Slaying the Network Effect Dragon

You have a brilliant idea. There’s just one problem: there’s someone doing something similar, and they’re really entrenched. They command 80% of the market. They have much more capital than you, and a stronger brand. Yet, you believe that you can take them – because the way you solve the problem is better.

A famous venture capitalist, Paul Graham once said that a 10% better solution is not enough; for people to switch, your solution needs to be 10 times better. Lesser known, but absolutely brilliant Steven Sinofsky suggested that “10% better is 100% different” – a small delta is not good enough to change the behavior.

OK, let’s be honest here. Is your solution *really* 10 times better? You’re building a new photo sharing site. It’s fast, gorgeous, and so much more usable than Flickr. But is it 10 times better? How can you judge?..

Well, create a quantifiable metric or two. How long does it take to upload photos? How long does it take to view a 20-picture album? On a scale of 1 to 10, how would you rate the usability of each option?

I guarantee you, if you’re building a general-purpose photo sharing site, the measurements between you and Flickr are not going to be 10 times different. You’ll be somewhere between 10% and 50% better if you’ve done your job well.

So what now? There’s no way to build a better Flickr? Once someone captures 90% of the market, there’s no more innovation happening? That’s absurd!

Of course it’s absurd. Facebook overtook Myspace. Google ate Overture/Yahoo. Both of these marketplaces – social networking and search advertising – have HUGE network effects: the more clients you have, the better you can serve them, thus creating a barrier to entry for competitors.

What’s the secret, then? How did they do it? Did they create solutions that were 10 times better? I think you can answer this question yourself. Was facebook 10 times more usable than Myspace? Not 10 times, maybe 50% more usable because of a cleaner layout and streamlined workflows. Then HOW? HOW THE HECK DID THEY DO IT? And how do I do the same thing with Craigslist, Monster, Flickr, etc?

I’ve asked that same exact question to a deep thinker named Gary Flake. He gave me the most structured and comprehensive answer I’ve heard to date. There are two ways to break the entrenchment of a competitor in a marketplace with a strong network effect: bite off pieces of the long tail, or funnel an existing community into this new market.

1. Long Tail

Let’s start with the long tail. Craigslist is a general-purpose classified ads platform. Does it serve everyone equally well? Heck no, it serves everyone equally CRAPPY. Why? Because by definition, a general-purpose system does a mediocre job for everyone. How do you eat their lunch? Start with a system that targets a sub-section of their customers – a sub-section that’s heavily under-served.

Find Touch is an example of exactly this kind of business. Take a TINY niche – massage therapy jobs – and create a solution that is SUPER targeted at this exact scenario. Is THAT solution ten times better than craigslist for hiring massage therapists? Yes. Is Find Touch in general better than Craigslist for all other things? Heck no, it doesn’t even compete.

Gary continues to stipulate that once you’ve bitten off one piece of the long tail, you can continue along the same path – in case with Find Touch, jumping at adjacent, highly targeted areas like jobs for nail care techs, estheticians, hair stylists. Through laser focus, you are able to create an experience that’s RADICALLY better – and with a growing customer base, you will at some point find yourself wielding a sizeable chunk of your competitor’s customer base.

Gary likes to point out that Google did exactly the same thing with Overture/Yahoo around search advertising. One of the key promises of Yahoo/Overture to their client base was “exact match” – you pay only if the person using the search engine is looking for EXACTLY the thing you’ve bid on. Google said “we’ll go after the fringe – fuzzy matches.” With that new approach, they first got the most desperate of the advertisers (because fuzzy match was completely unproven, risky, and as some argued, a waste of money). Once they proved the idea, they were able to go after the entire marketplace – adding the mainstream (exact match) while popularizing their key competitive advantage to more and more of the clients, thus entrenching themselves even deeper. Fabulous win.

2. Funnel

When you have a successful product, and you’re entering another marketplace that’s in any way related to that product, you might be able to leverage that advantage to gain a head start on an entrenched competitor in that new market. What does this mean? If you’re a Redfin – you command a large audience in the real estate market – and you want to enter the mortgage marketplace game, you can funnel your existing client base towards your new business. You can argue that LendingTree.com has a HUGE customer brand in this space – and so do regular banks. But with a loyal audience that very much needs mortgages, Redfin can easily jump into this space and reap immediate returns.

