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Yes, rewards motivate people. To get more rewards.

jithaMay 27, 2015 2 Comments

Hello! I’m finally back to blogging, after a short hiatus to focus on my app’s launch. It’s been a topsy-turvy few weeks with several delays, but we’re now only a week away from launch. Hopefully.

Delays beyond your control can be quite deflating when you’re waiting for the culmination of months of effort. But it’s at times like these that it’s most important to keep your shoulders to the wheel – even when things are not fully in your control, you need to do everything you can.

In this sense, the last few weeks have been a microcosm of the entire starting up experience – unless you’re Elon Musk, luck and other external factors will play a significant role (often more than your otherwise significant efforts) in success or failure. What you can do, is stay on the field. And that requires motivation.

Motivation is a strange beast. I used to think that decent pay and bonuses are good motivators, but here I am, grinding away with no income. And I’m enjoying myself. Clearly, there are some intrinsic factors at play that keep struggling entrepreneurs in the game (hopefully not foolhardiness though).

I’ve wondered about this quite a lot over the last 2 years. But a lot of my questions were answered when I read Drive a few weeks ago. This book, written by Daniel Pink, explores what really motivates us, based on findings from scientific research. [Hint: it’s not money and bonuses]. I’d recommend this book to everyone – understanding what motivates people has pretty direct implications for how we manage our employees, our bosses, our customers, our families, and everyone else we interact with on a regular basis.

But this isn’t a book review or summary. Ever empathetic to the busy reader, Pink himself has included summaries (both Twitter and cocktail party variants) at the end of his book. Instead, I would like to dwell a little on one aspect – his discussion on extrinsic motivation. I found it fascinating to understand some of the pitfalls of extrinsic ‘carrot’ rewards like money and bonuses.

1. Money drowns out intrinsic motivation and performance.

Research shows that even if you innately like a task, being paid for it actually reduces how much you like it. I was surprised by this result, but some others intuitively get it. For example, one person I know loves baking in her free time, but doesn’t want to do it full-time – she feels that the pressure of earning money will reduce the pleasure she gets from baking.

Rewards perform a weird sort of behavioral alchemy – they can transform an interesting task into a drudge, a fun assignment into a bore, and play into work. And by reducing intrinsic motivation, they can send your performance and creativity toppling like dominoes. What’s more, you’ll now only do these tasks if you’re paid for them. [Note to parents – don’t pay your kids for household chores] [Tweet “Money can transform an interesting task into a drudge, and play into work”]

2. Extrinsic rewards give a short-term boost. Like a jolt of caffeine, they’re particularly useful when a deadline is looming. But like the energy crash that inevitably follows a post-coffee frenzy, long-term motivation and performance will also fall.

3. ‘Carrots’ can become addictive.

Offering an extrinsic monetary reward for a task signals that it is undesirable (if it were desirable, would you need a carrot?). And this, to resort to cliché, is a slippery slope. Offer too small a reward, and they won’t comply. But offer a reward that’s enticing enough the first time, and you’re doomed to offer it forever.

[Tweet “Yes, rewards motivate people. To get more rewards.”]

But the bad news doesn’t end there. Once the initial money buzz wears off, this will feel less like a bonus and more like the status quo. You’ll then have to offer ever-larger rewards to get the same task done, just like the nicotine addict falls into the vicious cycle of more and more cigarettes to get his ‘hit’.

4. Rewards promote short-term thinking

Once there’s a carrot in front of you, that’s all you’ll see, at the expense of more long-term objectives. Just like the auto mechanics who conduct unnecessary repairs to meet their sales quotas. Or, more terrifyingly, Delhi’s monster Blueline buses which went on a killing spree, all because of an innocuous incentive to ply their routes quickly.

5. However, extrinsic rewards aren’t completely useless. If the task at hand is process-oriented, like filing documents into folders, then an incentive can speed you up and reduce your Facebook / power nap breaks. But if a task is creative, then monetary rewards have the effect of narrowing your thinking – when what you require is the exact opposite.

6. When you attach a bonus to a target, you may increase the probability that it will be hit (at least if the task is process-oriented). But you almost guarantee that the target will not be surpassed. Your teams will work hard to meet the target. But no further.

Thus, over a basic threshold of the amount needed for basic comforts and happiness, monetary incentives can work negatively. This has deep implications for how we manage our teams, employees, families, etc.

We could now talk about what does motivate people. But why don’t you read the book for that? Let’s do something more interesting instead – let’s predict what these findings mean for some of the trends in our economy.

a. E-commerce: If your value proposition is ‘lowest prices’, don’t expect any loyalty once that becomes untrue. Case in point: Deep discounts in Indian e-commerce today are themselves hurting brick-and-mortar discount retailers.

b. Many heavily funded startups are spending equally heavily to acquire employees and customers. But these efforts may have a short shelf life.

If you’re throwing money at employees, you should expect that you won’t retain them over time, and that performance will suffer in the interim. Unlike large companies, work at startups is not algorithmic and process-oriented – you need someone who reigns in (and reins in) chaos.
In their bid to conquer the mobile space, many companies are incentivizing app downloads by the millions (yes, users actually get paid for downloading apps). Even if these investments boost vanity metrics today, results will tail off very quickly, as users begin to install apps just for the rewards, and then never use them again.

c. If you do have to use incentives, design a mix of long- and short-term targets, and make them harder to game.

App marketers could incentivize use of the app over time, and not just installs. Give a bonus on the first major activity, rather than on ‘Install and use for 30 seconds’.
In a corporate sales scenario, bonuses could be driven by both new sales and customer churn, to promote longer-term customer management vs. one-time discounts.

d. But even when promoting use, a monetary incentive is bad news. Just like Drive showed, if you create incentives around specific targets, people will work hard just to meet them, and no more.

A case in point is the Indian government’s drive for rural toilet construction (a strong interest area of mine – see this). Over the last 15 years, the government has given ever-increasing incentives for toilet construction – starting with Rs. 200-400 in the early 2000s, to Rs. 12,000 today. But they’ve seen large numbers of toilets being used as anything but – often as store-rooms or an additional room. People have just constructed ‘toilets’ to pocket the incentive.

Yes, this is a toilet!

Many stakeholders are now trying to move the incentive towards usage – e.g., a part of the reward comes to you only if you’re still using the toilet 3 months after construction. While this idea sounded great the first time I heard it, I now fear it may also be doomed to fail. This effectively destroys intrinsic motivation to use a toilet (which there otherwise would be – it is indeed far more convenient than open defecation). People will feel they’re being paid to defecate at home because that’s the less comfortable thing to do. When the incentives stop, use will fall too. Bringing us back to square one.

Extrinsic rewards are undoubtedly simpler to design – what’s easier than throwing money at a problem, in these profligate times? But Drive serves a timely reminder that as in most other areas, only the hard work of creating intrinsic motivation will bear fruit.

Hope you found this post interesting. Can you think of any other implications of extrinsic ‘carrot’ rewards? Do share in the comments. You can also email me at [email protected] or tweet at @jithamithra. Until next time, then!

