneurs and then one book where I'm making a real stretch, but I quote the book all the time so I might as well include it in the list.

The Places in Between. Summary: Non-Fiction, Scottish dude Rory Stewart walks across Afghanistan from Herat to Kabul in January 2002 in the middle of a war. Relevance to entrepreneurs: Very high. Starting a company is long on improvisation and short on thinking about the odds of success and that sums up this book. As the Afghanistan Security Service tells the author just days before he embarks on his journey - "You are the first tourist in Afghanistan. It is mid-winter - there are three meters of snow on the high passes, there are wolves, and this is a war. You will die, I can guarantee". Taking his journey one step at a time, and always always making the best out of his current situation, The Places in Between is a great parable for entrepreneurs who must approach business the same way - without a security net. Additionally, no matter how hard it gets for you, and it might get pretty hard, you will be able to look back on this book and think "I've got nothing on this guy".

Fooled by Randomness OR The Black Swan. Summary: Philosophy of Randomness. Author Nassim Taleb essentially believes that business people (and the media and historians and everybody else) oversimplify rational explanations of past data, and underestimate the prevalence of unexplainable randomness in that data, which leads them to underestimate the chances of outlying events, which he calls Black Swans. Relevance to entrepreneurs: Very High. Learn to think about potential outcomes more probabilistically and learn to stop thinking that you see simple patterns where luck, chance and other factors probably played roles. Fooled by Randomness is the quicker read. Tip of the hat to FeedBurner investor Brad Feld who recommended Fooled by Randomness to me about a year ago (i think, maybe it was two years ago. Boy, it's all blurring together).

Conversations with my Agent Summary: Mostly fiction. Author Rob Long describes the conversations he has with his Agent as he leaves his highly successful role as writer and coproducer of Cheers and begins to create a new show from scratch. Relevance to entrepreneurs: I'm stretching here, but work with me. The beauty of being reminded that we live in a 'what have you done for me lately' environment in which the people who've been around the block a few times probably aren't as dumb and random as they seem is a great read for entrepreneurs that can't understand why VC's say up when you think down, and why customers say black when you think white.

Posted by Dick at 10:37 PM | Permalink | Comments (8)

There is an old saying that the Military always fights the last war, and I think the same holds true in many respects for entrepreneurs. Armed with "lessons learned" from the last endeavor, successful or not, entrepreneurs dive into the next effort reminding themselves to make sure they don't XYZ this time. This is one of the reasons I like having a Board of Directors, as the board can act as a rudder in many ways, making sure you don't veer too far off course in your effort not to repeat past mistakes.

Two companies ago, we all felt we hired a sales executive too soon, and in our last company, Spyonit, determined not to ramp sales until it was time, we waited too long. After feeling like too many enterprise software deals slowed us down in a previous company, we entered FeedBurner with the mantra "no enterprise deals". I can think of countless examples.

None of this is to say that these lessons learned are necessarily bad or wrong, they're just the lessons that might be more aptly applied to restarting the previous company, not necessarily the right lessons for this new company in this new environment in this different economy. This is one of the great challenges in providing advice to entrepreneurs and startups. You might be very good at helping them build version 2.0 of the company you just built, but the advice may be wholly inappropriate to what anybody else is getting ready to do.

Are there any lessons we've learned that I think are appropriate to any new company? Yes, I can think of a couple right off the bat.....and after another twenty minutes I thought of a third.....I still wonder whether these are truly appropriate to any new company or just abstractions that make sense for a certain class of companies, but what the heck, here they are:

Lesson One: At some point in the company's first two years, the executive team needs to become passionate about revenue. This may seem obvious to the point of inviting ridicule, but there's a difference between "concerned about revenue" and "passionate about revenue".. In the first year or two of the company's life, the passion has to be almost single-minded around the product or service. There is then a transition in which the management team needs to *also* become passionate about the customer, and then finally *also* passionate about revenue. Some people are revenue animals and some aren't. If you're founding a company and you're not a revenue animal, then you need to understand that you should bring somebody in to run the company who is a revenue animal at some point. It's no fun trying to run a company as CEO if you're passionate about the product but you wish the Board would stop freaking out just because you missed the numbers last quarter. If the executive team is only concerned about revenue, that's not good enough.