Another example: think about Opera (a FANTASTIC browser that’s been around forever, but never really grew in popularity) versus Chrome. Google commands a tremendous customer base with Search. You might be surprised to hear this, but most non-techies think that a browser and a search engine is THE SAME THING, so the two products are quite complementary. Chrome took off like fire – yes, it was a good product, but the reason it was able to penetrate a market place that took FOREVER for Firefox to crack open was due to the funnel that Google created from their search business towards this new enterprise.

Next time you’re entering a marketplace with an entrenched competitor, think about biting off the long tail – and think about partnerships you can establish that will help you funnel a good-sized customer base into your new offering.

Emotional Connection with The Computer

OK, this article isn’t about virtual pets, Sim-girlfriends, or robots that cook better than your wife.This article is about why people buy Apple products, and what you need to do to create that same level of fanatical following for your company’s stuff.

iPhone is a killer device – and it’s successful not because of its features. Comparing to the ancient Windows Mobile phones or even the Zune, it completely sucks – no radio, application development platform is this Cocoa crap that’s a decade behind C# and Java.

The iPhone is successful because the things it does, it does *very* well. Every aspect of the user experience, every interaction is so polished, it feels like it was (1) designed by a single hand, and (2) was created by a true craftsman. The device creates an EMOTIONAL RESPONSE. I can’t help it but smile every time I drag my finger across the screen to switch to another page on the Home screen. The animation follows my phisycal action PERFECTLY. It does not miss a single frame.

Contrast this with the Android phones – same functionality is jagged and laggy. Apple has their damned walled garden, it’s expensive and tied to AT&T, the network provider almost everyone hates with passion. Yet, the iPhone is incredibly successful in the mainstream, among non-techies – and Android is popular with just the nerds.

Emotional connection is completely orthogonal to functionality. You can have a beautiful product – a product that evokes wows – that does NOTHING AT ALL. It will obviously be difficult to sell, I’m not recommending you build one – just realize that the two characteristics are very much separate.

Also, note that engineers by default tend to value functionality over polish – and that polish is exactly what makes the emotional connection. Click on the checkbox and wait half-a-second for it to become checked – no big deal in terms of functionality, right? HUGE deal in terms of customer perception. Most non-technies won’t even be able to quantify what makes them dislike a product, but they’ll say that it “didn’t feel polished” or “felt like yet another bleh product.” Invest your heart and soul into polish, and you’ll get the usability study participants to say “wow, this must have come from Apple.”

Here comes the rub: features and polish compete for your company’s resources. Unless you do something, features will always win. Your product will fall smack in the middle of the sea of mediocrity, evoking the same emotions as as average accounting spreadsheet.

With so many technologists ignoring the emotional aspect of the computing experience, I encourage you to think about it as your potential competitive advantage. It can create the level of loyalty that is fundamentally stronger than the dependency on your features. Microsoft had a tablet 5 years before the iPad; those tablets ran all of the applications on the Windows platform. Seemingly, a huge competitive advantage – a FEATURE advantage, a platform entrenchment that seems insurmountable. We all know how the iPad was able to gain serious market traction, even with this disadvantage to begin with.

So make the every N-th sprint of your development cycle a “polish” sprint. Refuse to take any features – have everyone running around with a fine comb, looking for ways to make your product beautiful, desirable, usable. Even better, hire dedicated User Experience people.

The Core Pillar That Drives Technologists

This article is about putting labels on people. If you’re a technologist – a nerd at heart – I’m going to put you into one of three categories. I’ll call them D, T, and P. I’ll explain what they are in the end.

D’s like beautiful code. They love complex algorithms, elegant systems, clever hacks. They thrive on discussing design patterns, threading, synchronization. They care about HOW something is built. They don’t care what the thing is – a microcontroller in the pacemaker that saves lives or a mission control system in a nuclear weapon.

P’s don’t give a crap about how something is built. They care about the customer’s pain. They almost *feel* this pain themselves, and this empathy drives every action they take. They want that pain to go away. They want the double entry to disappear. Seeing the “OH MY GOD THIS IS AMAZING!” expression in customer’s eyes is the ultimate goal for them. P’s don’t care if the way this was achieved was through copy-pasting the same stupid code snippet thirty times, creating an unmaintainable, ugly piece of code.