The reading list that transformed my professional life

jithaApril 8, 2015 7 Comments

6-9 months ago, when everyone was posting lists of the top 10 books they read, I was unfortunately busy with work. And then, when I wanted to post my own list, it was much too late to do so – people had moved on to sharing Upworthy articles instead.

Nevertheless, what’s far more useful is to talk about the top things I learnt from books – the ideas, insights, stories that changed how I think about life and work. After all, that’s why you read books – to improve yourself in some way – isn’t it? Well, at least all books apart from the Twilight series.

So, here are the 5 ideas that transformed how I think about life and work, and the books I read them in. Rather than describing these ideas in detail, I’ll also share links to articles that offer a short version. But I would definitely recommend you read the book themselves too!

1. System 1 vs. System 2 Thinking – Thinking Fast & Slow

An understanding of psychology is, in my view, an essential skill for anyone whose daily life involves interactions with other people to get stuff done. The human mind is not only not rational, it is also irrational in a few consistent and repeatable ways. Understanding these cognitive biases and fallacies that we suffer from can go a long way in helping you get what you want in interactions with people.

[Tweet “The human mind is not only not rational, it is also irrational in consistent and repeatable ways.”]

One of the key concepts I’ve come across in this area is that the human mind is really two distinct personalities – let’s call them System 1 and System 2. System 1 is the more automatic, quick-and-dirty, heuristic based, lazy thinker – get to an answer quickly by applying habits and patterns, often at a subliminal level. System 2, on the other hand, applies more careful, overt deliberation to any problem, coming to a solution in a more considered manner.

At any time, you’re thinking in one of these two modes. For example, when you’re doing math, you’re carefully thinking of the problem and solution – that’s System 2 in operation. When you’re tying your shoelaces, you’re usually not thinking about the loops and knots actively – you just do it. That’s an example of a System 1 task.

Now, at most times, the mind defaults to System 1 – which tries to recognize and apply patterns without thinking too much. And the result is that it can get tricked in fairly predictable ways – what we call cognitive biases. Two examples of these are anchoring (where an initial number suggested to you often influences your answers to a numerical question) and availability bias (you tend to overestimate the probability of an event if you can remember examples – this sometimes results in people paying more for earthquake insurance than insurance for natural calamities – even though the latter includes earthquakes!). Won’t go into detail on these biases here – you can read the articles I’ve linked to, and the book. But I’ll blog about them soon too!

Another interesting implication of the dominance of System 1 is that you can trick your brain into certain emotions. For example, you know that when you’re happy, you tend to smile. But did you know that this can work in reverse – that you can trick your brain into happiness, by simply smiling? This was a ridiculously amazing insight for me – to know that causality works both ways, and I can control my emotions. I’m a ‘moist robot’, in Scott Adams’ words.

Book: Thinking Fast & Slow – one of the best books I’ve read – and I actually prefer fiction.

Further reading: 15 Lessons from Behavioural Economics – Slideshare, Scott Adams on Programming the Moist Robot

2. Making Skewed Bets – Fooled by Randomness & Antifragile

When I was in business school, I read Fooled by Randomness, by Nassim Taleb. At that point, I thought it was the best book I had ever read – so many brilliant ideas, one after the other. I read it again recently, and while I’m a little less effusive, it’s definitely worth a read – it’s long-winded and unnecessarily complicated in parts, and the language is often self-absorbed – but if you can look beyond that, the insights will hit you at an unrelenting pace.

But the most important insight for me – in that it almost exclusively governs my world view since I read it – is that of making skewed bets. The world is innately random – your success depends far more on your luck than on your ability. At first glance, this seems to encourage laziness. Why work hard when your destiny doesn’t depend on it? But looking deeper, the implication is that you should try and expose yourself to ‘positive’ luck as far as possible, while limiting the impact of ‘negative’ luck. In simpler terms, expose yourself to very high upside, while limiting your downside as far as possible.

This is called making a skewed bet – where if you win, the gains are a windfall; but if you lose, you don’t lose that much. A lot like financial options or a startup – if you make it, you make it. And if you fail, then your losses are limited – the cost of the option, 1 year of salary, etc. Of course, the probability of a loss may be 90%. But if you make 10 skewed bets, then you’ll make a windfall gain on 1 of them – and that may be more than enough.

Another important way to keep yourself open to good luck is by simply staying on the field. Thomas Edison got the light bulb right on his 1000th attempt – and that happened only because he kept trying different things, and didn’t give up after 999. To surf a ‘killer wave’, you need to first be in the sea, navigating the 100 tepid waves before.

[Tweet “To surf a ‘killer wave’, you need to first be in the sea, navigating the 100 tepid waves before.”]

Book: Fooled by Randomness. Antifragile, a subsequent book by Taleb (even better), actually takes this one idea and distills it far more.

Further reading: The hard part about surfing

3. Goals vs. Systems / Success as a process- How to fail at almost everything & still win big

Taking the previous point further – success, then, seems to be a process rather than a brilliant idea, inch-perfect execution or just good luck. Try a lot of different things, observe, learn, and iterate. So that you slowly, over time, collect all the right materials for the magnifying glass of luck to ignite. You do all the right things and keep improving, so that when Lady Luck knocks, you’re ready.

Success is therefore a system (take several skewed, high-reward/low-cost risks), rather than a goal (I want to get rich). Now that’s at a macro-level, but this makes sense even at the micro-level – rather than adopting a goal of doubling your user base and throwing money at it, take a systematic approach of trying different things, observing, and then betting the farm on the 2-3 marketing techniques that work.

Scott Adams (of Dilbert fame) carefully charts out this approach in his book.

Book: How to fail at almost everything & still win big. I would venture that this is one of the best and most actionable books I’ve read. But read at your own peril – as they say, one should be careful when taking life and business advice from a cartoonist.

Further Reading: Goals vs. Systems – a short blog post applying this concept to life in general.

4. Power Laws, or why working hard is not enough – Zero to One

I’ve already blogged about this here, but it’s worth reiterating. Today’s business world is not a normal distribution, with most people distributed around average payoffs. Rather, it’s an exponential distribution – very few companies will make most of the money to be made. Therefore, success depends far, far more on what you do, than on how you do it.

In a power law distribution, very few sample points account for a majority of the population’s value.

The power law will permeate all your decisions (e.g., one marketing hack will drive 90% of your traction, one product feature will drive 90% of repeat users, etc.). Won’t go into more detail here – definitely read the post!

[Tweet “Success depends far, far more on what you do, than on how you do it.”]

Book: Zero to One

Further reading: The Power Law, or why working hard is not enough (my blog post, again)

5. Attractor States – Good Strategy Bad Strategy

The previous three concepts have all been around the idea of work and success. This one is different, and is a tool that I’ve found quite useful in jump-starting creative thinking about problems.

Let’s say you’re trying to think of a startup idea in a given space. You could look at what users do now, what they buy, how they consume, etc., and try to find areas where you can add value. Or, you can look at how the industry will inevitably evolve in the future and see how you can accelerate that.