Lesson Two: It is easier to not start spending one new dollar in expenses this month than it is to stop spending one existing dollar of expenses next month. This is true for travel, infrastructure, marketing, development tools, web services like salesforce.com, on and on. If you engender a strong sense of capital efficiency in the company, it's much easier to KEEP spending under control than it is to GET spending under control.

Lesson Three: Goals, not competitors. When you focus on your company's goals, you are focusing on something you have control over, you make strong decisions, and everybody knows what success looks like. When you obsess about your competitors, you are focusing on something over which you don't have control, you make bad decisions, and nobody is sure what success looks like, since the company's actions are in reaction to a third party. Being fiercely competitive is fine, you can hate that your competitors are performing better than you, and you can be hyper-paranoid about what might happen to your business, but the best way to compete in the market is to focus on those things you can strive toward independent of what anybody else does. While this point may sound like motherhood and apple pie, in reality, it can be extremely challenging because everybody else (the media, your mom, customers, vendors, etc.) are looking at the landscape and constantly commenting that X is doing this and you're not, or X is gaining market share from you, etc. So, clearly some part of creating goals is going to be based in market realities, and some part of market realities is going to be driven by existing and emergent competitors. Nonetheless, I am confident that nobody understands where or when their ultimate competition will emerge, and by obsessing about existing competitors instead of clearly defined goals, you make it that much easier for the unforeseen competitor to swoop in and bonk you in the head with the Mallet of Justice(tm).

Posted by Dick at 10:47 AM | Permalink | Comments (4)

A common theme I hope to address in this blog is accepted wisdom, especially when I think I've got a bit of a different spin on things. One piece of accepted wisdom one hears in software circles these days is "release early and often", and as you can tell by the title of this post, through the miracle of foreshadowing, I have a slightly different perspective.

Let's start off with a few hypotheses. Some of these you will take for granted and others you may argue:

1. Extensible architectures generally provide more long-term business value than point solutions, although point solutions may monetize a specific market more quickly
2. Software that hasn't been released can be changed in ways that become less possible N customers after launch. As N grows, so does the difficulty in refactoring some percentage of infrastructure or functionality. Additionally, as more than 1 copy of the software is released into production, these difficulties multiply.
3. You have no idea what capabilities the market will want from your software in one year
4. Customers generally value functionality and speed of ROI over flexibility and extensibility, however in order to maximize your chances for long-term success, your business values flexibility and extensibility over specific functionality.

Since my brain doesn't go as fast as it used to, I'll have to use an example from FeedBurner since I can't remember how we did some of these things in previous companies. Four of us started working on FeedBurner in October of 2003 and we launched around the end of February 2004 with only two simple services: a primitive v1 of our feed statistics and a format transformation service (eg, Atom -> RSS2, RSS2 -> Atom). Five months of four people working full time just to rollout something that resulted in the following initial comments: "I could build this in a weekend" and "It doesn't really do anything".

When we conceived of the idea for FeedBurner, we weren't thinking "we'll rollout these couple services and then see what else we should do based on feedback", because we could have launched something like that in a few weeks. We were thinking "the ability to provide a robust suite of feed clearinghouse services across a broad set of feeds will be a powerful service for publishers. We don't know what all of these are right now, but if we architect the system for extensibility, we'll be able to quickly provide additional capabilities and lead the market". We probably didn't say it like that. I'm sure it had a lot of "um's" and "you knows" and "yeah and then like we could do more stuff", but you get the difference between the two statements.

Sounds great, but what does it mean? If you don't know what you don't know, how do you know what you won't know until you know it? What the heck does "architect for extensibility" mean, and how do you do it without hurting yourself and wasting a lot of time?