T’s like breaking things. From their early age, they found satisfaction – true, internal pleasure – in pushing the boundaries of our everyday objects. Any creative person might give you dozens of ways to use a paper clip in a few minutes. T’s will tell you how to break a paper clip –  and it will be quite a natural mental exploration for them. T’s just feel so snug inside when they can look at a piece of someone else’s work, and find a way to make it do unexpected things. T’s have a drive to prove their mental superiority over the creator of the product.

Fine, fine, this wasn’t a difficult puzzle. D’s are developers. P’s are PM’s, product managers (Microsoft calls them “Program Managers”). T’s are testers.

Here’s why understanding these core pillars might be useful: when you know what should drive a successful person in this role, you can interview for it.

Test. Don’t ask them whether they’ve written automation before. Ask them to list 50 ways to break an elevator.

Dev. Don’t ask a Dev whether what the difference between ShowDialog() and DialogBox() is. That trivia can be looked up in 30 seconds or less. Ask them a basic algorithmic question; ask them to code it in any language of their choice.

PM. Interview for empathy, and the ability to convert that empathy into designs. Ask them to design an ATM for a 5-year-old kid. Ask them to design a remote-control system for window blinds.

P.S. If you didn’t guess from the rest of this blog yet, I’m very much a PM. Most of the code I write is quite crappy – it’s a means to an end.

Hungry Artist Paints Way Better

When you are running a startup, it’s easy to imagine how great life is for the head honcho of the Microsoft Bing group. They have all the resources in the world available to them. The company is pouring money at them – BILLIONS every year! There are thousands of people working on the product! With that might, anything should be possible, right?..

You compare your tiny 20-person startup to Bing, and you feel inadequate. You’re worried about making payroll. Investors are holding you by the balls. You sort-of have market traction, and there are a lot of ideas, but you don’t have the resources to try most of them. Any mistake can be your last. You compare yourself to the giant Bing, that keeps pouring HUGE sums of money into every imaginable experiment, and are feeling like your constraints make you ineffective.

And here’s where I’ll jump in: Au Contraire. The constraints are making you MORE effective.

YOU are in a much better position. You’re a hungry artist, and you know that you have your butt on the line. Calculate your financial projections wrong, and you’ll run out of cash and won’t make payroll. The friends that you brought into your business – your *personal* friends – will not be able to pay their mortgage. Your *personal* reputation is on the line.

Since you’re desperate – hungry, constrained, call it whatever you want – you’ll become a maniac of perfectionism. You’ll POUR YOUR SOUL into every decision you make. The people on your team will do the same – if this company succeeds, each of you will be rich. If it doesn’t – and you’re on the clock here, seed money is running out – you all won’t be able to provide for your families. And will have a sad story to tell when interviewing for your next gig.

Let’s look at an example of what the lack of hunger can lead to.

First, it’s lack of commitment – when less is on the line, people tend to be less committed. Passionate people tend to do well and get better at their craft – and the lack of the passion often zeroes out all the other great qualities.

Second, it’s randomization. I’ll give you an example of what over-investing in product management will do. The core value of PM is to be the advocate for the user; they are the gatekeepers of end-to-end experiences. If you have too many PM’s for a product, then instead of owning large chunks and scenarios, you have each junior PM own a couple checkboxes. With this level of ownership, you get (a) zero motivation and (b) people start inventing work for themselves. And PM’s inventing work often leads to “running around with your heads cut off” for the entire organization – highly tactical efforts that don’t add up to a significant improvement in the end.

Third, it’s the famous Mythical Man Month effect. The larger an organization gets, the higher the communication costs. At some point, adding resources to a project makes it go SLOWER, not faster.

So the key phrase for me is “Strategic Under-Investment.” If you’re in a large organization with lots of resources, give people a little less resources than what they need. Force them to make tough choices.

So, rejoice and embrace your constraints. They are making you work harder, thus increasing the chance of your success. They are forcing you to make careful choices, all while facing accountability in the face of your personal friends. Just like with a hungry artist, your painting will be better.