The author calls this concept an ‘attractor state’ – given industry trends today, what do you see as the logical next frontier over the next 10-20 years? And how can you participate in that, rather than making incremental changes to the status quo? To paraphrase Wayne Gretzky, the ice hockey legend – don’t skate to where the puck is, but to where it will be.

This is a slightly nebulous concept, so let me provide an example. Let’s say I want to create an offering in the payments space. One option is to join the crowded current market, and provide a mobile wallet solution, a payment gateway, etc. Another way is to think of where the industry will be in 10-20 years – its attractor state. I’m not a payments expert, but seeing how it has evolved over time (barter -> gold -> paper money -> credit cards -> mobile wallets), there’s a clear trend towards individualization. The reasons mobile wallets are a great innovation is that everyone carries a mobile today, and they don’t share mobiles – it is a unique identifier of a person. Taking this individualization further, the next wave of advancement has to be biometrics – where unique characteristics of your person (iris, voice patterns, fingerprints, etc.) are your identifier, based on which transactions can be completed from your account. You don’t need to whip out your phone or credit card – just staring at a tiny lens is enough to connect to your payment account.

How does this help an entrepreneur? With this end-game in view, entrepreneurs can think about how they can add (and capture) disproportionate value in the long-term – the products and services they can start building today, to accelerate the attractor state. In the case of payments, it could be future biometric sensors, systems for collating massive customer data, POS terminals for accepting payments, etc. – each of these possibilities could be game-changing.

[Tweet “”Don’t skate to where the puck is, but to where it will be.” – Wayne Gretzky”]

Won’t go into much more detail here – but I’ll write a blog post or two on this concept soon. I find it an incredibly powerful way to improve your creativity when thinking about problems and solutions.

Book: Good strategy Bad Strategy. Apart from a discussion of attractor states, this book also has a great discussion of chain linked strategy and focus as a source of competitive leverage. I’ve blogged about this here.

Further Reading: Will write a detailed post on this soon!

These are the five concepts from books that changed my world-view. It may be asking too much to hope that they fundamentally alter your thinking too, but I hope you find these perspectives and books interesting. Do comment!

PS. Have you signed up for the Startup Weekly yet?

Sometimes, good old focus can be a competitive advantage.

jithaMarch 25, 2015 2 Comments

We constantly read about companies that have created barriers to entry – through technology, intellectual property, large-scale manufacturing, or sometimes even by throwing a ton of money at a problem. For startups, this barrier to entry is a constant refrain, especially in conversations with potential investors – “What’s your barrier to entry? What asset are you building that’s hard to replicate?”. And this is a hard question with no easy answers, especially for a young company that’s not building a high-tech, proprietary product – a bigger competitor with deeper pockets could appear at the ramparts anytime, and replicate exactly what you’re doing.

But what if just focus on a particular user segment could help you develop a competitive advantage? What if expending all efforts to serve a particular market niche or user segment could help you unearth a resilient barrier to entry?

I read a book called ‘Good Strategy Bad Strategy’ last year and was struck by how insightful it was. I’ve revisited my notes from the book at least twice now, each time capturing a new nuance. It’s a must read for students of strategy, advisors on strategy, and practitioners. Having been all three (in that order, oddly enough), this is right up my alley.

The book had many great ideas on sources of power for companies – what gives a company lasting supremacy in its market. One idea that stayed with me was of single-minded focus – how focus on a particular type of user can be a sustainable source of power or competitive advantage. How would this work? Let’s dig in – this feels like another 1800 word post.

Any company’s business model has 9 different parts, as below:

Source: Strategyzer.com

The author, Richard Rumelt, points out that to focus on a specific user segment, you need to make coordinated changes across multiple or all parts of your business model. Thus, your final offering to the customer is a sum of many moving parts that have all been finely configured – a sum that, as the cliché goes, is more than its parts. Applying such focus takes incredible coordination of policies, which, along with their interlocking and overlapping effects, can then confer unassailable advantages and make you a hard act to follow.

I know this seems very philosophical (a little like bad strategic advice!), so let’s look at a few examples to illustrate this better:

1. IKEA

Rumelt uses the example of IKEA to illustrate this concept. IKEA is a furniture retailer that sells ready-to-assemble furniture. It targets do-it-yourself or DIY users, who love the feeling of putting something together. It has been hugely successful across multiple countries, but 70 years since its founding, no credible competitor has appeared or lasted. That’s sustainable competitive advantage!

IKEA has no secret sauce in terms of patented technologies for furniture, greater marketing strength, etc. The source of IKEA’s lasting advantage is, instead, the coordination between the different elements of its business model to serve its target segment. For a competitor to challenge IKEA, they don’t just have to sell ready-to-assemble furniture – they’ll have to change their whole business model.

They’ll have to design new types of furniture;
They’ll have to start carrying larger inventory;
They’ll have to create their own, branded stores; and
They’ll have to change their selling models.

Thus, copying IKEA is not a simple matter. IKEA’s policies are so different from the norm in the furniture industry that any competitor would have to replicate ALL of them to meaningfully compete for the same user segment. Adopting one or two of these policies and implementing them, even perfectly, would be useless – it would add huge expenses without providing any real competition.

2. Apple

Apple is another example. Over the years, Apple has targeted its products at premium customers who want a superior experience – well-designed products that just work. They’re not interested in the most technologically advanced products with the most bells and whistles – they want products that do their job simply and well. Oh, and there’s snob value too.

Apple has made several interdependent decisions to target this group:

Complete ownership of the product: Take the iPhone. Unlike its closest competitor, Android, Apple controls the entire product – the OS, the hardware, user interface, etc. This allows it to deliver a very coordinated and quality user experience.
Complete ownership of computer ecosystem: Moreover, Apple coordinates the experience across all its products. The Apple ecosystem can satisfy all your computing needs – desktop, laptop, tablet, phone and music player. All of these products follow the same design language, and work together seamlessly – they sync with each other very easily, without any need to fiddle with system settings.
Branded retail stores with a luxury experience
Marketing mainly to premium customers who don’t mind spending more – this not only raises product revenue, but also increases the long tail of revenue from app store downloads, music downloads via iTunes, etc.

The reason Apple’s position in the market is unassailable is that a competitor can’t just copy one or two things to start selling to the same group of customers. The competitor would have to copy everything, a formidable task even for very nimble companies. And copying sequentially won’t work – you can’t begin to deliver the Apple or IKEA value proposition without copying everything from the outset, in a coordinated manner. Which is why, even though Android and its partner OEMs have copied a lot of product design elements from Apple (in fact, the first Samsung Galaxy S was an iPhone in all but name), they haven’t been able to displace Apple from its position as the proprietor of all things cool.

Thus, the business models of IKEA and Apple are like a chain – multiple independent elements interlock to engineer a truly durable value proposition. As for a competitor, the flipside of a chain-linked model applies – your proposition is only as strong as your weakest link. Focusing on strengthening just one or two aspects of your model won’t increase your ability to compete even one bit – you need to strengthen everything, all at once.

Let’s try and apply this mental model of a chain to a few other sectors. Are there other companies as well, which have used focused, chain-linked business models to derive competitive advantage?

