06 Game Changing Business Models

Be disruptive! Create a dilemma

Contributed by Michael Skok:

In the tech industry, it’s not uncommon for entrepreneurs to become so singularly focused on the novelty of their product that they forget to innovate sufficiently around their business model. A disruptive business model can be at least as critical as discontinuous innovation.

As an investor, the perfect scenario is:

  • A discontinuous innovation
  • Wrapped in a disruptive business model
  • Targeting a significant new market opportunity or underserved target segment
  • Where there is real pain and need.

That’s the perfect storm.

But too often, the business model is left to the end, as an afterthought. Of course, as market observers, we’ve heard countless examples of superior products that failed to capitalize on the market opportunity that was their due. We’re almost conditioned to understand the implications of this. Still, the problem persists as business models fail to generate the attention they deserve.

Here’s a simple framework of 3 initial steps to take:

1. Be disruptive, create a dilemma

Don’t simply recycle someone else’s business model. That’s squandering an opportunity to change the game by defining new rules in your favor. In redefining a category, your overarching goal should be to cause someone else to have an innovator’s dilemma. Take the conventional and look at its inverse. Turn established business models inside out. You rarely win by following the pack, so figure out where the incumbents are vulnerable and exploit that as the basis for taking market leadership. For example, Google gives away tools with powerful utility because their interest isn’t selling technology; it’s collecting data as the basis for an advertising business model. This has been highly disruptive to players like Microsoft whose original business model was licensing software. Facebook is repeating this model, disrupting other online players who can’t compete with “free” and even “better” as they collect rich data profiles to monetize.

2. Identify your C.O.R.E. differentiation

As you think through how you can disrupt the status quo, do so by identifying your Capabilities Of Really Exceptional value. What is it is that makes you exceptionally valuable? Think hard about this one. It’s the foundation upon which you’ll build your business model. Is it software? Services? Or perhaps it’s data or content generated by your community or even a process you’ve crafted? For Facebook, it’s data. For Yelp, it’s user-generated content. Perhaps like Red Hat or Acquia, which is one of my portfolio companies, you’re selling services on top of open-source software. Identify your core value, why it’s profoundly better than incumbents or alternatives and, finally, how you’ll monetize and use it as a competitive weapon for an unfair advantage.

3. Use Multipliers and Levers around your CORE

Once you’ve defined your core, identify multipliers and levers to help accelerate and economize the proliferation of your value proposition.

Multipliers for rapid market expansion

Multipliers help you drive revenue, reach and coverage, which is vitally important when you consider amortizing and then profiting beyond the cost of customer acquisition. Take a close look at the P&L of a traditional software company and you’ll notice something potentially surprising: On average, sales and marketing expenses are 2X research and development in a steady-state model.

That’s why it’s so important to find multipliers that will help you drive revenue at the lowest possible cost. Examples of this include freemium or tiered pricing models that allow you to seed the market with a low- or no-cost offering as the basis for paid conversion over time.

As one basis for making products more digestible and achieving tiered pricing, I use a technique that I call “Russian doll packaging.” Here, your base product is free or nearly so to encourage viral adoption. As you build a community around the free version, you can convert to paid usage by upselling and cross-selling paid “editions” layered on top of the free version.

Aligning with well-established technology stacks can also become a multiplier when you’re filling a conspicuous gap in a high value and acknowledged way. It not only can complete a “whole product,” but done correctly, this sort of strategic alignment can create a dramatic pull in the market, putting you in a position for multiplied growth.

Underpinning all of this is the necessity for what I call “SLIPPERY products”: Simple, Low or no initial cost, Installs easily, Proves value quickly, Plays well with others, Easy to use, ROI is obvious, Your customers can’t live without it. Slippery products grease the skids for end-user adoption, which can dramatically reduce customer acquisition and retention costs.

Levers to drive down costs

Levers help you reduce time, cost and resources to deliver your value proposition. Open-source (OSS) and other co-creation models are great examples of leveraged business models. Here, you sell value, often in the form of services, support and perhaps commercial add-on products, on top of a core product that is built and maintained by the community. Red Hat is the classic example of a company that has built a franchise around the Linux open-source community and a billion-dollar business around this model. Acquia is following a similar path around Drupal open source community and, with cloud services as their multiplier, in the social publishing space.

Crowdsourcing is another great example. For example, uTest is a company that has leveraged crowds effectively by mobilizing a global community to execute a mobile application test matrix of such combinatorial complexity that it would have been economically infeasible otherwise.

From the perspective of demand generation, viral, inbound and social marketing has changed the game altogether by shifting the economics of marketing through an inversion of the model from push to pull, and therefore outbound to inbound, making marketing more cost-effective and powerful when executed well.