I'll use an analogy and then provide another simple and general FeedBurner example that might paint the picture. Like most of my favorite analogies, this one doesn't really make any sense, so just bear with me. Let's say you have two brothers, Kenneth and Jake. They both decide to go into the milk shake business. Jake seems to have distinct advantage because Jake's Shakes sounds a lot better than Kenneth's Shakes, which is hard to even pronounce without giggling. Jake decides that people want vanilla shakes and he quickly deploys a set of vanilla shake shops suited to make only vanilla shakes. Kenneth decides that he's not really sure what kinds of shakes people might want, but he wisely guesses that people might want different flavors, like chocolate or wasabi. This is really a stupid analogy but you see where i'm going; Jake gets to market first and MAY have a big hit or may have limited distribution. One thing we know for sure is that people better like vanilla shakes because that's all he's set himself up for, and the more copies of his store he creates, the harder it's going to be to go back in later and change the business. Kenneth has set himself up for a number of possibilities and will be prepared to rapidly react to the market when he launches some time after Jake, even if he also launches with only vanilla shakes. IF the world loves a smartly branded vanilla shake, then hooray for jake, he's got the better name and was first to market. IF the shake market moves against vanilla, however, or the shake market for vanilla proves to be but a tiny fraction of the overall shake market, then hooray for Kenneth. He will reap the benefits of designing his product for extensibility and be able to hire somebody to come up with a better name than Kenneth's Shakes.

Much more simple to understand the FeedBurner example. We didn't spend the first five months building those two services we rolled out in February. We spent the first five months building out the architecture for feed filtering and feed processing such that we could quickly deploy any new feed service we decided to build, and then we spent about a week building out those first two services. Yes, it was true that somebody could have built a competitor to what we launched in a weekend. However, we would be able to quickly iterate and innovate on top of our release, whereas the built-in-a-weekend competitor would have to keep building one-off services that would eventually either become untenable or require an incredibly long period of underlying architecture refactoring while we continued to innovate.

The bottom line being that you want to invest pre-launch such that you optimize for innovation post-launch. This is never more true than when it seems like you are racing into a market with multiple competitors and your inclination is to hurry up and launch something! The advantage you have prior to launch is that you don't yet have customer demands. Set yourself up to be in a position to rapidly iterate and innovate post-launch and you will be in the best position to put the first movers back on their heels if they aren't in a position to react to market forces as quickly as you.

It would be very easy to misconstrue this post as "you have to make sure you have thought everything through and are ready to scale to milions of customers before you launch". That is not at all what I'm saying here. Architecting for extensibility is not about "making sure you've planned for every contingency". I'm speaking specifically about your core product or service's underlying design and how well it's prepared for speed of innovation. Other aspects of the business like"what if we need to open a facility in Nevada someday" are going to have to wait until later.

I suppose a reasonable question here would be "how do you distinguish between overthinking the architecture vs. architecting for extensibility?" That would be a good question; I frequently think my own questions are good questions, and I'll try to come back to it in a follow-up post. There are also some small things you can do to plan for future growth that I'll address in another follow-up post that I will hopefully remember to call "Planning for Success".

Posted by Dick at 10:20 PM | Permalink | Comments (18)

One great way to beat your competitors is to have less of them, and the best way to have less competitors is to stop creating them, inviting them into your markets, and fostering their growth.