3. Wal-mart: In the 60s and 70s, Sears and Kmart dominated retail. But they mainly served large towns or cities that could ‘support’ a large retailer. Wal-mart changed the game by creating large-format stores away from cities, allowing enormous spaces at lower costs. It positioned itself as a ‘discounter’, something other players avoided like the plague. And it was able to make money while offering deep discounts, through several interlocking innovations:

Extremely wide product portfolio with deep discounts on some products, cross-subsidized by other high-margin products
Cutting-edge technology to track customer purchase behavior, and tailor portfolio accordingly
Agile supply chain, keeping its stores well-stocked with the right products very efficiently

Thus, several innovations, all focused on offering products at the lowest prices, gave Wal-mart lasting competitive advantage. By 2002, Wal-mart was the largest retailer in the world, and Kmart was bankrupt.

4. Dell: If you wanted to buy a desktop in the US in the 80s or 90s, your only options were to either buy a standard configuration through a retailer, or buy individual PC components to customize the machine yourself. Unless you built the PC yourself, you did not get much choice in the product or configuration you wanted. Dell saw an opportunity to change this by offering customized configurations, and thereby targeting the more technologically adept consumer.

Dell took a number of hard decisions to make this happen. It created an easy to use online / phone interface for users to configure computers of their choice. It delivered this promise through a mass customizing production process, and built a direct-to-customer distribution channel. None of these decisions were easy to replicate even singly, much less in lockstep. The result – a lucrative business model that stood unchallenged during the PC boom of the 90s.

OK, these are standard business school case studies. Let’s look at a few newer companies.

5. Innocent: The British healthy drinks / smoothies player has built a strong position in its home market. Innocent offers health-oriented users very fresh fruit-based drinks – their promise is, zero preservatives, only natural fruit. Offering this focused proposition means a number of business model decisions – sourcing the best fruits only, producing for short shelf life, faster cold chain logistics to get the product to retailer shelves very quickly, and so on. All separate decisions, coordinated to deliver user value. Competitors have found it very hard to replicate this – Pepsico, after years of trying to compete in this market, finally bought a smaller competitor to gain a toehold.

6. Zara: Zara has carved itself a preeminent position in the ‘fresh fashion’ space. Zara’s stores are always stocked with the latest trends – Zara gets clothes from design to outlets in 10-15 days flat. And it has done this by tailoring multiple parts of its operating model to accentuate this speed:

Much larger design team than other apparel brands – its 200 designers ensure a steady flow of new designs, taking advantage of the latest trends and feedback from customers.
While most apparel brands manufacture in China, Zara manufactures in Europe close to its main markets – this gives it a head-start of at least 1.5-2 months.
Short production runs, with limited quantities – Zara doesn’t run more than one production cycle for most of its products. If a particularly striking outfit runs out at its stores, that’s it. You won’t see it again. From a user’s point of view, this drives a purchase decision faster. If you plan to come back tomorrow to buy a dress, it may not be there.

Putting these aspects together, other brands find it very difficult to catch up with Zara – all of these are major business model revamps that are difficult to pull off, whether alone or in coordination with each other.

These and several other successful companies show that focus and coordination can create a massive barrier to entry and lasting competitive advantage, keeping challengers at bay for years to come. It’s a telling reminder to businesses – you don’t need cutting-edge technology or a massive fund-raise, just good old-fashioned customer service will do!

What do you think? Are there any other consequences – positive or negative – of focusing your business model on a specific user segment? Would love to hear from you – mail me at [email protected], tweet at @jithamithra, or comment here on this blog. And do subscribe here – I post roughly once a week, on startups, business models, consumer behavior, etc.

PS. I’ve just started a newsletter called The Startup Weekly with Abhishek Agarwal, a close friend, curating the most interesting articles, case studies, etc. for startups that we come across every week. Would be a good addition to your inbox (so much for conquering it). Sign up here – first issue goes out this Saturday!

How Uber solved its chicken and egg problem (and you can too!)

jithaMarch 9, 2015 7 Comments

What comes first, the chicken or the egg? An idle question on which children (and sometimes adults) can spend hours shooting the breeze. The question is, however, not so innocuous when it comes to businesses.

Some of the most exciting ventures today have a unique characteristic – they’re multi-sided businesses. What’s a multi-sided business? It’s one which connects two or more distinct user groups that provide each other with benefits. Think of Uber – it connects cab drivers and passengers, who benefit each other. E-commerce marketplaces are also examples – they connect buyers with sellers.

Such companies, once established, have a high barrier to entry. While that’s wonderful, it also means that they’re incredibly hard to build. Users on one side of the business model find the platform useful only if the other side also exists. For example, people buy video game consoles only if there are games they can play. And game designers make games for a console only if there are enough people who own it. The proverbial chicken and egg problem. How do one solve this impasse?

I face this problem too, in the product that I’m building – connecting advertisers with consumers (launch coming soon – watch this space!). How does one break the deadlock between the two sides? Unlike the philosophical question of which comes first, here the only right answer seems to be both!

There are four ways in which successful multi-sided platforms have overcome this stalemate.

Slow and steady: Build the two sides together in lockstep
Jumpstart: Get one side up quickly, and then build the other
Fake it till you make it: Build one side gradually with a makeshift offering, and then bring in the other
Bait & switch: Start with a single-sided value proposition to build one side, and then introduce the multi-sided offering

1. Slow and steady

In such a model, your offering needs to be valuable to your very first customers on both sides. One way to achieve this is to start small – very small – at a level where it is possible to get both sides onto the platform and provide the necessary cross-network effects. Focusing on a single city, area or even a neighborhood first can help you prove the model to both sides. Once that happens, you can expand gradually, building the two sides in lockstep one neighborhood at a time.

This is what Uber did in San Francisco – getting the model going in one city, and then applying it to other cities one by one. Going small could also mean focusing on one specific customer or product segment before expanding to others. Amazon, and more recently Flipkart, started with selling just books, building a user base and brand recall before expanding to other products.

Tinder, the dating / swiping app, built initial traction in a very creative manner. In its early months, the marketing lead toured several college campuses. At each campus, she first convinced the girls to download the app. After that, when she showed the app to the male fraternities, they quickly jumped on, seeing the number of girls they knew on the app.

2. Jumpstart

Growing both sides of the business slowly in sync is great, but what if you want to speed up growth? Speed is often critical initially – given the high barrier to competing in this space, multiple people with the same idea would try and hustle into pole position. Maybe you don’t need to have both sides up and running from the get-go?

There are many ways one can quickly get one side of the value proposition up, and then build the other gradually.

a. Partner with someone who already has a large user base

One way to break this stalemate is to opportunistically partner with someone who already has a large user base on one side of the platform. This could be another product with mass acceptance in your target user base, or someone who has strong existing relationships that could be leveraged. Once one side is thus engineered into being, you can then build the other.

Google hacked its way to an initial user base using partnerships. It partnered with Netscape to become its default search engine in the late 90s, and also tied up with Yahoo! to power searches on that platform.

b. Make it easy, low-cost and low-risk for one side to come on board

At the same time, you need to make it as easy as possible for one side to say ‘yes’. Drivers are much more open to trying Uber when all they need to do is accept a phone from Uber and keep it on. It’s simple, and it’s low-risk – there’s plenty of upside if any ride requests come on the app, but there’s no downside at all!