Working together

Of course, the real magic is getting multipliers and levers to work together, where multipliers like freemium models also provide leveraged selling value through a community of free users who see value in conversion to paid usage tiers. Your community becomes your pipeline.

By thinking through the three aspects of business model creation—identifying your C.O.R.E. value, finding multipliers for growth and levers for cost economies—you’ll have much better odds of building a company that returns value disproportionally to all of its stakeholders.

So, that’s a partial summary of the workshop on business models. I hope you’ll review the slides and video to gain a fuller understanding with the case studies to bring it to life.


In this video workshop (1 hour and 51 minutes), we walk through several key frameworks to building a game-changing business model in order to create the Perfect Startup Storm. See key players from companies like Acquia, Formlabs, Diagnostics for All, and OPEXengine explain how their business models push boundaries and ultimately become successful.

The written lessons below provide a deeper look into some of the frameworks presented in the video workshop, like finding your market positioning with the BLAC and White framework and getting the most out of your business model with Levers and Multipliers. Don’t forget to check out the comment section at the end of this guidebook for conversations with the Underscore Community!


Video Workshop: Game-Changing Business Models

 

On the go? Listen to our workshop on SoundCloud:


To jump to a specific framework in this video:

  • Build your business plan from a small CORE Value (24:53)
  • Develop your product with the fewest resources by Co-Creating (33:26)
  • Propel your startup to success by taking advantage of Levers and Multipliers (39:58)
  • Make products that people love through the SLIPPERY Framework (1:01:28)
  • Price, package, and progressively disclose the value of your product with the Russian Doll Framework (1:02:18)
  • You need to make money at some point! Learn more about your sales cycles with Lifetime Customer Values (1:03:43) and Customer Acquisition and Retention Cost (1:24:29)
  • Learn more about what your company is worth with your startup’s Valuation (1:44:37)
  • Understand why customers adopt or don’t adopt your product with the Gain-Pain Ratio (1:46:27)

Case Study: Demandware’s Business Model


Demandware is an example of a company that leveraged its SaaS technology disruption with a fundamentally different business model to its competitors, creating innovation on demand for its customers and making partners out of them with a shared success model.


Case Study: Drupal


This is a case to exemplify how disruptive open-source and co-creation can be as part of your business model. Presented by Dries Buytaert, founder of Drupal, the largest open source project on the planet.


Case Study: Diagnostics For All

Contributed by Alok Tayi, PhD

Diagnostics For All (DFA) is a Cambridge, MA-based not-for-profit enterprise that aims “to save lives and improve health in the developing world through pioneering technological innovation.” DFA started with simple, paper-based diagnostic technology initially developed in George Whitesides’ Lab at Harvard.

Like their for-profit counterparts, DFA works to be financially self-sufficient; however, DFA has the added goal of ameliorating illness in the developing world. Conventional medical diagnostic firms are for-profit and focus their resources on the most profitable customers: high cost, high volume markets in the developed world. Diagnostic technology produced by these for-profit firms rarely makes an impact beyond the first world – their technology is expensive and requires extensive training to use. On occasion, medical technology firms will donate products or resources; however, the impact of this charity is limited.

DFA is disrupting this model by selling products simultaneously to the first and third worlds. This mixed approach is unique. Diagnosis products sold to the first world (high margin) produce profits that are re-invested in the third world (low margin) by providing diagnostics and training at a minimal cost. The two-pronged approach enables the DFA to focus on developing one diagnostic technology that applies to multiple markets.

Currently, DFA is investing 100% of its resources in technology development. With grants from the Bill & Melinda Gates Foundation, UK Government, Defense Advanced Projects Research Projects Agency, and other sources, DFA’s low cost, paper-based diagnostics are a critical part of their value proposition. Unlike traditional medical diagnostics that require expensive machines and extensive training to perform, DFA’s platform is inexpensive and colorimetric (changes color). A color-based readout enables diagnosis via cellphone: the patient can take a picture of the test with their cellphone, and a doctor elsewhere can analyze it. Initially, we’re developing this technology for five areas: liver function, at-risk pregnancy, small farmer support, child nutrition, and nucleic acid detection.

Looking to the future – partnerships with governments, NGOs, and larger companies, could be a boon for DFA. For example, collaboration with a larger company, such as a drug manufacturer in the third world, would provide established distribution networks. Through a partnership, DFA could theoretically distribute their diagnostic with an existing treatment; this combination would enable greater access for the patient to the diagnosis and treatment. Such creative packaging solutions could serve as a win-win for the for-profit drug manufacturer and not-for-profit DFA.

