And if you are indeed building one, did you ask yourself the Engineering Question, the Timing Question, the Monopoly Question, the People Question, the Distribution Question, the Durability Question, and the Secret Question?
Lots of notes from Zero to One by Peter Theil. Lot of contrarian thinking and thoughtful advice. Make sure you read this only when you have a good thirty minutes to spend.
A Good Question
Whenever I interview someone for a job, I like to ask this question: “What important truth do very few people agree with you on?”. This question sounds easy because it’s straightforward. Actually, it’s very hard to answer. It’s intellectually difficult because the knowledge that everyone is taught in school is by definition agreed upon. And it’s psychologically difficult because anyone trying to answer must say something she knows to be unpopular. Brilliant thinking is rare, but courage is in even shorter supply than genius.
Most commonly, I hear answers like: “Our education system is broken,” “American is exceptional,” “There is no God.”
A good answer takes the following form: “Most people believe in X, but the truth is the opposite of X.” Most answers are different ways of seeing the present; good answers are as close as we can come to looking into the future.
The Future of Progress
When we think about the future, we hope for a future of progress. That progress can take one of two forms. Horizontal or extensive progress means copying things that work — going from 1 to n. Horizontal progress is easy to imagine because we already know what it looks like. Vertical or intensive progress means doing new things — going from 0 to 1. Vertical progress is harder to imagine because it requires doing something nobody else has ever done. If you take one typewriter and build 100, you have made horizontal progress. If you have a typewriter and build a word processor, you have made vertical progress.
At the macro level, horizontal progress is globalisation — taking things that work somewhere and making them work everywhere. China is the paradigmatic example of globalisation. The Chinese have been straightforwardly copying everything that has worked in the developed world.
The single word for vertical, 0 to 1 progress is technology. Not necessarily limited to computers. Properly understood, any new and better way of doing things is technology.
My own answer to the contrarian question is that most people think the future of the world will be defined by globalisation, but the truth is that technology matters more. Without technological change, if China doubles its energy production over the next two decades, it will also double its air pollution. Spreading old ways to create wealth around the world will result in devastation, not riches. In a world of scarce resources, globalisation without new technology is unsustainable.
Startup Thinking
New technology tends to come from new ventures — startups. Small groups of people bound together by a sense of mission have changed the world for the better. The easiest explanation for this is negative: it is hard to develop new things in big organizations, even harder to do it by yourself. Bureaucratic hierarchies move slowly, and entrenched interests shy away from risk. In the most dysfunctional organizations, signaling that work is being done becomes a better strategy for career advancement than actually doing work (if this describes your company, you should quit now). At the other extreme, a lone genius might create a classic work of art or literature, but he could never create an entire industry. Startups operate on the principle that you need to work with other people to get stuff done, but you also need to stay small enough so that you actually can.
Positively defined, a startup is the largest group of people you can convince of a plan to build a different future. A new company’s most important strength is new thinking: even more important than nimbleness, small size affords space to think. This book is about the questions you must ask and answer to succeed in the business of doing new things: what follows is not a manual or a record of knowledge but an exercise in thinking. Because that is what a start-up has to do: question received ideas and rethink business from scratch.
Dotcom bubble — Lessons to ignore!
The entrepreneurs who stuck with Silicon Valley learned four big lessons from the dot-com crash that still guide business thinking today.
- Make incremental advances: Grand visions inflated the bubble, so they should not be indulged. Anyone who claims to be able to do something great is suspect, and anyone who wants to change the world should be more humble. Small, incremental steps are the only safe path forward.
- Stay lean and flexible: All companies must be “lean,” which is code for “unplanned.” You should not know what your business will do; planning is arrogant and inflexible. Instead, you should try things out, “iterate,” and treat entrepreneurship as agnostic experimentation.
- Improve on the competition: Don’t try to create a new market prematurely. The only way to know you have a real business is to start with an already existing customer, so you should build your company by improving on recognisable products already offered by successful competitors.
- Focus on product, not sales: If your product requires advertising or salespeople to sell it, it’s not good enough. Technology is primarily about product development, not distribution. Bubble-era advertisements was obviously wasteful, so the only sustainable growth is viral growth.
These lessons have become dogma in the startup world; those who would ignore them are presumed to invite the justified doom visited upon technology in the great crash of 2000. And yet the opposite principles are probably more correct.
- It is better to risk boldness than triviality
- A bad plan is better than no plan
- Competitive markets destroy profits
- Sales matter just as much as product
To build the next generation of companies, we must abandon the dogmas created after the crash. That doesn’t mean the opposite ideas are automatically true: you can’t escape the madness of crowds by automatically rejecting them. Instead ask yourself: how much of what you know about business is shaped by mistaken reactions to past mistakes? The most contrarian thing of all is not to oppose the crowd but to think for yourself.
MONOPOLY IS THE CONDITION OF EVERY SUCCESSFUL BUSINESS
PERFECT MONOPOLY AND COMPETITION
“Perfect Competition” is considered both the ideal and default state in Economics 101. Every firm in a competitive market is undifferentiated and sells the same homogenous products. Since no firm has any market power, they must all sell at whatever price the market determines (aka American Airline industry). If there is money to be made, new companies will enter the market, increase supply, drive prices down, and thereby eliminate the profits that attracted them in the first place. Under perfect competition, in the long run no company makes an economic profit.
The opposite of perfect competition is monopoly. A monopoly owns its market, so it can set its own prices. We are not interested in illegal bullies or government favorites: by “monopoly,” we mean the kind of company that’s so good at what it does that no other firm can offer a close substitute. Google is a good example that went from 0 to 1: it hasn’t competed in Search since early 2000’s.
Americans mythologize competition and credit it with saving us from socialist bread lines. Actually, capitalism and competition are opposites. Capitalism is premised on the accumulation of capital, but under perfect competition all profits get competed away. The lesson for entrepreneurs is clear: if you want to create and capture lasting value, don’t build an undifferentiated commodity business.
MONOPOLY LIES
Monopolists lie to protect themselves. They know that bragging about their great monopoly invites being audited, scrutinized, and attacked. Since they very much want their monopoly profits to continue unmolested, they tend to do whatever they can to conceal their monopoly — usually by exaggerating the power of their (non-existent) competition.
COMPETITIVE LIES
Non-monopolies tell the opposite lie: “we are in a league of our own.” Entrepreneurs are always biased to understate the scale of competition, but that is the biggest mistake a start-up can make. The fatal temptation is to describe your market extremely narrowly so that you dominate it by definition.
Starting a new South Indian restaurant is a really hard way to make money. If you lose sight of competitive reality and focus on trivial differentiating factors — may be you think your naan is superior because of your great-grandmother’s recipe — your business is unlikely to survive. The bigger problem is that you have an incentive not to ask the hard questions.