Belly, a loyalty program for small businesses, did the same. It gave retailers a very low-risk, easy to install and low-friction loyalty solution. Once a critical mass of retailers had it, localized network effects began to take shape – customers and other retailers, noticing this in some shops, started demanding it of others.

c. Subsidize initial adoption for one side

A subsidy or ‘free’ offer always helps give the initial nudge. This is what video console companies like Xbox or Sony PlayStation do. The console is sold at a subsidized rate to users, and the company takes royalty on the flurry of games that follow. Uber subsidizes both users and cabs initially, to speed up adoption.

3. Fake it till you make it

Sometimes, it’s difficult to obtain one side of the model quickly enough. In this case, you have to build one side gradually with a makeshift offering, and then get the other.

a. Be the counterparty till the real counterparty appears

Most large e-commerce marketplaces started with an inventory led model, where they stocked products themselves. Once user base was built, they found it easier to make the shift to the more lucrative marketplace model, connecting product suppliers to buyers.

b. Use existing systems or services

Sometimes, you don’t need to build the entire solution for all sides of your platform – winging one side of the platform is an option, at least until you demonstrate user traction. I’ve heard the story, possibly apocryphal, of how the Flipkart founders would actually go buy books from stores to fulfill their initial orders. Look for a repetitive, non-scalable way to fulfil one end of the bargain initially, rather than investing in building service infrastructure, supplier base, etc. for a model that is yet unproven – not only is the latter risky, it also delays your product’s launch.

4. Bait & switch

A very nifty way to build a multi-sided platform is to first offer a single-sided service, that doesn’t need a counterparty. Once a user base is built, you can layer on the multi-sided service. Sounds complicated?

a. Build a user base on one side with a focused (different) offering, then introduce the second side

Square is a payments solution for small businesses in the US. It’s really cool – a small chip-sized device that plugs into a mobile’s headphone slot and allows you to start accepting credit card payments. At least this is what it was initially. Once it built a sufficient scale of retailers, it added a second business model. Today, Square also runs a discounting app offering consumers great deals at its partner retailers, card-less transactions, etc.

LinkedIn also did something similar. It started as a pure play network for professionals. Today, a huge user base allows it to be much more – it now offers unique solutions to recruiters, job seekers, and professionals.

b. Start as an information portal

Another way to do this is to start as an information portal for one side of the platform, offering users a directory of information about the other side. Zomato started as a pure-play information source on restaurants in your neighborhood. Gradually, as user base grew, they started overlaying restaurant promotions. I bet they’ll add other services soon – allowing you to book a table, pay after your meal through the app, etc.

These are the four different approaches that companies have used to resolve their chicken and egg deadlocks. What do you think? Have you faced chicken and egg situations of your own? Would love to hear from you – mail me at [email protected], tweet at @jithamithra, or comment here on this blog. And do subscribe here – I post roughly once a week, on startups, business models, consumer behavior, etc.

PS. In the actual chicken and egg problem, the egg comes first (there’s absolutely no doubt about that).

No, you don’t need a business model.

jithaMarch 2, 2015 5 Comments

Roughly a year ago, Facebook bought Whatsapp for $19Bn. When I heard, my first reaction (as it was for many others) was, “What!!! 19 billion? 380 million per employee. And they don’t even have a proper business model!”. And this was after Evan Spiegel of Snapchat (poster-boy of the business model-less) refused a $3Bn offer from Facebook. Today, their search for the elusive business model just begun, Snapchat is also planning a raise at a $19Bn valuation, and Spiegel looks like a visionary. What’s happening here? Is a business model expendable?

Amid the spate of headlines screaming bubble, I read a couple of articles by Andrew Chen on how the business model is not the main bottleneck for a startup at all. It’s the audience. As Andrew says, the biggest risk, regardless of your monetization model, is whether you can get millions of users or not. This sounds like a corollary of the power law – whether you succeed will depend far more on the size of your audience than on what you sell. If you have the users, you can find the money. So go build that audience instead.

The biggest risk isn’t your business model. It’s whether you can get millions of users or not.

Wait, are we saying you do not need a business model at all? Of course not – you do need to make money. But the point is that it’s not your critical constraint. Build a product that enough users want, and there are any number of off-the-shelf business models you can tag on to it.

Take Facebook – even a year after its IPO, people were concerned it didn’t have a solid business model. Today, Facebook is hitting annual revenue of over $12Bn not due to any innovative business model, but driven by its user base and growth alone. Maybe I’m belaboring this a bit, but especially for a consumer startup, it’s often far more valuable to focus on growing user base from 100K to 2 million, than to try and optimize revenue per customer.

OK, this is all talk – every business can’t use the same models that Facebook does. What are all these off-the-shelf business models we’re blabbering about? Well, I looked around online, but couldn’t find a comprehensive list. So I chose the next best option – I built it myself. I’ve listed 25 business model patterns below, that you can plug onto your business.

But first, you need an audience. And for that, you need a value proposition. Let’s say that you’re a platform where users come for widgets – these widgets could be physical objects (e.g., furniture, books, etc.), or digital ones (photos, updates from friends, online services, etc.).

This entrepreneur has bigger problems than his business model.

Now, if the widgets have direct monetary value, the business model options are fairly straightforward:

1. Manufacture and sell directly to customers
2. Outsource manufacturing, and sell directly to customers
3. Manufacture and list on other marketplaces
4. Become a marketplace and collect brokerage

But I’m guessing that if the widgets have physical value, then the business model wouldn’t be as big a question. Amazon India and Flipkart don’t take much ‘brokerage’ today on their e-commerce marketplaces in India, but their belief is that they can in the future.

It becomes more interesting when the product that your audience comes to you for may not be a physical one with direct value – how do you make money then?

A. Advertising

Ever since Google revolutionized search by putting ads next to search results, advertising has become a default monetization approach. And let’s not forget that the newspaper industry has revolved around ads since forever. The digital advertising industry today has matured considerably, offering several options to tag onto your product / service.

5. Ad networks: Ad networks collect an inventory of ad content from advertisers. You can tie up with one as a publisher, and the network will then start showing banner ads, pop-ups, etc. on your platform. For every ad seen or clicked on, you collect. A lot of mobile apps today, especially games, use this as an earning model. There are over 200 ad networks around the world today, that you can partner with – Google AdSense, Tribal Fusion, InMobi, etc.

6. Affiliate networks: Fundamentally similar to an ad network, but here the focus is more on driving actual sales. You showcase product ads on your website, and you get a percentage of any sale originating from a click here. Some companies do only affiliate sales – check out Cashkaro.com, for instance. Anyone can become an affiliate to one of the large e-commerce players, or join an affiliate network – just search for ‘Affiliate network’ on Google, and a bunch of them show up.

7. Promoted Content: Ads that look native to your website / app, rather than banners. This is the Facebook model – where your news feed also contains a few ads in the same format. Twitter does the same with Promoted Tweets, and Snapchat Discover is also a variant of this. Some of the smaller apps also do something similar – QuizUp, from time to time, has Quizzes on upcoming movies – these are likely promoted.