DFA represents a new breed of not-for-profit enterprises. We’re a company tackling illnesses in the developing world by inventing disruptive technologies that can be sold profitably in the developed world. When successful, DFA will be an excellent model for future social enterprises that need to balance financial sustainability and social good.


Case Study: Google


Google is such a fascinating example of a company that changed the game on the software industry giant Microsoft with its business model of advertising. Who better to share that than Don Dodge who was initially at Microsoft and then joined Google? He also covers the battle royale in the mobile world with Android vs. iOS, where the stakes are even higher, and the battleground is even more complicated with carriers. While one could argue as to who is winning or who will ultimately prevail, it’s evident either way that the Business Model has as much to do with the fight as the technology.


Failure is Underrated and Overburdened. Don’t Fear It – Use It!

Contributed by Michael Skok

Most advice you’re going to hear on failure will be trite. Statements like “fail fast” or “learn from it”. That’s obvious and useless without a framework for learning. And if you fear failure, chances are it’s because of the unknown. So I’ll tackle both head-on in this article and give you 7 ways to utilize it to your advantage.

Let’s start by exposing failure for the masquerader it is. Remove its mask, name it, know it.

The top 4 reasons for startup failure are:

  1. Team
  2. Market
  3. Value Proposition
  4. Business Model

And if you’re a tech startup, no I did not miss technology. Technology is very rarely the reason for failure. Good teams rarely fail to build their products. But if they miss the market need with a valueless proposition, a well-built product is just, well, useless and valueless. As an example, in 12 years, across 4 funds, with many, many companies across our all technology portfolio, less than 5% failed because of just the technology. And if you broaden this to look at as many studies as you want, you’ll still find most startups fail because the team fell apart, or failed to assess the market, deliver a compelling value proposition that met the market need, or couldn’t find a sustainable business model.

Done. No more unknown. No more fear! Great, so now you know that, can you avoid failure? And should you even try? I’d say ‘no’ and ‘yes’!

No

When was the last time you heard of innovation without experimentation? Or experimentation without failure? As it turns out without it we wouldn’t have post-it notes, pacemakers or penicillin. Failure is not just an inevitable part of innovation its an essential part of the breakage we need to make breakthroughs in the many problems big and small that challenge our increasingly overpopulated, resource-constrained, socio-economically challenged world.

All these problems are actually HUGE opportunities for budding entrepreneurs, but we’ll never address them without taking a risk and unburdening ourselves from the fear of failure. Instead, we need to learn to use failure intelligently so it doesn’t become absolute.

“The fastest way to succeed is to double your failure rate.”

— Thomas Watson, Sr. of IBM

Just ask Adam Melonas of Chew Labs, he requires a 98% failure rate to discover the secret sauce to his products.

So, whether it’s’ solving world hunger or just inventing great new products, we need to appreciate and utilize failure as a critical part of the entrepreneurial learning process rather than overburden it with stigma and dogma.

Failure is simply the opportunity to begin again, this time more intelligently.”

— Henry Ford

Yes

Forewarned is forearmed. And now you know what the top 4 reasons for failure are, why wouldn’t you learn from other people’s mistakes? Not by rote, but by judging what is relevant to you. That is at the essence of my whole Startup Secrets series, where we look to extract frameworks for success and include case examples of failure to learn from, so you can be mindful as you build your business.

With that in mind, here are 7 simple ways failure can be utilized as a mindful learning experience, and ultimately teach success.

  1. Separate what you can and can’t control – starting with the market
  2. Fail measurably not miserably
  3. Change the game of success & failure – compete unfairly
  4. Don’t just fail fast – act fast. Fast enough to keep your options open
  5. Don’t just Pivot, Persist, Pause or Fast Forward!
  6. Acknowledge the difference between luck and timing
  7. Build a team and culture to turn problems into opportunities

Separate what you can and can’t control

Not all failure is created equal. Distinguish between failure that could have been avoided from that which is beyond your control.

failure has a small ‘f’ when it’s out of your control.

For example, differentiate carefully between Market failure vs. Execution failure.

Markets

Startups rarely control markets. They may predict them, discover them, pioneer them, come to lead them or later dominate them, but they rarely control them.

Instead listen to Markets, acknowledge their power and learn to separate your execution from market forces. Otherwise, you won’t understand the failure of your execution vs the timing of the market, it’s evolution, acceptance or even regulation.

Execution

Execution is under your control. If you don’t listen to market needs, study your competition, or understand your customers’ pain points or aspirations intimately, expect to pay for Failure, with a capital ‘F’.