Startup Factory

What do you do if your business succeeds? If you make up a startup, struggle for 7 years, and become the overnight success – suddenly exploding to a hundred people – what do you do?

You’re by no means Microsoft, and you’re most likely not Mint.com either. You’re probably in some niche business, and your customers love you – but you aren’t about to go public or be acquired by Google for $6B. You are, however, in a pretty good place – you’re no longer worried about making payroll or paying rent.

A new worry then enters your mind – I already have a golden egg; how do I make another golden egg and grow my business?

Or, look at another situation: imagine that you’re a successful company like Oracle. You have an entrenched position in a couple markets; you have established businesses that are bringing in over a billion dollars. Those are your “golden eggs.” The question again is, how do I make more of those golden eggs? How do I grow my business?

I’ll argue that by searching for golden eggs, you’re making a mistake already. You need to be looking for a goose that will lay those golden eggs. That goose is a framework for generating, vetting, and incubating ideas. That goose is an internal “startup factory.”

Let’s look at a standard way of going into new businesses.  You get together with your executives, brainstorm, and based on your gut – and, hopefully, a little bit of solid data – make a call on where you’ll go next. You then bet your farm on that idea – investing half of your company’s resources over the next product cycle into that idea.

But what if the idea was, ahem, dumb?.. What if you were wrong? Do you have a plan B?

Allow me to offer you an alternative – a framework of innovation I’ll call the “startup factory.” Here’s how it works:

1. Start with idea generation.

Once a quarter, have your engineers, product managers, and marketers drop whatever they are doing for ONE day. Obviously, don’t drop the ball on the urgent customer matters. Instead, plan for this “hack day” in advance and include it into your schedules. During the hack day, everyone is free to work on whatever they want. There are no management chains there; people are encouraged to self-organize by interest. The only requirement is that at the end of the day, they get to present their work at an informal all-hands – ideally, over beer.

You will be SHOCKED to see the kind of ideas that get presented. Your people WANT to innovate; they HAVE ideas, you just need to get out of their way for a day. They are so booked up with fires that they have no time to try out some of the bold ideas they’ve brewing. Some of those ideas will be truly revolutionary – unlike the “faster horse” asks you get from your clients, some of the ideas from your staff will be in the “build a car” realm.

I’m by no means an inventor of the “hack day” concept. It’s been mentioned in my favorite Autonomy, Mastery, and Purpose TED talk. Microsoft Live Labs called this exact concept an “out of the box week” (it was actually a week-long engagement there). Google’s 20% time is essentially the same thing – except that its ongoing nature makes it a lower priority for participants, thus reducing its effectiveness.

2. Create a funnel for ideas.

At the end of your Hack Day, have a committee of senior folks select three projects that will get “funded” to be incubated. Let the person who presented the idea run the effort – they’re by definition most excited about it. Give them some extra resources – one other person to bounce ideas off of. Then, allow them to leave their current job responsibilities – completely – for three months, so that they can incubate the idea.

WHAT? LET THEM LEAVE THEIR JOB FOR THREE MONTHS???… ARE YOU F#@ING CRAZY?!?!

Yeah, that’s exactly what I said. If your organization has such a strong tactical dependencies on any individual contributor that you can’t have them work on a strategic incubation for three months, you’re in trouble and long-term success should be at the end of your list. You’re about to see short-term failure when that person leaves.

3. Create accountability and an evaluation framework.

Your 2-person, shielded incubations have been running for 3 months. They’ve built some prototypes and demos. They’ve done some market research. They might have talked to some customers. They’ve been RUNNING THEIR OWN STARTUP within your company – a startup that’s on a short leash, a startup made out of the people that know your marketplace and are working on ideas that YOU have hand-picked.

Now it’s time to decide whether it makes sense to continue investment in any of these incubations.

Create an evaluation framework for your decision making. Try to be as specific as possible: Are we convinced in the market value enough? Do we think the roadblocks that were obvious have been researched enough? Before any of the projects are funded for this 3-month stint, make sure to advertise your decision-making framework broadly.

4. Make decisions on what to do with your incubations next.

I bet you anything that most of your incubations are going to fail for one reason or another. Why? Because luck was a HUGE factor in the initial success of your enterprise. Because 99% of the startups fail. Because most ideas turn out to be crap for one reason or the other.