Non-monopolists exaggerate their distinction by defining their markets as the intersection of various smaller markets:
British Food (int) Restaurant (int) Palo Alto
Monopolists, by contrast, disguise their monopoly by framing their market as the union of several large markets.
Search Engine (uni) Mobile Phones (uni) Wearable Computers (uni) Self-driving cars
RUTHLESS PEOPLE
The problem with a competitive business goes beyond lack of profits. You will need to squeeze out every efficiency. It pushes people toward ruthlessness or death.
A monopoly like Google is different. Since it doesn’t have to worry about competing with anyone, it has wider latitude to care about its workers, its products, and its impact on the wider world. In business, money is either an important thing or it is everything. Monopolists can afford to think about things other than making money; non-monopolists can’t. In perfect competition, a business is so focussed on today’s margins that it can’t possibly plan for a long term future. Only one thing can allow a business to transcend the daily brute struggle for survival: monopoly profits.
MONOPOLY CAPITALISM
So, a monopoly is good for everyone on the inside, but what about everyone on the outside? Do outsized profits come at the expense of society? Actually, yes: profits come out of customers wallets, and monopolies deserve their bad reputation — but only in a world where nothing changes.
The world we live in is dynamic: it’s possible to invent new and better things. Creative monopolists give customers more choices by adding entirely new categories of abundance to the world. Creative monopolies just aren’t good for the rest of society, they are powerful engines for making it better.
Even the Govt knows this: thats why one of its departments works hard to create monopolies by granting patents to new inventions. The dynamism of new monopolies itself explains why old monopolies don’t strangle innovation. With Apple’s iOS at the forefront, the rise of mobile computing has dramatically reduced Microsoft’s decade-long OS dominance.
If the tendency of monopoly businesses were to hold back progress, they would be dangerous and we’d be right to oppose them. But the history of progress is a history of better monopoly businesses replacing incumbents.
So, why are economists obsessed with competition as an ideal state? It’s a relic of history. In the real world outside economic theory every business is successful exactly to the extent that it does something others cannot. Monopoly is therefore not a pathology or an exception. Monopoly is the condition of every successful business.
IF YOU CAN RECOGNISE COMPETITION AS A DESTRUCTIVE FORCE INSTEAD OF A SIGN OF VALUE, YOU’RE ALREADY MORE SANE THAN MOST
Creative monopoly means new products that benefit everybody and sustainable profits for the creator. Competition means no profits for anybody, no meaningful differentiation, and a struggle for survival. So why do people believe that competition is healthy? The answer is that competition is not just an economic concept or a simple inconvenience that individuals and companies must deal with in the marketplace. More than anything else, competition is an ideology — the ideology — that pervades our society and distorts our thinking. We preach competition, internalise its necessity, and enact its commandments; and as a result, we trap ourselves within it — even though the more we compete, the less we gain.
This is a simple truth, but we’ve been all trained to ignore it.
Our educational system both drives and reflects our obsession with competition. Grades themselves allow precise measurement of each student’s competitiveness; pupils with the highest marks receive status and credentials. We teach every young person the same subjects in mostly the same ways, irrespective of individual talents and preferences. Students who don’t learn best by sitting still at a desk are made to feel somehow inferior, while children who excel on conventional measures like tests and assignments end up defining their identities in terms of this weirdly contrived academic parallel reality.
And it gets worse …
And it gets worse as students ascend to higher levels of the tournament, Elite students climb confidently until they reach a level of competition sufficiently intense to beat their dreams out of them. Higher education is the place where people who had big plans in high school get stuck in fierce rivalries with equally smart peers over conventional careers like management consulting and investment banking. For the privilege of being turned into conformists, students (or their families) pay hundreds of thousands of dollars in skyrocketing tuition that continues to outpace inflation.
Why are we doing this to ourselves?
WAR AND PEACE
Professors downplay the cut-throat culture of academia, but managers never tire of comparing business with war. War metaphors invade our everyday business language: we use headhunters to build up a sales force that will enable us to take a captive market and make a killing. But really it’s competition, not business, that is like war: allegedly necessary, supposedly valiant, but ultimately destructive.
Why do people compete with each other?
Marx and Shakespeare provide two models for understanding almost every kind of conflict.
According to Marx, people fight because they are different. The proletariat fight the bourgeoisie because they have completely different ideas and goals (generated, for Marx, by their very different material circumstances). The greater the differences, the greater the conflict.
To Shakespeare, by contrast, all combatants look more or less alike. It’s not at all clear why they should be fighting, since they have nothing to fight about. Consider the opening lines of Romeo and Juliet: “Two households, both alike in dignity.” The two houses are alike, yet they hate each other. They grow even more similar as the feud escalates. Eventually, they lose sight of why they start fighting in the first place.
In the world of business, at least, Shakespeare proves the superior guide. Inside a firm, people become obsessed with their competitors for career advancement. Then the firms themselves become obsessed with their competitors in the marketplace. Amid all the human drama, people lose sight of what matters and focus on their rivals instead.
Rivalry causes us to overemphasise old opportunities and slavishly copy what has worked in the past. Case in point: recent proliferation of mobile credit card readers.
The hazards of imitative competition may partially explain why individuals with an Asperger’s like social ineptitude seem to be at an advantage in Silicon Valley today. If you are less sensitive to social cues, you’re less likely to do the same things as everyone else around you.
Competition can make people hallucinate opportunities where none exist. The crazy 90’s version of this was the fierce battle for the online pet store market. It was Pets.com vs PetStore.com vs Petunia.com vs what seemed like dozen other rivals. These companies totally lost sight of the wider question of whether the online pet supply market was the right space to be in. Winning is better than losing, but everybody loses when the war isn’t worth fighting.
Other times, rivalry is just weird and distracting. Case in point: Shakespearean conflict between Larry Ellison and Siebel.
Sometimes you do have to fight. Where that’s true, you should fight and win. There is no middle ground: either don’t throw any punches, or strike hard and end it quickly. This advice can be hard to follow because pride and honour can get in the way.
For Hamlet, greatness means willingness to fight for reasons as thin as an eggshell: anyone would fight for things that matter; true heroes take their personal honour so seriously they will fight for things that don’t matter. This twisted logic is part of human nature, but it’s disastrous in business. If you can recognise competition as a destructive force instead of a sign of value, you’re already more sane than most.
TO SUCCEED, YOU MUST STUDY THE ENDGAME BEFORE EVERYTHING ELSE
For a company to be valuable, it must grow and endure, but many entrepreneurs focus only on short-term growth. They have an excuse: growth is easy to measure, but durability isn’t. Those who succumb to measurement mania obsess about weekly active user statistics, monthly revenue targets, and quarterly earnings reports. However, you can hit those numbers and still overlook deeper, harder-to-measure problems that threaten the durability of your business.