8. Sponsored Content: Sometimes, your regular content can also be sponsored. This is the model sometimes followed by digital magazines / newsletters – an issue may be sponsored by a particular company, and free to the user.

Now, let’s get into slightly more complicated advertising solutions:

9. Offer Wall: Sometimes, rather than showing banner ads (which can be distracting), mobile games allow you to gain virtual assets (say a missile launcher in a first-person shooter game) by watching a few ads, downloading promoted apps, etc. For each ad you interact with, the game gets paid by the advertiser, and you get that missile launcher! This is called an Offer Wall – Tapjoy is one of the biggest providers of this service.

10. Retargeting: What users do on your site can be valuable to advertisers, even if they don’t actually advertise on your site. For example, the kinds of pictures you pin on Pinterest could be valuable information for an e-commerce player – they can then offer you the right deals when you visit them. You could help make that connection by integrating with a retargeting solution like Adroll or Perfect Audience.

11. Special Offers: You can also run exclusive offers from time to time for your users, in collaboration with advertisers – e.g., a special discount code that they can use in shopping. Often, this can be designed in a way where you get a cut for every user that converts.

12. Special Campaigns: Similar to the previous solution, you can also run special campaigns for advertisers to drive engagement. “Do you love Coke Zero? Upload a video telling us why, to win an exciting hamper!”

13. Behavioral Analytics: Observing how users engage with your platform and with other users on it can be very helpful in understanding their behavior. And this behavioral understanding could be very useful to corporates. Sharing this data with them could be a good way to monetize. Now, this is not really advertising, but it’s similar in that a separate entity pays you for your users and their actions.

B. Charge the User

The other option is to charge the user herself. Of course, setting an upfront fee for usage could scare away a lot of users, and hence the need for more creative solutions.

Some of the business model patterns that exist here are:

14. Rent / Subscription: A simple monthly subscription fee for use of the service – users are more likely to convert for this, as it’s a smaller amount than buying the software outright. This is a primary model in SaaS solutions, but it’s also used by others. World of Warcraft, the hugely popular multiplayer online game, charges $14.99 per month for usage.

15. On-Demand / Pay as you go: The opposite of the Subscription model is the On-Demand one – users pay only when they actually use a service. Cab services like Uber and Ola are great examples of this – you pay only when you use the service.

16. Bait & Hook: The bait and hook model involves having a low entry barrier for users, with regular, high ongoing charges. Printers and razors popularized this model, with relatively low-cost devices and high cartridge costs. But this is something we see among newer companies as well – US telecom players sell mobile handsets at a loss but have expensive paid plans with lock-in periods. Video game consoles are similar – cheap consoles, costly games.

17. Retainer + Usage: Another model to reduce upfront costs (and increase adoption) is to charge a low retainer for accessing the product / service, and then pay-as-you-go, depending on the amount you use. This is halfway between subscription and on-demand, and hence potentially less attractive to users than either.

Freemium business models

Freemium business models, where some consumers use the product for free and others pay a premium and cross-subsidize them, have gained a lot of traction over the years. There are several examples of the freemium pattern:

18. XX no. of uses free: Many services allow you to use them a certain no. of times per month for free, beyond which you need to pay. For example, the Financial Times website allows you to read 3 articles a month for free, after which you need to pay a subscription fee. Tinder is experimenting with this – it is considering limiting free users to only 100 swipes a day, with an option to upgrade to Tinder Plus. Some of us will now need to find something else to do at lunch unless we’re ready to pay.

19. XX no. of users free: An app that involves collaboration could limit the no. of people collaborating on the free plan. For example, an office chatting app could limit the number of colleagues you can add on one account to five. Todoist, the task manager that I use, allows you to add only 5 people to a project in the free version.

20. Limited scope for free users: Services sometimes limit scope of use for a free user, and you need to upgrade to do more. Taking the example of Todoist again (I love the tool, btw!) – the free version allows you to list and complete tasks and projects, but you need to pay if you want to label tasks, write comments, etc. Similarly, many content websites allow you to see the latest reports for free, but you have to become a paid member to access their archives. LinkedIn also uses this freemium model to great effect – they have different premium plans for job seekers, recruiters, and so on.

21. In-app purchases / virtual goods: This is popular among mobile games. Reduce the entry barrier by keeping it free, and allow users to purchase virtual goods within the app. If you’ve played Angry Birds, you’ll remember the Mighty Eagle. In a particularly difficult level, you can buy the Mighty Eagle (only $0.99) to kill all the well-sequestered pigs. And the stickers that you can buy on WeChat or Viber are also examples of in-app purchases.

22. Trial period: A variation on freemium is to allow consumers to use your product for free for 1 month, and then start paying. Most online software tools offer this – in fact, even if they are freemium and have a paid plan, they offer a trial period on the paid plan. The trick here is to use this first month to really sell your product and convince the user that she can’t live without it. A good onboarding process, assuming your product really adds value, can work wonders.

If you’re deploying a freemium model, you should initially assume that only 0.5%-1% of your users will convert.

Offering other services

Sometimes, you can offer other products / services to your customers to earn revenue.

23. Value added services: Offer users tools or services to help them better use your core offering, which remains free / inexpensive. For example, a photo-sharing software could offer certain paid filters that you can apply to your photos before sharing. Similar to the many paid Instagram filters that exist for iOS and Android today.

24. Diversified services: Sometimes, companies also offer completely unrelated services to their user base. WeChat has gradually added a myriad services to what one thought was a messaging app – mobile games, peer-to-peer payments, e-commerce, you name it.

25. Events: An offering which has a community built around it can also monetize by running events or get-togethers. And if the company can procure advertising / sponsorship for the event, that’s an additional revenue stream. VCCircle, a content company in India focusing on startups and investing, runs a large number of information / networking events that its subscribers and others can attend for a fee.

Thus, there are several business models that you can use, provided (and this is the million dollar question repeated for the millionth time) you have a large enough audience. Can’t find one that fits your offering in this list? Don’t fret – continue to build your product and user base. As long as you add value, you’ll eventually find a way to share part of it.

What do you think – is a business model a commodity yet? Would love to hear your thoughts. And if you want more information on any of these – how they work, how you can integrate them, tools you can use, etc. – do comment here / email me at [email protected] / tweet at @jithamithra. And yes, do subscribe to this blog – I post roughly once a week on startups, consumer behavior, books, etc.

5 things I learnt from talking toilets in rural Bihar

jithaFebruary 21, 2015 6 Comments

Over the past year, sanitation has hogged headlines in India like nobody’s business. And rightly so – it’s everybody’s business. Two out of three households in rural India don’t have a toilet. And many of those who do don’t use them. Against this intimidating backdrop, over two years ago, my colleagues and I at Monitor / Monitor Inclusive Markets set out to develop a market-based solution to the sanitation problem in rural Bihar. And over these two years of selling the idea of a toilet to rural consumers and working closely with people selling toilets there, I’ve learned a lot regarding consumers and how to sell to them.

