“A startup is a temporary organization designed to search for a repeatable and scalable business model.” — Steve Blank
Nowadays, the internet is flooded with huge amounts of information about entrepreneurship that is available to us. Some of the most common concepts that we often come up with are:
- Startups are not smaller versions of large companies.
- Lean startup methodology.
- How to build startups that actually fail less.
- Pivot? What?
In this article, we are going to dive deeper into these statements and concepts to shed true light over the misinterpreted information that is out on the web.
1. What We Know About Startups
The very first thing we may learn from the internet that is actually correct is that startup is not a smaller version of a large company. Then what it is.
It took decades to get down to a simple definition.
A startup is a temporary organization that has an innovative idea, product or service, and is designed to search for a repeatable and scalable business model.
Now these couple of sentences are fraught with meaning.
- A startup is a temporary organization. What does that mean? Well, the goal of a startup is not to be a startup.
The goal of a startup is eventually to be a large company!
- It has to have an innovative idea of a product or service. You can learn more about innovation here.
- Designed to search. That means that a startup is not just designed to write code or build hardware, not even get orders. A startup is actually searching for a set of things.
What are those set of things?
- Those set of things cascade down to repeatability and scalability. The former means that what you did on Monday has to work on Wednesday and has to work next week and next month and next year and also could be taught to other people.
The latter means if I put a dollar into your company, I want to see multiple dollars coming out. Saying search for something repeatable and scalable, means searching for a repeatable and scalable business model.
I’m searching for what’s the right value proposition. That is:
- What’s the right product and service offering I have?
- Who are the right customer segments?
- What’s the right distribution channel: right way to create demand?
- What are the right revenue streams, meaning revenue model and pricing,
- Who are the right partners?
- What kind of resources do I need, what kind of activities, and what are my costs?
This is what the search for a startup is all about. And that’s what the definition of a startup is. I’m searching for a repeatable and scalable business model.
So one of the interesting things about startups is that we have only one word to describe the kind of a business – a startup.
After you have your innovative idea, you need to think of the market you want to enter. There are four types of markets that you as a startup founder need to know about – existing market, new market, resegmented market, low cost, or niche, and clone market.
- Existing market. What’s is it? It is exactly what it sounds like.
There are users and there are competitors. There’s also a channel and known ways of creating a demand for you product.
The users could tell you the basis of competition, be it the price, performance, service or something else. Moreover, if you want to do customer discovery, you could actually go out and talk to those users.
In an existing market life is great. Life is great for customer development. Life is great for you.
From the very first day, your job is to take away the market share from the incumbents or other competitors. To do this you will need a strategy. You can plot out your revenue plan, based on the way you do product launches or big bang launches. For example, you want the press or blogosphere to know all about you because you want to create demand and you want to shove it into your sales channel all on day one.
- New market is where there are no users, neither any competitors. In fact, you’ve invented something so new that you have to spend 20 minutes describing the future to someone else.
The good news is you might be right, but the bad news is that it makes customer discovery harder.
While you still may want to get outside of the building, you can no longer ask people direct questions regarding whether they like specific feature or not.
Firstly, you need to understand how they spend a typical day in their life now and what’s the world going to be like after you change it for them. There’s no channel partners that will grab it out of your hand. You need to understand whether these eventually might be the right partners.
Secondly, you need to figure out how you will acquire customers over time.
Most importantly, you need to understand that your revenue will be flat for the first couple of years until the market adopts. This is the conical hockey stick graph of what finances look like in a new market. Flat, flat, flat and if you’re lucky there will be some tipping point.
Why it is really important to understand the distinctions between these two types of markets is that the cash that you require for an existing market is very different than the cash and the time and investment you need in a new market.
- Resegment an existing market. Target an existing market, take your value proposition and look into competition.
Let us the discus this case: you might find a big player in the market. Attacking them head-on might actually be suicidal. Just because there’s a heuristic that says you need about four times the sales and marketing budget of an incumbent to win over an existing market, doesn’t mean you have to write the epilog of your business.
Therefore, you may want to come up with some other strategies.
You may think that you can create the 80% of the features for 20% of the cost by getting the product produced overseas. This approach could provide you a safe entrance into an existing market.
On the other hand, you might decide that you already know a lot about a segment in that existing market that the incumbents just aren’t addressing. They might have a generalized platform while you know more about that niche that’s strong enough for you to attack with a dedicated set of features or service or combination.
- Finally, if you’re outside the U.S. another market type is to clone an existing U.S. business model. If you’re in a country that has a population of 100 million with regulatory and language barriers, you could take a U.S. business model, adapt it, and implement it in your country or region.
2. Startups Versus Big Companies
It turns out there are a couple of key differences between what you do in large company and what you do in a startup. What we do in sales in a large company is very different from how we approach sales in a startup. How we think about accounting versus metrics in a startup are different. How we deal with product management versus customer development, how we deal with business plans versus business models. All of these are different. Let me tell you how.
It turns out that in large companies we have a series of knowns:
- We know who our customers are,
- We know who our channel is,
- We know our competitors,
- We know our pricing,
- We know a ton of stuff.