Here are the good news: if at the end of these 3 months, you decide to kill an idea, it’s a GREAT THING. This means that you were convinced that something will work, ready to put a ton of money behind it, but you didn’t bet the farm on it – instead, you put something like 2% of your company’s resources behind it for 3 months. So now that the idea failed, your company’s existence is not in danger in any way.

Moreover, now, you have a plan B. You have 2 other ideas that you were pursuing in parallel. One of them might be the next big thing – all pieces of the puzzle will add up, and you’ll be so excited to finally throw all your company’s might behind it. AWESOME.

Let me recap the key benefits of the Startup Factory approach:

  • Generate groundbreaking ideas.
  • Incubate the most promising ones – without risking your entire business – and evaluate these incubations.
  • Build up internal expertise before major resources get assigned to the new idea, so that roadblocks can be discovered early, and tackled by a surgical team – instead of blocking progress for a bigger group.
  • Amazing effect on the morale. I won’t get tired of preaching Autonomy, Mastery, and Purpose. This framework hits on all three.
  • Entrepreneurial growth of your employees. When running a 3-month incubation, your employees get to wear many hats – working as mini-CEO’s for that project. Don’t be surprised when an engineer starts understanding marketing much better after this 3-month stint.

A couple other intuitive ways to look at this framework:

  • Startup factory is really about diversification of seed investment – something that VC’s have been doing forever.
  • It’s an insurance policy that lowers your risk exposure by gradually increasing the investment over time – instead of the binary 0 to 1 change, you slowly move the dial from 0 to 0.1 to 0.5 to 1. Like any insurance policy, you pay a little upfront to get its benefits.

Go create a golden goose in your own organization and watch it lay golden eggs for you.

The Whole Is More Than the Sum of the Parts

Aristotle suggested that the whole of a system – be it a human body, an organization, or a device – is more than the sum of the parts. Most recently, a brilliant gentleman named Gary Flake* has been applying this same concept to information that surrounds us.

Every day, we’re inundated with massive amounts of data. Picking a vacation destination (hundreds of options). Picking a puppy for the kid (hundreds of breeds). Buying a holiday gift (millions of options).

How do you make these choices? I’ll make a bet:

  • Start with a couple options that you heard about from your friends.
  • Google those options, read some webpages, read about them on Wikipedia.
  • Read reviews on other sites, keep a few tabs open in your browser at once, compare-and-contrast a couple options.
  • Find a few new options – maybe because they have good reviews – and add those to the mix.
  • If you’re like me, rinse and repeat the last two steps for 3 hours.
  • Finally, make your purchase.

Here’s a question for you: what are you really doing during that research phase? You’re looking for a needle in a haystack of options. You have a mental model – Plato’s Form of what the ideal option is – and you keep sifting through the dataset, one item at a time, comparing each item against the ideal.

There are problems with this approach: it takes forever, it leaves HUGE gaps in your data analysis, and it leaves you frustrated with the process – and frequently, the result.

How can we make this better? Flake’s answer: by merging the concepts of browse and search together. Let’s look at the puppy breed task in detail. Typical Google search is fantastic for finding an answer, not outlining the shape of the landscape that you’re unfamiliar with. Thus, when you search for a specific breed, you’ll quickly find a Wikipedia page about that breed – with pictures for it. But how can you find other breeds like it? Does this breed live long or not – it’s really impossible to tell, without being a subject matter expert, whether 12 year life expectancy is a lot or a little.

What we’re really want to do is to see the data as a whole. ALL breeds at once, not just one breed. With that, patterns will pop: hmmm, 12 years is about average for all dog breeds. Hmmm, small dogs tend to live longer. There’s no way to find that insight from individual Wikipedia pages describing the dog breeds. Even if you were to read every one of those pages, you couldn’t keep every detail in memory – thus, missing out on important trends in the data.