With the Swachh Bharat Abhiyan (the new avatar of the Nirmal Bharat Abhiyan, itself a new avatar of the Total Sanitation Campaign), the government wants to make India open defecation free by 2019. In less than five years, all 1.2 billion of India’s population will use a toilet. Today, we’re at least 600 million shy of that. In fact, as people in the sanitation sector often say:

[Tweet “India has a majority of the world’s open defecators, and a majority of Indians open-defecate.”]

According to the 2011 Census of India, Bihar is a laggard in toilet coverage – only 18% of rural households have toilets. In 2012, we set out to develop a market-based business model to resolve this – could we harness market forces to drive adoption of toilets? After talking to 1000+ villagers in Bihar, meeting 150 value chain players and visiting sanitation interventions in many other areas, we developed business models that are now being implemented in parts of Bihar (see post-script for more details on the models). It has been fascinating to put together a business model and see it take shape on the ground. Along the way, I have also learned a lot about how consumers think, and how to sell to them.

1. Your value proposition needs to be concrete, tangible and real to your consumers

Your product’s value proposition has to make sense to the user, which means three things:

Concrete: Your product’s benefits can’t be nebulous – they need to be specific. For example, just telling consumers that using a toilet is good for health is not convincing – you need to explain step-by-step how open defecation means you’re eating your own shit.
Tangible: Sanitation NGOs today are doing a good job of making the health benefit concrete. But it’s not tangible. Even after you explain the benefits, people still need to be able to see it – just logic won’t do. And health benefits are particularly hard to demonstrate because (a) they start accruing only after a majority of the village stops open defecation, and (b) even after safe disposal of faeces, people still fall ill due to unsafe drinking water and other factors. And if something so axiomatic is hard to prove statistically, try convincing your village consumer anecdotally! Instead, what we found from speaking to people is that they want toilets for safety (vs. traveling early in the day / late at night for open defecation), convenience (especially when ill / for the elderly), and privacy – all far more tangible.
Real: While the benefit may be tangible, it’s important that there be a need for it – else you’re just a very good solution in search of a problem that may not exist. A hallowed business model in rural sanitation is that of a one-stop shop, and one of its main value propositions is convenience. Of course it is more convenient, but do consumers value that? What we saw was that farmers or agricultural workers finish their day’s work in the morning and have a lot of free time later – they’d rather use this time to buy all the materials, than pay someone a commission to do it for them.

[Tweet “Your value proposition needs to be concrete, tangible and, most importantly, real.”]

2. Even if affordability is an issue, people don’t want a ‘cheap’ solution

With toilets, as with cars, people want quality, albeit at a low price. ‘Cheap’ is not a value proposition, ‘value for money’ is. And when offered a cheap solution, people who otherwise wanted toilets did not buy. “If we have to get a toilet, it has to be a quality one”. Convincing people that your low-cost solution is also high-quality is critical.

[Tweet “‘Cheap’ is not a value proposition, ‘value for money’ is.”]

3. To convert customers, ability and triggers are as important as motivation

According to BJ Fogg’s Behavioral model, behavior change is driven by motivation, ability and triggers. This holds even for sanitation behavior – if you want a consumer to construct a toilet, driving ability and triggering purchase are at least as important as motivating purchase. One single step to increase ability to purchase – financing – has disproportionate impact on toilet adoption. Similarly, from a usage point of view, a household that constructs a toilet will not use it if procuring water is inconvenient – ability or ease of use is critical.

Financing also triggers purchase among households that can already afford toilets. One such household took a loan of Rs. 5,000 to construct a large toilet, with an attached bathroom, a shower, and a large septic tank – and they use it religiously (toilets vs. temples, anyone?). This cost at least Rs. 60,000 to construct – they could have, of course, constructed a toilet without financing, but that was the trigger.

4. Skin in the game is important, to drive usage

Over the last 10-15 years, toilets have been constructed with government subsidy for rural households across the country. But usage is markedly lower when households contribute neither materials or money, according to last year’s SQUAT report on sanitation usage – none or only a few household members use it. Financial participation keeps people’s skin in the game and drives long-term usage. Maybe it’s a good thing most people don’t understand sunk cost.

5. Choice is helpful. But don’t make a user choose between a Nano and a Mercedes

Giving customers choices (but not too many) is definitely more helpful than one-size-fits-all. This is not a new insight. But when you offer three toilets at prices of Rs. 10,000, Rs. 15,000 and Rs. 25,000 respectively, consumers buy none of them – this was an unexpected response during our business model pilots (easily explained in retrospect of course – hindsight is 20:20). The reason is that over 90% of people in most villages in Bihar cannot afford a Rs. 25K toilet – it’s the rural toilet equivalent of a Mercedes. And when you offer a middle-class prospective buyer a Nano and a Mercedes in the same choice, you cause decision paralysis. He may have come in considering a Nano, but he changes his mind on seeing the Mercedes – “Maybe I can save up over the next few years to get a Merc.” He may come back 5 years later or he may not, but he’s no longer a prospective customer today.

[Tweet “Choice is helpful. But don’t make a user choose between a Nano and a Mercedes.”]

Choices need to be from the same cohort – Nano vs. Alto vs. Indica is an easier decision to make, and even easier is a choice between A/C and non-A/C variants of a Nano.

As I’ve been setting up my own business, I’ve remembered each of these learnings multiple times – initially as rationalizations for observed user behavior, but later more and more to predict user reactions. But my most important learning of all – reinforced by every piece of user feedback I receive on my app and every user grievance I address every day – is that users are who they are, and they want what they want. Take that as a given, and try to deliver that value through your product. If you’re trying to tell a consumer what to want, well, good luck to you!

PS. You can read more about our Bihar work and the business models we developed here.

PPS. I must thank Monitor (now Monitor Deloitte) and Monitor Inclusive Markets (now FSG India) for the opportunity to work in sanitation for so long. Of course, this post doesn’t necessarily represent the views of these two companies, and the people I worked with.

The Power Law, or why working hard is not enough

jithaFebruary 1, 2015 19 Comments

Throughout your academic life, you’re told, variously, “There’s no substitute for hard work”, “Work hard and don’t think about the results. They’ll take care of themselves”, “It doesn’t matter what you do, as long as you do it well”, and so on. Mildly put, that’s completely false.

I read Peter Thiel’s Zero to One a couple of months ago. In this book, Thiel, who founded Paypal and has backed many successful startups (including Facebook), talks about startups and how to create value in the world. The book itself has many highs and lows, but I found his discussion of power laws very thought provoking.

So, what is a power law? A power law describes an exponential distribution – where a few individual points account for a majority of the value in the population. Simply put, it’s the Pareto principle (80:20) on steroids:

Normal distributions assume that the entire population will be distributed across, with a huge majority of people around the average. For example, if you were to plot a distribution of the weights of a country’s entire adult population, it would probably resemble a normal distribution – a large proportion of people near the average, and the no. of people going down as you moved away from the average on either side.