Once again, I will discuss the market I know best, software startups. In the software business, I would say that most companies actually create or facilitate the emergence of their biggest eventual competitors. Companies in this market create competitors through the following strategic decisions:

1. No open API. I will do an entire post on API's here at some point, but when you create open api's for your software product or service, all sorts of secondary benefits accrue to your company that you will be unable to predict on day 1. You may even discover interesting business models via 3rd party development that opens your eyes to new possibilities. But the best reason to always build out API's for your product is that it makes it easier for the rest of the world to extend your product or service rather than start competitors. Here's a simple example: there's a smaller content management system that's used mostly outside the US. Because FeedBurner has an open feed management API, a couple of independent developers were able to build a robust FeedBurner plug-in for this content management system that we'd never heard of. If the FeedBurner API didn't exist, there's an opportunity for a competitor to emerge that services this market and gets a beachhead. API's are not an obvious investment for companies because a) it's not obvious how you monetize them and they're a lot of work to maintain and b) people wrongly believe that API's invite competitors to build on your back. In fact, the opposite is true. API's inhibit the necessity to build competitors as third parties will simply leverage the API to extend your own offering. My cofounders and I have seen tens if not hundreds of examples of this over the years.

2. No free version. You don't have a free version? There are lots of people who want a free version of whatever it is you provide. You say you have put too much work into your software to offer a free version? Too bad, there are lots of people who want a free version of what you provide. You say you can't make money with a free version? Too bad, there are lots of people who want a free version of what you provide. Guess what happens when you don't provide these potential customers with a free version? Somebody else builds a free version. Guess what happens when those free version customers are ready to upgrade to a paid version? Nine times out of ten they use their existing vendor's solution since they now have a relationship with this provider. That other company doesn't have a paid version you say? They will. That other company's paid version isn't as good as yours, you say? It will make no difference. If you want to create powerful competitors to your company, make sure you have no free version of your software product or service.

3. Partnerships in non-strategic areas that place company X between us and our customer. This one is particularly dicey for a couple reasons. First of all, you can't do everything yourself and there will be a bunch of services your customers want that aren't a core competency. You can deny them these services or find partners that can provide them, and the right thinking service provider generally believes that happier customers are better customers. Similarly, your customers don't think of themselves as "yours", so attempting to create unnatural relationships in which company X can provide their services through you but only if they don't have a direct connection to the customer ends up feeling weird and wrong to the customer (think mobile operators). In almost every startup I have been involved with, we have created future competitors this way. It's possible, I don't know, that you either have to say "we own the customer and never shall others get anywhere between us and our customers without routing through our proprietary stack" OR "we're going to find ways to provide the most robust set of services to our customers, and we understand that implies we will be fostering competition in specific niches of our potential market". Certainly, the mobile network operators and Apple have taken the former position and it's hard to argue that this has hurt them. However, it's also clear that there's ongoing discussion in the marketplace that an iTunes competitor with a less proprietary/closed stack would be something people would like to see. Yahoo! has traditionally taken the latter path and obviously, they fostered Google's growth by providing the powerful new search engine with a platform for accelerated audience reach. One takeaway here is just to realize and be very honest with yourself that certain partnerships can facilitate the emergence of a niche competitor then make sure you understand the implications before diving into anything.
   

Now, even if you have a free version and you innovate regularly, and you have an open api, and you don't create unwise partnerships, you may still find yourself facing enormous competition (see Netscape v. Internet Explorer), but you can certainly make your life easier by not choosing decisions that either invite competition or sow the seeds for rapid competitor growth.

Posted by Dick at 08:35 AM | Permalink | Comments (6) | TrackBacks (0)

I've gotten a couple emails lately from would be entrepreneurs that go something like this: "I'd like to start this new company that I've had an idea for, but there are so many companies launching now and the market for software startups is so crowded, that I wonder if it's really a good time to dive in".

I don't recall that my cofounders and I have considered what "the market" was like when we started a company. I can't imagine serial entrepreneurs like Mark Fletcher, Mike Cassidy, or Elon Musk ever give even the slightest thought to whether the general startup environment (economy, access to capital, access to talent, etc) is good or bad.

There aren't "too many companies in the market right now". Even if there are 90,000 more companies, there still aren't too many companies. Neither is there too much capital or too little capital or not enough engineers in this market. There are only specific market forces that you should weigh vis-a-vis your specific company. If you are starting a me-too software startup right now (eg, a video sharing site), then yes, there might be a lot of well-funded companies chasing that specific opportunity and you would be wise to consider that fact in shaping your strategy.