When it comes to execution, it’s not all just big issues. Sweat the small stuff – such as the details of the design to delight your users with great product experience. Expect to fail if instead, you overload your offering with unresearched, unnecessary and untested features that result in avoidable complexity and bugs.

Twitter’s simplicity and success were born from Odeo’s failure as a feature-laden podcasting product.

But again, this does not mean you should not experiment, or lapse into fearing failure. Just be discerning. For example, if you are experiencing failure by experimenting with innovative ways to reduce a customer’s learning or implementation to achieve a compelling user experience, that is to be encouraged. By contrast, failure to acknowledge a minimum threshold for quality is clearly not.

Speaking of quality, quality of execution is a value and it’s cultural for a startup. Set your standards and values as part of your culture early. Live by them and reward them, don’t just talk about them.

Fail Measurably, Not Miserably

I was lucky to experience failure very early in my career. And one of the biggest lessons I learned led me to create this simple anecdote:

An experiment without measurement is like a race without a finish line. Pointless and endless.

As a startup, you’re going to want to measure everything. This is an outside-in and an inside out imperative.

Outside In

Get outside the building and measure everything from the customer viewpoint. I like to change the old adage “you can’t manage what you can’t measure” to a more specific customer-oriented saying:

You can’t sell what you can’t prove, and you can’t improve what you don’t measure.

Expect to prove value to customers quickly. In B2C measure the time to WOW! In B2B settings, model payback periods and ROI for customers. For improvement, nearly everything can be measured, particularly for online products and services with great tools like Evergage, Optimizely, etc.

Tony Fadell who created the iPod and NEST, is famous for measuring the customer time to value. So much so he obsessed over the NEST installation and created a custom screw just to ensure a fast and reliable installation.

 

Inside Out

As I mentioned earlier, many startups fail because they can’t define a profitable business model. Prove to yourself you can get profitable acquisition of customers that converts to cash to reinvest and improve the internal rate of return of that cycle.

Change the Game of Success & Failure – Compete Unfairly

Business models needn’t be a threat – they care actually an opportunity to create disruption and competitive advantage by changing the game altogether and writing your own rules.  See Game-Changing Business Models.

However you play the game, as a startup, you’ll never have more resources than the larger players you’ll need to compete with. (Oh, and yes, you DO have competitors, even if you think you’re unique because everyone competes for the customers’ share of mind and wallet.)

But you have three advantages. Agility, Speed and no Legacy to slow you down. (Legacy might be your installed base, old code, or even a business model Think Microsoft vs Google.) The startup unfair advantage equation is simple.

The startup’s unfair advantage: AGILITY = SPEED – LEGACY 

To stay agile,

  • Create focused, manageable cycles of action
  • Establish discrete, measurable investments/experiments
  • Learn to build on and celebrate small successes, rather than have to cut back on big failures (EG big company rollouts or product launches are so 1999! Build rolling thunder by delivering more than you promise…)
  • Don’t be afraid to say NO! Distraction leads to bloat and it’s a luxury you can’t afford. Leave that and the politics to the big guys 😉
  • Tackle a big problem by all means, but define it as clearly as it is big, and break it down as little as it is large
  • Keep your options open. (See below.) Binary bets may sound bold but they’re the ultimate risk, just like one-way streets are tough places to change direction.

But agility and speed aren’t enough if you don’t’ calibrate where it’s taking you. Just because you’re picking up speed doesn’t mean you’re not going downhill fast…

Don’t Just Fail Fast – Act Fast: Fast Enough to Keep Your Options Open

Always fess up to failure faster than you celebrate success. Act fast enough to keep your options open. Cash is king for a reason. Without it, you have no option but to be out of business. Don’t be afraid to cut back your expenses, reduce cash burn and de-risk fast enough to live another day.

If you’re not seeing a market turn from you pushing to customers pulling, or you’re not getting cycles of return on your investment, cut fast and deep enough to open up your options. And one cut is so much better than the death of a thousand cuts. Once you learn what’s working you can always build back, but if you’re out of cash, you’re out of options. Learning from failure is great, but sadly, I rarely hear entrepreneurs say they acted fast enough when they were failing.

Glitch started out as a failed multiplayer online game. But Stewart Butterfield conserved $6m of cash through fast action. Out of that, Slack, a corporate messaging app was born. After just over a year it boasts 750,000 daily active users, making it one of the fastest-growing business apps of all time. Investors just invested $160m at a $2.8B valuation.

Pivot is usually the default action I hear…

Don’t just Pivot, Persist, Pause, or Fast Forward!