If you focus on near-term growth above all else, you miss the most important question you should be asking: will this business still be around a decade from now? Numbers alone won’t tell you the answer, instead you must think critically about the qualitative characteristics of your business.
CHARACTERISTICS OF MONOPOLY
What does a company with large cash flows far into the future look like? Every monopoly is unique, but they usually share some combination of the following characteristics. These aren’t a list of boxes you check as you build your business — there’s no shortcut to monopoly. However, analysing your business according to these characteristics can help you think about how to make it durable
1. PROPRIETARY TECHNOLOGY
Proprietary technology is the most substantive advantage a company can have because it makes your product difficult or impossible to replace. Ex: Google Search Algorithm. As a good rule of thumb, proprietary technology must be at least 10 times better than its closest substitute in some important dimension to lead to a real monopolistic advantage. Anything less than an order of magnitude better will probably be perceived as a marginal improvement and will be hard to sell, especially in an already crowded market.
The clearest way to make a 10x improvement is to invent something completely new. If you build something valuable where there was nothing before, the increase in value is theoretically infinite. Ex: a drug to safely eliminate the need to sleep or a cure for baldness.
Or you can radically improve an existing solution. PayPal, for instance, made buying and selling on eBay at least 10 times better. Amazon made its first 10x improvement in a particularly visible way: they offered at least 10 times as many books as any other bookstore.
You can also make a 10x improvement through superior integrated design. Ex: iPad.
2. NETWORK EFFECTS
Network effects make a product more useful as more people use it. Ex: Facebook.
Network effects can be powerful, but you’ll never reap them unless your product is valuable to its very first users when the network is necessarily small. If your technology have worked only at scale, it may not succeed.
Paradoxically, then, network effects businesses must start with especially small markets. Facebook started with just Harvard students. This is why successful businesses rarely get started by MBA types: the initial markets are so small that they often don’t even appear to be business opportunities at all.
3. ECONOMIES OF SCALE
Many businesses gain only limited advantages as they grow to large scale. Service businesses especially are difficult to make monopolies. A good startup should have the potential for great scale built into its first design.
4. BRANDING
Creating a strong brand is a powerful way to claim a monopoly. Ex: Apple, the strongest Tech brand today.
BUILDING A MONOPOLY
Brand, scale, network effects, and technology in some combination define a monopoly, but to get them to work, you need to choose your market carefully and expand deliberately.
START SMALL AND MONOPOLISE
Always err on the side of starting too small. The reason is simple. It’s easier to dominate a small market than a large one. Small, however, doesn’t mean non-existent. It is much easier to reach a few thousand people who really need your product than to try to compete for the attention of millions of scattered individuals.
The perfect target market for a startup is a small group of particular people concentrated together and served by few or no competitors. Any big market is a bad choice, and a big market already served by competing companies is even worse. This is why its always a red flag when entrepreneurs talk about getting 1% of a $100 billion market.
SCALING UP
Once you create and dominate a niche market, then you should gradually expand into related and slightly broader markets. Amazon showed how it can be done. The name itself brilliantly encapsulated the company’s scaling strategy. eBay also started by dominating small niche markets like small-time hobbyists.
DONT DISRUPT
Originally, “disruption” was a term of art to describe how a firm can use new technology to introduce a low-end product at low prices, improve the product over time, and eventually overtake even the premium products offered by incumbent companies using older technology. Ex: PCs on Mainframes. Then, Mobiles on PCs.
However, disruption has recently transmogrified into a self-congratulatory buzzword for anything posing as trendy and new. This seemingly trivial fad matters because it distorts an entrepreneur’s self-understanding in an inherently competitive way. If you think of yourself as an insurgent battling dark forces, it’s easy to become unduly fixed on the obstacles in your path. But if you truly want to make something new, the act of creation is far more important than the old industries that might not like what you create. Indeed, if your company ca be summed up by it’s opposition to already existing firms, it can’t be completely new and it’s probably not going to become a monopoly.
Disruption also attracts attention: disruptors are people who look for trouble and find it. Disruptive kids get sent to the principal’s office. Disruptive companies often pick fights they can’t win. Ex: Napster. The name itself means trouble!
As you craft a plan to expand to adjacent markets, don’t disrupt: avoid competition as much as possible.
THE LAST WILL BE FIRST
You’ve probably heard about “first mover advantage”: if you’re the first entrant into the market, you can capture significant market share while competitors scramble to get started. But moving first is a tactic, not a goal. What really matters is generating cash flows in the future, so being the first mover doesn’t do you any good if someone else comes along and unseats you. It’s much better to be the last mover — that is, to make the last great development in a specific market and enjoy years or even decades of monopoly profits. The way to do that is to dominate a small niche and scale up from there, toward your ambitious long-term vision. In this one particular at least, business is like chess. To succeed, you must study the endgame before everything else.
YOU ARE NOT A LOTTERY TICKET
The most contentious question in business is whether success comes from luck or skill. Malcolm Gladwell in Outliers declares that success comes from “a patchwork of lucky breaks and arbitrary advantages”. However, the phenomenon of serial entrepreneurship would seem to call into question our tendency to explain success as the product of chance.
If you believe your life is mainly a matter of chance, why read this book? Learning about startups is worthless if you’re just reading stories about people who won the lottery.
Far more important are the questions about the future: is it a matter of chance or design?
CAN YOU CONTROL YOUR FUTURE?
You can expect the future to take a definite form or you can treat it as hazily uncertain. If you treat the future as something definite, it makes sense to understand it in advance and to work to shape it. But if you expect an indefinite future ruled by randomness, you’ll give up on trying to master it.
Indefinite attitude to the future explains what’s most dysfunctional in our world today. Process triumphs substance: when people lack concrete plans to carry out, they use formal rules to assemble a portfolio of various options. This describes American’s today. In middle school, we are encouraged to start hoarding “extra-curricular” activities.” In high school, ambitious students compete even harder to appear omni-competent. By the time a student goes to college, he’s spent a decade curating a bewilderingly diverse resume to prepare for a completely unknowable future. Come what may, he’s ready — for nothing in particular.
A definite view, by contrast, favours firm convictions. Instead of pursuing many-sided mediocrity and calling it “well-roundedness,” she determines the one best thing to do and then does it. Instead of working tirelessly to make herself indistinguishable, she strives to be great at something substantive — to be a monopoly of one. This is not what young people do today, because everyone around them have long since lost faith in a definite world.
You can also expect the future to be either better or worse than the present. Optimists welcome the future; pessimists fear it. Combining these possibilities yields four views.