It seems silly to me that one would worry about the general market when starting a company, but obviously it's a bit of a common theme. So, that led me to wonder what would cause you to have that kind of mindset, and what I think I am really hearing is fear of failure. I think the questions are really "is this environment one in which it will be harder for me to succeed?", and I will therefore provide a simple answer to this question: Every market is one in which it will be harder for you to succeed. If access to capital is plentiful, then there will be more companies chasing that capital and more well-funded ventures against which you must compete. If access to capital is scarce, however, it will be harder for you to raise money and you will have to endure more investor-friendly terms on financing and have to show more business model progress in advance of further funding. If there are few competitors in your market, then you need to evangelize your value proposition more passionately to the market in order to gain traction. If there are many competitors in your market, then you need to distinguish yourself from competitors more thoroughly. If you're a first-mover, why should anybody need your new service, if you're a follower, why should anybody switch to your service?

On a psychological level, I think a lot of people confuse fear of failure with not having enough confidence in the ultimate success of their idea. They thus conclude that they aren't confident enough in their idea or their strategy because it seems to have holes and flaws for which they don't have answers. This is a tremendous mistake. While I won't pretend to speak for the entrepreneurs I mentioned above, I bet if you asked them if they were confident on day 1 that they had a winner with each of their previous successes, they would look at you sideways and say "of course not". Speaking for myself, I can say that my cofounders and I try to find a market opportunity that seems like it will need to be addressed and for which we think we have some angle and then we just pull out shovels and start digging and figure other things out as we go.

Personally, I know going into any new company that there is a 90% chance we have the business model wrong on day 1. I also know that I have a historically poor track record for understanding what will and won't attract customers or defeat competition (I didn't get Twitter when Obvious Corp first launched it without an "e" in the name, I thought eBay would be out of business in six months after Amazon launched auctions, and I was certain Netscape would crush Microsoft in the browser wars because Netscape was more nimble). But the opposite of 'fear of failure' isn't confidence. The opposite of 'fear of failure' is just not bothering to think about failure (BIG difference between this and thinking about risk profile for your idea/company).

Of course there are entrepreneurs and CEO's who pitch their supreme confidence in themselves and point to some ability to work out all the angles that guaranteed their success. Most of them do this in retrospect after they've been successful, and maybe this leads other would be founders to think "I don't have the faith in my idea this guy/woman does. I'm passionate about my idea, but i don't have that supreme confidence in it". The key is to just get on the bike, and the key to getting on the bike is not the confidence in knowing you will be successful if you do x,y,z. The key to getting on the bike is to stop thinking about "there are a bunch of reasons i might fall off" and just hop on and peddle the damned thing. You can pick up a map, a tire pump, and better footwear along the way.

This set of mixed metaphors and loosely coupled analogies was brought to you by guy-with-no-formal-writing-experience.

Posted by Dick at 09:28 AM | Permalink | Comments (12) | TrackBacks (0)

In my previous strategy post, I talked about something I called Quantum Hidden Barriers to Entry and why businesses that had those are great businesses. This post was misinterpreted in some circles as "you can get so far ahead of your competition that they can't catch up" and a number of folks wrote to me saying that no competitor can defeat hard work, passion, innovation, etc. This is simply not the case, otherwise there would be seven compelling competitors to Digg and AdSense right now, and there aren't. Instead of re-explaining what I mean by quantum hidden barriers to entry, I'll instead talk about how I think you compete against companies with lots of hidden barriers to entry. It's quite simple - you don't attack them by trying to compete with them head on, you don't meet force with force. You attack them by either changing the rules of the game that's being played or even better, you pull out the Aikido bag of tricks and use your competitor's strength against them.