As much as I love the lean methodology, Pivot should be no more a default answer than every problem’s solution is a nail because you have a hammer.

Knowing when to persist because you’ve simply not executed well is fundamental.

“Never confuse a single defeat with a final defeat.”

Scott Fitzgerald

Learning to “pause” because your data is inconclusive or inconsistent shows good leadership. As does “fast-forwarding” when you’re proving success. All these are critical skills of good entrepreneurs.

Example Decision Potential actions
  • The market was a mirage
  • Product was in search of a market
Pivot
  • Skip the ideas, define the pain/need opportunity/problem first,
  • See how here
  • Customer needs not met
  • The segment was not defined tightly
Persist
  • Data inconclusive
  • Inconsistent results
  • Instinct not proving out
Pause
  • redefine experiment,
  • refine test/measurement
  • re-question assumptions
  • Repeated product-market fit
  • Predictable business model
Fast Forward
  • Invest to capture market leadership. (It is disproportionately highly valued)

On this last point, failure can actually be moving too slowly and missing the opportunity. If your market is responding and your business model is working you’ve found the Fast Forward button. Use it! (See how to decide when it’s time to Scale your Startup)

Great entrepreneurs do the work, collect the data, pour over the numbers, analyze the results and check their assumptions and, of course, use their instinct and vision before they make the thoughtful choices between Pivoting, Persisting, Pausing or even Fast Forwarding. And don’t forget the value of patience.

Acknowledge the Difference Between Luck & Timing

Luck is a wonderful thing, and I hope you all find it. Whatever you do, learn to acknowledge it for what it is and separate it from judgment, execution, or anything else so you don’t fool yourself.

And equally, when you have bad luck don’t take it personally, and don’t let it get you down either or bemoan others for their good fortune. Chance is not a fair thing by definition. Be a shark, keep moving to feed yourself or risk becoming bait.

Expect the unexpected!
Several years after assuming a key IP agreement, one of my investments faced an apparently insurmountable lawsuit. They were so nearly out of business at one point that one of my partners declared them to be “in the zone of insolvency”! They were smart enough to conserve cash burn to turn the corner, win the suit and emerge as a multi-billion dollar public company recognized as a leader in their market today.

I have both featured in and seen this movie over and over again. Many great successes come through near bankruptcy, extinction, or apparent doom. Remember things are always darkest before the dawn.

Timing

Timing really can be everything in a startup. With typically several years to critical mass or exit, entrepreneurs need the vision to be able to get ahead of a market and time to innovate and build a solution to meet the market. Meet it too early and you’ll waste your precious resources, too late and you’ll be an “also-ran”. Miss a regulation and you could be out of business. As both an investor and entrepreneur I’ve seen all of these things happen, and they don’t signal failure – unless it was truly under your control.

“Our best success often come after our greatest disappointments”
– Henry Ward Beecher

Build a Team and Culture to Isolate and Turn Problems Into Opportunities

It’s hard to discern what is really failing when you’re working with a new team, building a new product, going after a new market, with new marketing campaigns, new sales programs to reach new customers, through new partners. And yet that’s just what I have to sort through in many board meetings. Any ONE of those things is hard enough.

Try to single out which of these things to focus on as you evaluate success, otherwise you can end up with a multi-dimensional, compounded problem to solve. Learn to isolate experimentation instead and build a culture to make problem-solving a core competency that can open up opportunities and build billions of dollars of value.

“It’s not that I’m so smart, it’s just that I stay with problems longer.”

– Albert Einstein

Cultures with Room for Failure Breed Success and Give Rise to Happy Accidents

The difference between success and failure is often cultural. Good cultures not only leave room for experimentation and problem solving they encourage it and the upside of accidents. 3M is famous for it. It’s also why Google has X, Adobe has KickStart and LinkedIn has an INcubator program.

Last but Definitely Not Least – in Fact, MOST Importantly…

If I’ve learned one thing it’s that all bets are off if you don’t learn to hire each person better than the last and bind them as a team with a strong culture. Time and again, the number one reason for success over failure is learning to hire and build an A+ team, that can snatch victory from the jaws of defeat.

That’s so important, we split this into two workshops on culture and hiring.


Failure is underrated. Creatively channeled, it is a powerful tool to encourage experimentation, create breakthroughs, navigate problems and create options for success. But failure has been overburdened. There need be no fear of failure if we speak to the risk, and manage expectations, there is no absolute failure, only learning. So let’s appreciate it for the experience it builds and utilize it fully to empower our future entrepreneurs!

Start now and celebrate the courage, resolve, and sacrifice it takes to be an innovator, an entrepreneur or join a startup to change our world.