Indefinite Pessimism: An indefinite pessimist looks out into a bleak future, and he has no idea what to do about it. This describes Europe. Europeans now just react to events as they happen and hope things don’t get worse. All he can do is wait for it to happen, so he might as well eat, drink, and be merry in the meantime: hence Europe’s famous vacation mania.
Definite Pessimism: A definite pessimist believes the future can be known, but since it will be bleak, he must prepare for it. Perhaps, surprisingly, China is probably the most definitely pessimistic place in the world today. Every other country is afraid that China is going to take over the world: China is the only country afraid that it won’t. Every senior Chinese leader experienced famine as a child, so when the Politburo looks to the future, disaster is not an abstraction. The Chinese public, too, knows that winter is coming.
Definite Optimism: To a definite optimist, the future will be better than the present if he plans and works to make it better. From the 17th century through the 1950s and ’60s, definite optimists led the western world.
Indefinite Optimism: To an indefinite optimist, the future will be better, but he doesn’t know how exactly, so he won’t make any specific plans. He expects to profit from the future but sees no reason to design it concretely. Instead of working for years to build a new product, in-definite optimists rearrange already-invented ones. Bankers make money by rearranging the capital structures of already existing companies. Lawyers resolve disputes over old things. Management consultants don’t start new businesses; they squeeze extra efficiency from old ones with incessant procedural optimisations. It’s no surprise that these fields attract disproportionate numbers of high-achieving Ivy League optionality chasers; what could be a more appropriate reward for two decades of resume building than a seemingly elite, process-oriented career that promises to “keep options open”?
OUR INDEFINITELY OPTIMISTIC WORLD
INDEFINITE FINANCE
While a definitely optimistic future would need engineers to design underwater cities and settlements in space, an in-definitely optimistic future calls for more bankers and lawyers. Finance epitomises indefinite thinking because it’s the only way to make money when you have no idea how to create wealth. When you head to Wall Street, the fundamental tenet is that the market is random; you wouldn’t play in the markets if you expected to lose — but the fundamental tenet is that the market is random; you can’t know anything specific or substantive; diversification becomes supremely important.
In an indefinite world, people actually prefer unlimited optionality; money is more valuable than anything you could possibly do with it. Only in a definite future is money a means to an end, not the end itself.
INDEFINITE POLITICS
Take the electoral process of predicting who will win. We are more fascinated today by statistical predictions of what the country will be thinking in a few weeks’ time than by visionary predictions of what the country will look like 10 or 20 years from now.
And it’s not just the electoral process — the very character of government has become indefinite, too. The government used to be able to coordinate complex solutions to problems like atomic weaponry and lunar exploration. But today, after 40 years of indefinite creep, the government mainly just provides insurance; our solutions to big problems are Medicare, Social Security, and a dizzying array of other transfer payment programs.
INDEFINITE PHILOSOPHY
Check the book
INDEFINITE LIFE
Biotech startups are an example of indefinite thinking. Researchers experiment with things that just might work instead of refining definite theories about how the body’s systems operate. Biologists say they need to work this way because the underlying biology is hard. According to them, IT startups work because we created computers ourselves and designed them to reliably obey our commands. Biotech is difficult because we didn’t design our bodies, and the more we learn about them, the more complex they turn out to be.
But today it’s possible to wonder whether the genuine difficulty of biology has become an excuse for biotech startups’s indefinite approach to business in general. Most of the people involved expect some things to work eventually, but few want to commit to a specific company with the level of intensity necessary for success. It starts with the professors who often become part-time consultants instead of full-time employees — even for the biotech startups that begin from their own research. It’s easy for libertarians to claim that heavy regulation holds biotech back — and it does — but in-definite optimism may pose an even greater challenge for the future of biotech.
IS INDEFINITE OPTIMISM EVEN POSSIBLE?
What kind of future will our indefinitely optimistic decisions bring about?
Definite optimism works when you build the future you envision. Definite pessimism works by building what can be copied without expecting anything new. Indefinite pessimism works because it’s self-fulfilling: if you’re a slacker with low expectations, they’ll probably be met. But indefinite optimism seems inherently unsustainable: how can the future get better if no one plans for it?
It’s not clear that Darwinian biology (evolution; best iteration wins) should explain how to build a better society or how to create a new business out of nothing. Even in the engineering-driven Silicon Valley, the buzzwords of the moment call for building a “lean startup” that can “adapt” and “evolve” to an ever-changing environment. Would-be entrepreneurs are told that nothing can be known in advance: we’re supposed to listen to what customers say that they want, make nothing more than a “minimum viable product,” and iterate our way to success.
But leanness is a methodology, not a goal. Making small changes to things that already exist might lead you to a local maximum, but it won’t help you find the global maximum. Iteration without a bold plan won’t take you from 0 to 1. A company is the strangest place of all for an indefinite optimist: why should you expect your own business to succeed without a plan to make it happen? Darwinism may be a fine theory in other contexts, but in startups, intelligent design works best.
THE RETURN OF DESIGN
What would it mean to prioritise design over chance?
The most important lesson to learn from Steve Jobs has nothing to do with aesthetics. The greatest thing Jobs designed was his business. Apple imagined and executed definite multi-year plans to create new products and distribute them effectively. Forget “minimum viable products” — ever since he started Apple in 1976m Jobs saw that you can change the world through careful planning, not by listening to focus group feedback or copying others’ success.
Long-term planning is often undervalues by our indefinite short-term world.
Author extends this idea with an example of Yahoo’s proposal to buy Facebook. Check the book.
A business with a good definite plan will always be underrated in a world where people see the future as random.
YOU ARE NOT A LOTTERY TICKET
We have to find our way back to a definite future, and the Western world needs nothing short of a cultural revolution to do it.
A startup is the largest endeavour over which you can have definite mastery. You can have agency not just over your own life, but over a small and important part of the world. It begins by rejecting the unjust tyranny of Chance. You are not a lottery ticket.
THE POWER LAW OF VENTURE CAPITAL
VCs use a bland pattern — assemble a diverse portfolio and hope that winners counterbalance losers. But this “spray and pray” approach usually produces an entire portfolio of flops, with no hits at all.
If you focus on diversification instead of single-minded pursuit of the very few companies that can become overwhelmingly valuable, you’ll miss those rare companies in the first place.
The biggest secret in venture capital is that the best investment in a successful fund equals or outperforms the entire rest of the fund combined.
This implies two very strange rules for VCs. First, only invest in companies that have the potential to return the value of the entire fund. This is a scary rule, because it eliminates the vast majority of possible investments. This leads to rule number two: because rule number one is so restrictive, there can’t be any other rules.
VCs must find the handful of companies that will successfully go from 0 to 1 and then back them with every resource.