Let’s look at a website that almost delivers on this promise: Amazon. Search for a digital camera inside the Electronics department; you’ll see a bunch of pages of results. Here’s a key, though: on the left side, you’ll notice some characteristics of the ENTIRE dataset. Those characteristics make some non-obvious things pop: Panasonic is in the Top 3 manufacturers, I didn’t even know they made digital cameras; products are evenly distributed across the 1 to 5 star review scale. WOW, cool – now that I know this, I can (1) trust the review system – people don’t just rate everything 5 stars and (2) buy myself a Panasonic camera, because they’re my “trusted brand.”

See how by looking at the forest, I was able to approach my selection from a completely different angle? I narrowed in on a subset of the data through a holistic, systemic analysis. This is profoundly different from the haphazard approach of “reading the reviews on the top 5 search results” that we’re so accustomed to today.

Moreover, another pattern becomes possible: when you saw the forest, noticed an outlier, and learned about it, you can jump back out and expand your query in brand new directions. Wait, that Panasonic camera is WAY cheaper than I expected an SLR to be… Are there other SLR’s in the price range where I’m not even looking?..

This type of interaction – combining search and browse – allow you to consume the dataset as a whole. And the whole finally becomes more than just the sum of the parts. If you found this at all curious, I encourage you to look at this 6-minute TED video and this project called PivotViewer.

*Full disclosure: Gary Flake has been my boss for two years. The intent of this article isn’t about ass-kissing – he is no longer my boss. He’s not even in the same company.

A niche that’s bigger than a green field

I don’t believe in Facebook.

No, let’s try it again – I don’t believe in YOU being able to create another Facebook. Don’t get me wrong, it’s not you – I can’t make one either. And it’s not because we’re dumb – it’s because facebook solves no particular problem at all. Nobody had a need that facebook solved. Nobody was begging for it, crying about millions of wasted dollars that could have been saved if only facebook was there. Since there was no need, the chance of facebook ever succeeding was basically zero.

Yes, this post is about finding your niche.

Let’s start debunking one of the most famous myths in entrepreneurship: the need for a “large enough pie.”

“My product is applicable to every adult on the planet! If we’re even mildly successful, we’ll be able to sell to just ONE PERCENT! And that’s amounts to a billion dollars a minute!..”

Fine, I promise you – no more exaggerations for a couple minutes.

Admit it, though: you’ve heard some version of this pitch, with similar numbers that seemed so believable. A product that aims to serve everyone serves noone. If you are creating something that truly everyone can use, it is by definition so shallow in its usefulness that noone will extract serious value out of it and pay you for it. And don’t bring up the iPhone as a counter-example – it’s not a product created from scratch. It’s a product created by people who’ve been making similar products for a decade, with a multi-billion-dollar investment.

If you’re lucky, you’ll create Mint.com.

Let’s look at Mint and why they’re successful. They chose a TINY niche – personal finance – where people were really struggling. Existing solutions cost money and were incredibly clunky; there was more than enough research suggesting that individuals that track their finances tend to be better off in the long run. The public had a need and a want; creators of Mint didn’t have to make one up for them. Their product took off like fire – a typical seven-year overnight wonder.

Why? It is much easier to sell something that people *already have a need for* than convince them that they have a need, and then sell them your snow in winter. Do people *need* a fart app? Do they have some sort of mental gas that they need to pass?..

Contrast this with a coloring book kids app that my friend makes, Colorama. People have a need to keep their kid busy when they’re in a social setting. That need doesn’t need to be explained – it’s obvious to the parents. The simple app my friend built just capitalizes on that need – a very niche need, that is – and simply delivers on this very narrow promise.

I’ll claim that the narrower the need, the easier it is to satisfy. And the happier the people will be with your product in the end.

I’ll also claim that there are unmet needs – small needs – everywhere you look. From scheduling software in your dentists’ office, to a yield management system for the nearby restaurant, to organic/fair trade coffee shop in your neighborhood.

Moreover, these small needs have another characteristic: the solutions frequently need no capital to start. Your customers are right there, just talk to them. Start your company as a consulting business if you have to. Do you know what most consumer-focused startups would pay for a customer that’s telling them how much they need their product – and is willing to pay for it?..

Who cares that your product doesn’t have a potential to be a billion dollar business? Who cares, seriously? Are you telling me that you won’t be happy with 10 million? 50 million? Because mint.com was sold to Intuit for $170 mil. Not too shabby, huh?