And it’s very simple to just get out of the building and ask the existing customers what is the next feature you’d like or what’s the next product. And we could do a pretty good job putting together a business plan for a next-generation product. So there’s a series of knowns.
However, for a startup it’s a series of unknowns. We really don’t understand our customers because we don’t have any. We don’t understand pricing. All of these are guesses.
Therefore putting together a plan, especially with a five-year forecast, is again, a faith-based enterprise. In fact, a five-year plan on unknowns is incalculable. Thus, in startups we tend to use business models where we could test hypotheses rather than business plans that take us to ultimate execution right away.
For the last 100 years business schools have built all these tools and strategies on execution. That’s what the Masters of Business Administration was created for. But we really had no language or no tools for search.
In fact, we really didn’t even understand the distinctions strategically between large companies and startups. We kind of understood them when they happened, but we really didn’t understand, you know, how they differed.
Let me give you a couple of examples.
In a large corporation you can’t run a company without knowing accounting, income statement, balance sheet, cash flow. All of those are essential to know.
On the other hand, I remember in a startup, every six weeks my board would ask for income statement, balance sheet and cash flow. And I would fill it out. And for the first board meeting, the income statement would say zero. But boy, was it formatted correctly? I would pass it across the table to my investors and they’d nod and look happy. Then we would have another board meeting and income statement would still say zero, but they again would be happy because it had looked correct. We would repeat this for a year and a half until I either had revenue or went out of business.
Never once did we perhaps ask that maybe these metrics, accounting metrics, were the wrong metrics to be talking about in a board meeting for an early stage venture. It turns out that in a startup you don’t want to do accounting, because there’s nothing to account for at first.
You want to worry about metrics that matter; you know, what’s the average time to close, what’s the acquisition cost, what’s the lifetime value, what’s the time for a first sale, what’s your average selling price. These are things that ultimately roll up to be accounting numbers. Thus, we can understand now that accounting in large companies is very different from the metrics that matter in the first year or two in a startup.
The other thing I discovered painfully is that the titles might be the same for operating execs but they are very different in their meanings.
Let me give you an example. I used to think that the world’s best thing you could do in a startup is to hire a vice president (VP) of sales or VP of marketing from a large corporation. How great can that be? In one of my companies, I kinda got accomplished my wish. I was able to hire a director of sales from Oracle, who is the top one percent club, world class guy. In fact, wonderful guy, very smart.
In our first couple of months of working together, we were trying out our new presentation, trying to discover whether customers actually liked what we were talking about. We were trying to discover a product-market fit.
We had just got thrown out of the fifth CIO’s office in a row. I mean, it was pouring rain and we were soaked. We get back into his car and, Jay, my new director of sales turned the car key.
-Jay, where you going?
-Steve, you hired me because we have thick skins. We’re world class salespeople. We’re going to go to the next call.
-Jay, we’re a startup. What we just did didn’t work five times in row. Don’t you think we ought to change what we’ve been doing?
-No, Steve. We just need to make another call, we’ll just power through this.
And so while we’re driving, I got out my laptop and I started typing.
–What are you doing, asked Jay.
– Jay, I’m changing the presentation, I replied. That obviously didn’t work.
The car almost goes off the road.
–You can’t do that, I’ve memorized this presentation, said Jay.
That idea is that a large company salesperson has to memorize a script and execute that script time and again. But as an entrepreneur, I realized that the script wasn’t working and that we needed to iterate or pivot and actually learn from those interactions. That distinction between large company execs knowing how to execute off of known price lists, known data sheets, known
customer lists. versus entrepreneurs trying to discover what they are. From first principles is the distinction between what that title of sales means in a large company and what it means in an early-stage venture. It also explains why large company executives typically melt down in their first startup.
In Silicon Valley the heuristic or the rule is you want to be the second startup to hire someone from a large company. Not because they’re dumb, but they need to relearn all the skills that are necessary in an early-stage venture.
Some of the other key distinctions between a large company and startup is having to be in engineering. In a large company you historically built the product by having a market requirements document and then you wrote a functional spec and then you gave it to engineering. Then they kind of locked themselves in a room for the next year with, you know, Diet Coke and candies and cookies, and kind of kept going for coding or building the hardware. You would then go to alpha test, beta test, first customer ship, and then finally ship the product and throw a big party.
The problem was, of course, this method for engineering a product, called waterfall development, meant that you never really got customer feedback until thousands of engineering hours were spent, tons of money and, more importantly, a tremendous amount of time gone. You would never know whether these features were needed or wanted until you were done.
In a startup what we do now is we build a product iteratively and incrementally. And the goal isn’t to ship the product. The goal is to ship the minimum piece called the minimum viable product (MVP) where we could actually get the most learning at this point in time.
Thus, the people who can manage large scale engineering projects for execution are very different than the type of people who are comfortable in managing just enough engineering for learning and discovery. Very key distinction between a VP of engineering and a startup head development is that the former will do waterfall development, have a QA department, as well as tech pubs department, while the latter will realize that getting things out quickly is what matters the most.
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