Whenever you shift from the substance of a business to the financial question of whether or not it fits into a diversified hedging strategy, venture investing starts to look a lot like buying lottery tickets. And once you think that you’re playing the lottery, you’ve already psychologically prepared yourself to lose.
WHAT TO DO WITH THE POWER LAW
The power law is not just important to investors; rather, it’s important to everybody because everybody is an investor. An entrepreneur makes a major investment just by spending her time working on a startup. Every individual is unavoidably an investor, too. When you choose a career, you act on your belief that the kind of work you do will be valuable decades from now.
The most common answer to the question of future value is “diversified portfolio.” Don’t put all your eggs in one basket! — everyone has been told. Even the best venture investors have a portfolio, but investors who understand the power law make as few investments as possible. Conventional portfolio thinking says the more you dabble, the more you ae supposed to have hedged against the uncertainty of the future.
But life is not a portfolio: not for a startup founder, and not for any individual. An entrepreneur cannot “diversify” herself: you cannot run dozens of companies at the same time and then hope one of them works out well. Less obvious but just as important, an individual cannot diversify his own life by keeping dozens of equally possible careers in ready reserve.
Our schools teach the opposite: institutionalised education traffics in a kind of homogenised, generic knowledge. Every high school course period lasts 45 minutes whatever the subject. Every student proceeds at a similar pace. At college, model students obsessively hedge their futures by assembling a suite of exotic and minor skills. Every university believes in “excellence,” and hundred-page course catalogs arranged alphabetically according to arbitrary departments of knowledge seem designed to reassure you that “it doesn’t matter what you do, as long as you do it well.” That is completely false. It does matter what you do. You should focus relentlessly on something you’re good at doing, but before that you must think hard about whether it will be valuable in the future.
SECRETS
Every one of today’s most famous and familiar ideas was once unknown and unsuspected. A conventional truth — like Pythagoras’s theorm — can be important — but it wont give you the edge. It’s not a secret.
Remember our contrarian question: what important truth do very few people agree with you on? If we already understand as much of the natural world as we ever will — if all of today’s conventional ideas are already enlightened, and if everything has already been done — then there are no good answers. Contrarian thinking doesn’t make any sense unless the world still has secrets let to give up.
Of course, some may be mysteries rather than secrets. The difference matters. You can achieve difficult things, but you can’t achieve the impossible.
Recall the business version of our contrarian question: what valuable company is nobody building? Every correct answer is necessarily a secret: something important and unknown, something hard to do but doable. If there are many secrets left in the world, there are probably many world-changing companies yet to be started. This chapter will help you think about secrets and how to find them.
WHY AREN’T PEOPLE LOOKING FOR SECRETS?
Incrementalism: From an early age, we are taught that the right way to do things is to proceed one very small step at a time, day by day, grade by grade. If you overachieve and end up learning something that’s not on the test, you won’t receive credit for it. But in exchange for doing exactly what’s asked of you (and for doing just a bit better than your peers), you’ll get an A. This process extends all the way up through the tenure track, which is why academics usually chase large numbers of trivial publications instead of new frontiers.
Risk Aversion: People are scared of secrets because they are scared of being wrong. By definition, a secret hasn’t been vetted by the mainstream. If your goal is to never make a mistake in your life, you shouldn’t look for secrets. The prospect of being lonely but right — dedicating your life to something that no one else believes in — is already hard. The prospect of being lonely and wrong can be unbearable.
Complacency: Social elites have the most freedom and ability to explore new thinking, but they seem to believe in secrets the least. Why search for a new secret if you can comfortably collect rents on everything that has already been done? Every fall, the deans of top law schools and business schools welcome the incoming class with the same implicit message: “You got into this elite institution. Your worries are over. You’re set for life.” But that’s probably the kind of thing that’s true only if you don’t believe it.
Flatness: As globalisation advances, people perceive the world as one homogenous, highly competitive marketplace: the world is “flat.” Given that assumption, anyone who might have had the ambition to look for a secret will first ask himself: if it were possible to discover something new, wouldn’t someone from the faceless global talent pool of smarter and more creative people have found it already? This voice of doubt can dissuade people from even starting to look for secrets in a world that seems too big a place for any individual to contribute something unique.
There’s an optimistic way to describe the result of these trends: you can’t start a cult. Forty years ago, people were more open to the idea that not all knowledge was widely known. Very few people take unorthodox ideas seriously today, and the mainstream sees that as a sign of progress. We can be glad that there are fewer crazy cults now, yet that gain has come at a great cost: we have given up our sense of wonder at secrets left to be discovered.
THE WORLD ACCORDING TO CONVENTION
A world without secrets would enjoy a perfect understanding of justice. Every injustice necessarily involves a moral truth that very few people recognise early on. At first, only a small minority of abolitionists knew that slavery was evil; but it was still secret in the early 19th century. To say that there are no secrets left today would mean that we live in a society with no hidden injustices.
In economics, disbelief in secrets leads to faith in efficient markets. But the existence of financial bubbles shows that markets can have extraordinary inefficiencies. And the more people believe in efficiency, the bigger the bubbles get.
Author sites and explains HP as a company that stopped believing in secrets and hence, stopped growing. He explains a board that restricted itself to a night watchman role: Was everything proper in the accounting department? Were people following all the rules?
THE CASE FOR SECRETS
You can’t find secrets without looking for them. If you think something hard is impossible, you’ll never even start trying to achieve it. Belief in secrets is an effective truth.
The actual truth is that there are many more secrets left to find, but they will yield only to relentless searchers. There is more to do in science, engineering, and in technology of all kinds. We could cure cancer. We can find new ways of generating energy that free the world from conflict over fossil fuels. We can invent faster ways to travel. We can even learn how to escape it entirely and settle new frontiers. But we will never learn any of these secrets unless we demand to know them and force ourselves to look.
The same is true of business. Great companies can be built on open but unsuspected secrets about how the world works. Before Airbnb, travellers had little choice but to pay high prices for a hotel room. And property owners couldn’t easily and reliably rent out their unoccupied space. Airbnb saw untapped supply and unaddressed demand where others saw nothing at all. The same is true of Lyft and Uber. Few people imagined it was possible to build a billion dollar business by simply connecting people who want to go places with people willing to drive them there.
Only by believing in and looking for secrets could you see beyond the convention to an opportunity hidden in plain sight. If insights that look so elementary in retrospect can support important and valuable businesses, there must remain many great companies still to start.
HOW TO FIND SECRETS
There are two kinds of secrets: secrets of nature and secrets about people.
Natural secrets exist all around us; to find them, one must study some undiscovered aspect of the physical world. Secrets about people are different: they are things that people don’t know about themselves or things they hide because they don’t want others to know.