On the other hand, populations that obey a power law are completely skewed to one side. Think about wealth distribution – you know how they bandy around the statistic that 1% of people account for 50% of the world’s wealth? That’s a power law. I read somewhere that whenever a book from Chetan Bhagat is released, it almost outsells the next 500 best-selling books combined. I was quite surprised, but I shouldn’t have been – book sales also follow a power law.

Why is this important? Power laws have always played a huge part in nature. For example, a vast majority of earthquakes are relatively minor, but a tiny proportion cause almost all the damage – that’s a power law. They also explain a lot of our societal context – language (a few words dominate usage), city populations (the largest cities account for an inordinate proportion of urban population), and so on. And more and more, entire industries are beginning to resemble power laws – especially in the Internet era. Think Search (Google accounts for 88% of the market), Social Media (Facebook has 33x the no. of visits as Twitter, its nearest competitor) and so on. This phenomenon, where the winner takes (almost) all, is becoming more and more pervasive. You dominate or you die (separate post on this later).

But coming back to the main focus of this post, what does this mean for you as an individual? A few things, actually:

What you work on matters, and matters far, far more than how hard you work. Till the early 1900s, there were people called ‘knocker-uppers’ who would help people wake up every morning, by walking down the street with a long stick and tapping windows till people woke up. Many of them worked very hard; but lost their living in a jiffy once alarm clocks started being mass-produced around 1920. As Thiel says, by all means work very hard on what you’re good at, but first think hard about whether it will be valuable in the future. In a world where the returns on your efforts follow a power law, you must think hard about where you stand on the curve.
[Tweet “What you work on matters, and matters far, far more than how hard you work”]
If you want to start up, seriously consider working for another one (with stake / options). One of the corollaries of the power law is that very few startups will succeed, but they will succeed hugely, enormously. So, being at the right startup is far more important than your role in the startup and how much stock you own. A little simplistically, 0.01% of Google is probably worth a lot, lot more (35 million dollars) than 100% of a startup that you’ll start. And most startups fail, in which case you’ll own 100% of nothing. So if there’s another startup / early stage company that you think is promising, it may actually be a better bet to join it with stock / options than starting your own.
If you have a startup already, don’t hoard stake. Many startup founders are very miserly with stake. I’ve heard many say “Your company’s stock is the most valuable thing at your company.” While technically true, many take this to mean that you should give away as little stake as possible. Rather, I’d read this as meaning that you should do whatever you can to raise its value. And if a particular investor can actually help you succeed and raise the value of your company significantly, then giving them slightly higher stake (within limits, of course) is worth it. This is especially the case early on, when the growth in the pie will affect your personal shareholding’s value far more than the proportion of the pie that you own.
Realize that the power law will permeate all your decisions. Whether the markets you choose to play in, your distribution channels, your product features or your decisions themselves, few or one will dominate in terms of creating value for you.

Now, you can’t predict the future, and so you don’t know which of your choices will matter. The only way to set yourself up for breakout success in an uncertain world is to go for the big prize – where even if chances of success may be low, the value created (for you and others) in the event of success is immense.

These are the different ways in which power laws affect us as individuals. I would love your feedback – how else do you think power laws affect our daily lives and work?

And yes, please subscribe on the right for regular updates from this blog – I blog roughly once a week on startups, growth hacking, consumer behavior, books, etc.

Why, really, do startups fail?

jithaJanuary 13, 2015

Why, indeed? This is a question I’ve thought about a lot over the last 2 years (sure, it is a popular thing to mull over), since I took the plunge, so to speak. It’s obviously of deep importance to entrepreneurs – it’s critical to know what failure looks like and try and avert it, whether with a new alpha feature, a marketing campaign, or your startup as a whole. If failure isn’t bad enough, the opportunity cost – what you could have been doing instead – is all too real.

Which is why, when I came across this report from CB Insights on ‘The Top 20 Reasons Startups Fail‘, I was more than mildly interested. The report is based on post-mortems of 101 startups by their founders – a very courageous act. I’ve always found it tough to look back at a failed endeavor, much less deconstruct it as these guys did.

Here’s the key chart from the report:

Now, at the trivial level, startups fail when the cash runs out. Or when the founders decide to call it quits, i.e., the commitment runs out. As Brett Martin wrote of his failed startup, Sonar, last year: “Startups don’t die when they run out of money, they die when their founders let go.” Maybe it’s when both commitment and cash run out.

But I have always had a feeling that these are just symptoms, and not the disease itself (and Brett agrees in his post). Put another way, is it the last straw that breaks the camel’s back, or is it that the camel was carrying too much straw anyway?

Back to the Top 20 reasons report – the top 2 reasons are:

Not targeting a market need – 42%
Ran out of cash – 29%

The first one makes complete sense – a solution in search of a problem rarely finds one. I would extend this a little bit though, and say that startups fail when they’re not targeting a market need that’s big enough. For all that the law of large numbers postulates, sometimes there may be only three people that suffer from a problem. Worse, if you’re not from the sector that you’re starting up in, you run a risk that the problem doesn’t exist at all. As Paul Graham said, the key to building a successful startup isn’t necessarily having a brilliant idea, but to make something people actually want.

But I have a problem with the second – I would think running out of cash would, in most cases, be an indicator of some more structural problem at the startup. Indeed, the example used in the report, Flud (a social news reader), ultimately failed when it ran out of cash, but not before trying different approaches to find the elusive product-market fit. And as this blog shows, there’s a lot more going on when you’re running out of cash.

In fact, I would have guessed that reasons 2 and 3 would be poor product and poor marketing, but they come in at no. 6 and 8, as you can see in the chart. I’m sure most people would also agree that the product itself needs to be good, but not enough realize the importance of marketing.

As Peter Thiel says in Zero to One, entrepreneurs learnt from the dot-com crash of the early 2000s to focus on product and not sales, but unfortunately sales and marketing are as important as the product itself. A product itself is worthless unless you get it in front of the customer. And unless you’re building a product for all people at all times (like WeChat and the other South East Asian messaging apps for example), getting your product in front of the customer is a significant challenge. And what’s more, it will remain a significant challenge for a long time, as each strategy you employ to get traction works excellently for a while, and then fails to move the needle as your user growth targets increase, and you have to jettison it, rinse and repeat (more on that in a separate blog post).

If you’ve invented something new but you haven’t invented an effective way to sell it, you have a bad business—no matter how good the product. – Peter Thiel, Zero to One

And looking at all the other reasons on the chart, you can see how they relate to these three primary factors – (a) product, (b) market and (c) product-market fit. For example, you get outcompeted when your competitor has a better product, or is able to reach the customers more efficiently than you (maybe he can spend more money on marketing than you). The only other element missing in this world-view is time and opportunity cost – without time constraints you could, at least theoretically, continue trying different things cheaply till you get it right. But then, the race against time is what makes this exciting!

What do you guys think? Do you agree with the reasons in the report?

PS. Asking founders why their startups failed may not be the best idea – they’re too close to the wheel to go beyond the symptoms. Would asking their investors have yielded a different result?

PPS. Would love your feedback on the post. if you like it, do subscribe over email. I plan to write approximately once a week, on startups, consumer behavior, books, and sometimes nothing in particular (ignore the last part, I didn’t want to put an ‘etc.’).

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