By way of real world example, look at the way Jason Calacanis decided to compete against Digg when he relaunched Netscape as a community news site. Instead of simply trying to do what Digg was doing with more passion and harder work (always a bad idea to assume you're smarter or more passionate or harder working than the competition!), he started with an assumption that Digg was the dominant player in the market. He then wrote a very public and widely discussed blog post in which he laid out a case that Digg's community had become so big that it was too big, and no community of that size could create quality. Then in a later post he noted that the community was so powerful, that nefarious beings from the spammy underworld would surely start trying to game the system by paying the top diggers to digg stories, etc. (this is the 1-2 Aikido....redirecting your competitor's strength and energy, attempting to make that strength a weakness). Jason then hypothesized that the better way to build community powered news was to pay the top voters because you have to pay to get quality and direct payment will dramatically reduce or remove their incentive to take money from spammers since it would put the direct payment contract at risk.

It makes no difference whether you think Jason's challenges to Digg were accurate. I would further caution against measuring the success or failure of this particular attempt as validating or invalidating the strategy. Note only that Jason's means of competing meant not having to address some of the hidden barriers to entry around community news systems that have been erected in Digg's wake because he changed some of the rules by which he was going to play the game when he launched with paid contributors.

There are lots of ways to compete against an entrenched competitor with strong market share, but force against force is generally not the most fun approach.

In another post soon, I'll explain how I think you should consider competition when you're in a new market without entrenched players.

Posted by Dick at 09:44 AM | Permalink | Comments (2) | TrackBacks (0)

In his last post, The Wizard talked about the possibly over-hyped desire to find businesses with network effects. Yes, we are going to start referring to ourselves in the third person around here when it suits us, and we may also hop back and forth between first person plural, third person singular, second person familiar, and on rare occasions, 1st person.

Anyway, I said that the way I liked to think about a company's strategic advantage was around Quantum Hidden Barriers to Entry. Let's build up this phrase. Of course, hidden barriers to entry are those great things that cause lots of people to look at what you're doing and say "that's simple, I could do that", only to realize that the more work they do to try to copy your solution or position in the market or whatever, the more they realize they are farther and farther away from what you've accomplished.

While barriers to entry are helpful if they're clearly marked, a potential competitor can size up the obstacle course and get a good sense for what needs to be done to get from point A to point B. Hidden barriers to entry are particularly helpful to your company because potential competitors will severely underestimate the level of investment and resource commitment required to compete with you. I cannot tell you how many times since we first launched FeedBurner I have heard the following comments from senior executives at large companies, industry pundits, hobbyists, and my five year old son: "We could build FeedBurner in [a weekend, three months with three people, whenever we wanted]". When you have hidden barriers to entry, you don't get too worked up about these kinds of comments because you know there are lots of pitfalls and issues and challenges that you don't understand fully until you are far enough along in development that you stumble into them and think "oh wow, now what do we do".

But there are even better hidden barriers to entry in some businesses. I'll call them Quantum Hidden Barriers to Entry. Quantum Hidden Barriers to Entry happen when you keep encountering new and unforeseen cliffs you have to scale as you move through different stages of market penetration. While hidden barriers to entry make it harder for potential competitors to enter the market, quantum hidden barriers to entry keep popping up as you move through stages of market penetration. When you are thinking about companies and markets, it's fun to think about the kinds of businesses where there might be quantum hidden barriers to entry. I think you can anticipate these when you see markets that are characterized by: spiraling complexity, market reactions to the first mover (gaming behaviors, 3rd party ecosystems, etc.), and centralized platforms

I'm probably missing a lot here and this list could be a lot more thoughtful, but right away, you can see a bunch of services that likely have Quantum Hidden Barriers to Entry in their markets. Digg and AdSense come immediately to mind for me.