So when thinking about what kind of company to build, there are two distinct questions to ask: What secrets is nature not telling you? What secrets are people not telling you?
It’s easy to assume that natural secrets are the most important: the people who look for them can sound intimidatingly authoritative. This is why Physics PhDs are notoriously difficult to work with — because they know the fundamental truths, they think they know all truths. But does understanding electromagnetic theory automatically make you a great marriage counsellor? Does a gravity theorist know more about your business that you do?
Secrets about people are relatively under-appreciated. Maybe that’s because you don’t need a dozen years of higher education to ask the questions that uncover them: What are people not allowed to talk about? What is forbidden or taboo?
Sometimes looking for natural secrets and looking for human secrets lead to the same truth. (…)
The best place to look for secrets is where no one else is looking. Most people think only in terms of what they’ve been taught; schooling itself aims to impart conventional wisdom. So you might ask: are there any fields that matter haven’t been standardised and institutionalised? Physics, for example, is a real major at all major universities, and it’s set in its ways. What about something like nutrition? Nutrition matters for everybody, but you can’t major in it at Harvard. Most top scientists go into other fields. We know more about faraway stars than we know about human nutrition. It won’t be easy, but it’s not obviously impossible: exactly the kind of field that could yield secrets.
WHAT TO DO WITH SECRETS
If you find a secret, you face a choice: Do you tell anyone? Or do you keep it to yourself? It depends on the secret: some are more dangerous than others. Unless you have perfectly conventional beliefs, it’s rarely a good idea to tell everybody everything that you know.
So who do you tell? Whoever you need to, and no more. In practice, there’s always a golden mean between telling nobody and telling everybody — and that’s a company. The best entrepreneurs know this: every good business is built around a secret that’s hidden from the outside. A great company is a conspiracy to change the world; when you share your secret, the recipient becomes a fellow conspirator.
Take the hidden paths!
Foundations
Every great company in unique, but there are a few things that every business must get right at the beginning.
A startup messed up at its foundation cannot be fixed.
Beginnings are special. They are qualitatively different from all that comes forward. This was true 13.8 billion years ago, at the founding of our cosmos; in the earliest microseconds of its existence, the universe expanded by a factor of a million trillion trillion. As cosmogenic epochs came and went in those first few moments, the very laws of physics were different from those we know today.
It was also true 227 years ago at the founding of our country: fundamental questions were open for debate by the Framers during the few months they spent together at the Constitutional Convention. How much power should the central government have? How should representation in Congress be apportioned? They have been hard to change ever since. We’ve amended the Constitution only 17 times since then. Today, California has the same representation in the Senate as Alaska, even though it has 50 times more people. Maybe thats a feature, not a bug.
Companies are like countries in this way. Bad decisions made early on — if you choose the wrong partners or hire the wrong people, for example — are very hard to correct after they are made. It may take a crisis on the order of bankruptcy before anybody will even try to correct them. As a founder, your first job is to get the first things right, because you cannot build a great company on a flawed foundation.
FOUNDING MATRIMONY
When you start something, the first and most crucial decision you make is what to start it with. Choosing a co-founder is like getting married, and founder conflict is just as ugly as divorce. Optimism abounds at the start of every relationship. It’s unromantic to think soberly about what could go wrong, so people don’t. But if the founders develop irreconcilable differences, the company becomes the victim.
Now, when I consider investing in a startup, I study the founding teams. Technical abilities and complementary skill sets matter, but how well the founders know each other and how well they work together matter just as much. Founders should share a prehistory before they start a company together — otherwise they’re just rolling dice.
OWNERSHIP, POSSESSION, AND CONTROL
It’s not just founders who need to get along. Everyone in your company needs to work well together. A Silicon Valley libertarian might say you could solve this problem by restricting yourself to a sole proprietorship. Freud, Jung, and every other psychologist has a theory about how every individual mind is divided against itself, but in business at least, working for yourself guarantees alignment. Unfortunately, it also limits what kind of company you can build. It’s very hard to go from 0 to 1 without a team.
A Silicon Valley anarchist might say you could achieve perfect alignment as long as you hire just the right people, who will flourish peacefully without any guiding structure.
Serendipity, and even free-form chaos at the workplace are supposed to help “disrupt” all the old rules made and obeyed by the rest of the world. And indeed, “if men were angels, no government would be necessary.” But anarchic companies miss what James Madison saw: men aren’t angels. That’s why executives who manage companies and directors who govern them have separate roles to play: it’s also why founders’ and investors’ claim on a company are formally defined. You need good people who get along, but you also need a structure to help keep everyone aligned for the long term.
To anticipate likely source of misalignment in any company, it’s useful to distinguish between three concepts:
Ownership: who legally owns a company’s equity?
Possession: who actually runs the company on a day-to-day basis?
Control: who formally governs the company’s affairs?
A typical startup allocates ownership among founders, employees and investors. The managers and employees who operate the company enjoy possession. And a board of directors, usually comprising founders and investors, exercises control.
In theory, this diversion works smoothly. Financial upside from part ownership attracts and rewards investors and workers. Effective possession motivates and empowers founders and employees — it means they can get stuff done. Oversight from the board places managers’ plans in a broader perspective. In practice, distributing these functions among different people makes sense, but it also multiplies opportunities for misalignment.
To see misalignment at its most extreme, just visit the DMVV. Suppose you need a new driving license. The DMV is a Govt Agency and we live in a democratic republic. All power resides in the “the people,” who elect representatives to serve them in government. If you are a citizen, you are a part owner of the DMV and your representatives control it, so you should be able to walk in and get what you need.
Of course, it doesn’t work like that. We the people may “own” the DMV resources, but that ownership is merely fictional. The clerks and petty tyrants who operate the DMV, however, enjoy very real possession of their small-time powers. Even the governor and the legislature charged with nominal control over the DMV can’t change anything. Accountable to nobody, the DMV is misaligned with everybody. Bureaucrats can make your licensing experience pleasurable or nightmarish at their sole discretion. You can try to bring up political theory and remind them that you are the boss, but that’s unlikely to get you better service.
Big corporations do better than the DMV, but they’re still prone to misalignment, especially between ownership and possession. The CEO of a huge company like GM, for example, will own some of the company’s stock, but only a trivial portion of the total. Therefore, he’s incentivised to reward himself through the power of possession rather than the value of ownership. Posting good quarterly results will be enough for him to keep his high salary and corporate jet. Misalignment can creep in even if he receives stock compensation in the name of “shareholder value.” If that stock comes as a reward for short term performance, he will find it lucrative and much easier to cut costs instead of investing in a plan that might create more value for all shareholders far in the future.
Unlike corporate giants, early stage startups are small enough that founders usually have both ownership and possession. Most conflicts in a startup erupt between ownership and control — that is, between founders and investors on the board. The potential for conflict increases over time as interests diverge: a board member might want to take a company public as soon as possible to score a win for his venture firm, which the founders would prefer to stay private and grow the business.
In the boardroom, less is more. The smaller the board, the easier it is for the directors to communicate, to reach consensus, and to exercise effective oversight. However, that very effectiveness means that a small board can forcefully oppose management in any conflict. This is why it’s crucial to choose wisely: every single member of your board matters. Even one problem director can cause you pain, and may even jeopardise your company’s future.
A board of three is ideal. Your board should never exceed five people, unless your company is publicly held. By far, the worst you can do is make your board extra large. When unsavvy observers see a non-profit organisation with dozens of people on its board, they think: “Look how many great people are committed to this organisation! It must be extremely well run.” Actually a huge board will exercise no effective oversight at all; it merely provides cover for whatever microdictator actually runs the organisation. If you want that kind of free rein from your board, blow it up to giant size. If you want an effective board, keep it small.
ON THE BUS OR OFF THE BUS
As a general rule, everyone you involve with your company should be involved full-time. Sometimes you’ll have to break this rule; it usually makes sense to hire outside lawyers and accountants, for example. However, anyone who doesn’t own stock options or draw a regular salary from your company is fundamentally misaligned. At the margin, they’ll be biased to claim value in the near term, not help you create more in the future. That’s why hiring consultants doesn’t work. Part-time employees don’t work. Even working remotely should be avoided, because misalignment can creep in whenever colleagues aren’t together full-time, in the same place, every day. You’re either on the bus or off the bus.
CASH IS NOT KING
For people to be fully committed, they should be properly compensated. Whenever an entrepreneur asks me to invest in his company, I ask him how much he intends to pay himself. A company does better the less it pays the CEO — that’s one of the single clearest patterns I’ve noticed from investing in hundreds of startups. High pay incentivises him to defend the status quo along with his salary, not to work with everyone else to surface problems and fix them aggressively. A cash-poor executive by contrast, will focus on increasing the value of the company as a whole.
Low CEO pay also sets the standard for everyone. Aaron Levie, the CEO of Box, was always careful to pay himself less than everyone else in the company — four years after he started Box, he was still living two blocks away from HQ in a one-bedroom apartment with no furniture except a mattress. Every employee noticed his obvious commitment to the company’s mission and emulated it.
Cash is attractive. It offers pure optionality: once you get your paycheck, you can do anything you want with it. However, high cash compensation teaches workers to claim value from the company as it already exists instead of investing their time to create new value in the future.
VESTED INTERESTS
Startups don’t need to pay high salaries because they can offer something better: part ownership of the company itself. Equity is the one form of compensation that can effectively orient people toward creating value in the future.
However, for equity to create commitment rather than conflict, you must allocate it very carefully. Giving everyone equal shares is usually a mistake: every individual has different talents and responsibilities as well as different opportunity costs, so equal amounts will seem arbitrary and unfair from the start. On the other hand, granting different amounts up front is just as sure to seem unfair. Resentment at this stage can kill a company, but there’s no ownership formula to perfectly avoid it.
This problem becomes even more acute over time as more people join the company. Early employees usually get the most equity because they take more risk, but some later employees might be even more crucial to a venture’s success. Since it’s impossible to achieve perfect fairness when distributing ownership, founders would do well to keep the details secret. Sending out a company wide email that lists everyone’s ownership stake would be like dropping a nuclear bomb on your office.
Equity is not liquid like cash. Equity is a powerful tool precisely because of these limitations. Anyone who prefers owning a part of your company is being paid in cash reveals a preference for the long term and a commitment to increasing your company’s value in the future. Equity can’t create perfect incentives, but it’s the best way for the founder to keep everyone in the company broadly aligned.
EXTENDING THE FOUNDING
Bob Dylan has said that he who is not busy being born is busy dying. If he’s right, being born doesn’t happen at just one moment — you might even continue to do it somehow, poetically at least. The founding moment of a company, however, really does happen just once: only at the very start do you have the opportunity to set the rules that will align people toward the creation of value in the future.
The most valuable kind of company maintains an openness to invention that is most characteristic of beginnings. This leads to a second, less obvious understanding of the founding: it lasts as long as the company is creating new things, and it ends when creation stops. If you get the founding moment right, you can do more than create a valuable company: you can steer its distant future toward the creation of new things instead of the stewardship of inherited success. You might even extend its founding indefinitely.
CULTURE
Start with this thought experiment: what would the ideal company culture look like? Employees should love their work. Enjoy going to office so much so that formal business hours become obsolete and nobody watches the clock. The workplace should be open, not cubicled, and workers should feel at home: beanbags might outnumber file cabinets. Free massages, sushi chefs, and maybe even yoga classes would sweeten the scene. Pets should be welcome too.
What’s wrong with this picture? It includes some of the absurd perks Silicon Valley made famous. But without substance, perks don’t work. You can’t accomplish anything meaningful by hiring a interior decorator or a HR consultant to re-do policies. “Company culture” doesn’t exist apart from the company itself: no company has a culture; every company is a culture. A startup is a team on a mission, and a good culture is just what that looks like on the inside.
Author recounts his time in a NY Law Firm.
The lawyers I worked with ran a valuable business, and they were impressive individuals one by one. But the relationships between them were oddly thin. They spent all day together, but few of them seemed to have much to say to each other outside the office. Why work with a group of people who don’t even like each other? Many seem to think it’s a sacrifice necessary for making money. But taking a merely professional view of the workplace in which free agents check in and out on a transactional basis is worse than cold: it’s not even rational. Since time is your most valuable asset, it’s odd to spend it working with people who don’t envision any long-term future together. If you can’t count durable relationships among the fruits of your time at work, you haven’t invested your time well — even in purely financial terms.
From the start, I wanted PayPal to be tightly knit instead of transactional. I thought stronger relationships would make us not just happier and better at work but also more successful in our careers even beyond PayPal. So we set out to hire people who would actually enjoy working together.
RECRUITING CONSPIRATORS
Recruiting is a core competency for any company. It should never be outsourced. You need people who are not just skilled on paper but who will work together cohesively after they’re hired.
Talented people don’t need to work for you; they have plenty of options. Why would someone join your company when she could work at Google for money and more prestige?
Here are some bad answers: stock options, get to work with smartest people, solve challenging problems. Every company makes these same claims, so they won’t help you stand out. The only good answers are specific to your company, so you won’t find them in this book. But there are two general kinds of good answers: answers about your mission and answers about your team. Mission: why you’re doing something important that no one else is going to get done. And you should be able to explain why your company is a unique match to him personally. And if you can’t do that, he is probably not the right match.