By spiraling complexity, I mean that as the market progresses, there is more divergence than convergence in the problem space. Here's an example of a market that I think you can predict will have really cool Quantum Hidden Barriers to Entry: Virtual Currency Exchanges. If you're the first company to create a virtual currency exchange between say Second Life and World of Warcraft (I'm not a gamer, don't beat the hell out of me if this is a moronic example) so that people could do things buy a WoW Sword of Indifference by trading in two qubits of land in SL, you can imagine that as the market grows, there are going to be boatloads of quantum hidden barriers to entry. Certainly, there will be spiraling complexity - more games will want to participate in the exchange, international exchange rates may emerge that are different, who knows, but you can see that things will get more complex before they get more simple.

For entrepreneurs thinking about what kinds of problem spaces to attack or what kinds of markets might be most appropriate for a cool innovation you've conceived or built, this is a fun thing to think about.

I was going to call these "progressive hidden barriers to entry" but that implies gradually changing. I'm talking about going along nicely until you hit the next big cliff you have to scale, and it's not at all clear how high that cliff is (or how many more separate cliffs are between you and the guy you're trying to catch).

PostScript: I should point out that spending lots of time figuring out how you can hide land mines for those who come after you to stumble upon is never the way to build your business. If you have to cause barriers to entry, you're going to be spending more time looking over your shoulder and less time innovating and driving the market forward, and in that case you're probably only one market lifecycle from losing your place at the head of the pack in any case. Additionally, while some people may want to win at all expense, I personally don't think it's a lot of fun to win via unfair advantage, and since governments tend to hold this same view, it's probably best to leave the tripwires back there in the dark corners of your mind. It's a lot more fun to win by winning. Come back after lunch when the Wizard will toss out a few more obvious statements like "it's a lot more fun to win by winning". That's the kind of brilliant remark you will come to expect around here.

Posted by Dick at 10:19 AM | Permalink | Comments (4) | TrackBacks (0)

When asked what kinds of consumer internet companies investors like to fund, the most common refrain from the investors themselves is "companies with network effects". For those of you who still haven't unwrapped your consumer internet home game, that great seer of all things, the wikipedia, has a nice entry on the subject.

Investors like to see network effects, in theory, because the implication then is that even if potential competitor XYZ builds a better mousetrap, their lack of customers makes it difficult at best for them to gain a beachhead against you. eBay vs. Amazon and Yahoo auctions was one of the best examples of this in action. Despite on par features and huge resources they could bring to bear, Yahoo and Amazon were unable to provide sellers with the marketplace size of eBay. The sellers go where the buyers go, which attracts more of the buyers to where everything's being sold, and better features and functions don't matter against a more liquid marketplace. One could make the same argument about AdSense these days. There are ways to compete against network effects, but one of those ways generally isn't "charge the front gate of the castle".

So, when you're thinking about your company's good or service, it would be helpful to think about how you could achieve network effects, right? Eh, I don't think so. I think network effects accrue to most companies by accident, as an artifact of something they were doing that led to network effects. It's not obvious in the early days of the company where any potential network effects will come from, and even if it IS obvious, it's not at all clear that you can leverage these to your advantage. A good example of this last point is an Instant Messaging platform. Huge network effects - if I'm using AIM and Fluffy is using AIM and we both know Wiley, then it doesn't make lots of sense for Wiley to use Jabber. At least, that's the pitch. In reality what happened is that wiley used AIM and Jabber and Yahoo Messenger and then Fluffy and I started using them all as well. The first mover in a new communications space can generally monetize network effects by selling quickly before they have to drive profits (see Mirabolis/ICQ in instant messaging and Skype in VOIP), but it's not at all clear that the first mover has any long term strategic advantage that could drive value (aka profits).

So, if it doesn't make sense to spend lots of time thinking about the strategic advantage you can gain from network effects, what should you think about when you're trying to understand the potential competitive landscape for your company? Stay tuned for Strategic Advantage, Part II, in which I will describe my favorite way of thinking about strategic advantage: Quantum Hidden Barriers to Entry.

Posted by Dick at 09:27 AM | Permalink | Comments (1) | TrackBacks (0)