Above all, don’t fight the perk war. Anybody who would be swayed by laundry pickup would be a bad addition to your team. Just cover the basics like health insurance and then promise what no others can: the opportunity to do irreplaceable work on a unique problem alongside great people.
You probably can’t be the Google of 2014 in terms of compensation or perks, but you can be like the Google of 1999 if you already have good answers about your mission and team.
DO ONE THING
On the inside, every individual should be sharply distinguished by her work.
Job assignments aren’t just about the relationship between workers and tasks; they’re about relationships between employees.
The best thing I did as a manager at PayPal was to make every person in the company responsible for doing just one thing. Every employee’s one thing was unique, and everyone knew I would evaluate him only on that one thing. I noticed: defining roles reduced conflict. Most fights inside a company happen when colleagues compete for the same responsibilities. Startups face an especially high risk of this since job roles are fluid at the early stages. Eliminating competition makes it easier for everyone to build the kinds of long-term relationships that transcend mere professionalism. More than that, internal peace is what enables a startup to survive at all. When a startup fails, we often imagine it succumbing to predatory rivals in a competitive ecosystem. But every company is also its own ecosystem, and factional strife makes it vulnerable to outside threats. Internal conflict is like an autoimmune disease: the technical cause of death may be pneumonia, but the real cause remains hidden from plain view.
OF CULTS AND CONSULTANTS
In the most intense kind of organisation, members hang out only with other members. They ignore their families and abandon the outside world. In exchange, they experience strong feelings of belonging, and maybe get access to esoteric “truths” denied to ordinary people. We have a word for such organisations: cults.
Entrepreneurs should take cultures of extreme dedication seriously. Is a lukewarm attitude to one’s work a sign of mental health? Is a merely professional attitude the only sane approach? The extreme opposite of a cult is a consulting firm like Accenture: not only does it lack a distinctive mission of its own, but individual consultants are regularly dropping in and out of companies to which they have no long-term connection whatsover.
Every company culture can be spotted on a liner spectrum:
The best startups might be considered slightly less extreme kinds of cults. The biggest difference is that cults tend to be fanatically wrong about something important. People at the successful startup are fanatically right about something those outside it have missed. You’re not going to learn those kinds of secrets from consultants, and you don’t need to worry if your company doesn’t make sense to conventional professionals. Better to be called a cult — or even a mafia.
IF YOU BUILD IT, WILL THEY COME?
In Silicon Valley, nerds are skeptical of advertising, marketing, and sales because they seem superficial and irrational. But advertising matters because it works. It works on nerds, and it works on you. You may think that you’re an exception; that your preferences are authentic, and advertising only works on other people. It’s easy to resist the most obvious sales pitches, so we entertain a false confidence in our own independence of mind. But advertising doesn’t exist to make you buy a product right away; it exists to embed subtle impressions that will drive sales later. Anyone who can’t acknowledge its likely effect on himself is doubly deceived.
Nerds are used to transparency. They add value by becoming expert at a technical skill like computer programming. In engineering disciplines, a solution either works or it fails. Surface appearances don’t matter much. Sales is the opposite: an orchestrated campaign to change surface appearances without changing the underlying reality. This strikes engineers as trivial if not fundamentally dishonest. They know their jobs are hard, so when they look at salespeople laughing on the phone with a customer or going to two-hour lunches, they suspect that no real work is being done. If anything, people overestimate the relative difficulty of science and engineering, because the challenges of those fields are obvious. What nerds miss is that it takes hard work to make sales look easy.
SALES IS HIDDEN
All salesmen are actors: their priority is persuasion, not sincerity.
There’s a wide range of sales ability: novices, experts, and masters. There are even sales grandmasters. If you don’t know any grandmasters, it’s not because you haven’t encountered them, but rather because their art is hidden in plain sight.
Like acting, sales works best when hidden. This explains why almost everyone whose job involves distribution (sales, marketing or advertising) — has a job title that has nothing to do with those things. Account Execs (sell ads), Business Dev (sell customers), Investment bankers (sell companies), Politicians (sell themselves). There’s a reason for these redescriptions: none of us wants to be reminded when we’re being sold.
Even university professors, who claim authority from scholarly achievement, are envious of the self-promoters who define their fields. The most fundamental reason that even businesspeople underestimate the importance of sales is the systematic effort to hide it at every level of every field in a world secretly driven by it.
The engineer’s grail is a product great enough that “it sells itself.”. But anyone who would actually say this about a real product must be lying: either he’s delusional (lying to himself) or he’s selling something (and thereby contradicting himself).
It’s better to think of distribution as something essential to the design of your product. It 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.
HOW TO SELL A PRODUCT
Superior sales and distribution by itself can create a monopoly, even with no product differentiation. The converse is not true.
Two metrics set the limits for effective distribution. The total net profit that you earn on average over the course of your relationship with a customer (Customer Lifetime Value, or CLV) must exceed the amount you spend on average to acquire a new customer (Customer Acquisition Cost, or CAC). In general, the higher the price of your product, the more you have to spend to make a sale — and the more it makes sense to spend it. Distribution methods can be plotted on a continuum:
Complex Sales: If your average sale is seven figures or more, every detail of every deal requires close personal attention. It might take months to develop the right relationships. Complex sales works best when you don’t have “salesmen” at all. At some price points, buyers want to talk to the CEO, not the VP of Sales.
Personal Sales: Most sales are not particularly complex. The challenge here isn’t about how to make any particular sale, but how to establish a process by which a sales team of modest size can move the product to a wide audience.
Author cites Box and ZocDoc as two cases studies to explain Personal Sales.
Distribution Doldrums: In between personal sales (salespeople obviously required) and traditional advertising (no salespeople required) there is a dead zone. Suppose you create a software service that helps convenience store owners. For a product priced around 1000 USD, there might be no good distribution channel to reach the small businesses that might buy it. Advertising would either be too broad (TV) or too inefficient. The product needs a personal sales effort, but at that price point, you simply don’t have the resources to send an actual person to talk to every prospective customer. This is why so many small and medium-sized businesses don’t use tools that bigger forms take for granted. It’s not that small business proprietors are unusually backward or that good tools don’t exist: distribution is the hidden bottleneck.
Marketing and Advertising: Marketing and Advertising works for relatively low-priced products that have mass appeal but lack any method of viral distribution. Advertising can work for startups too but only when your customer acquisition costs and customer lifetime value make every other distribution channel uneconomical. When you can only afford to spend dozens of dollars acquiring a new customer, you need the biggest megaphone you can find.
Every entrepreneur envies a recognisable ad campaign, but startups should resist the temptation to compete with bigger companies in the endless contest to put on the most memorable TV spots or the most elaborate PR stunts.
Viral Marketing: A product is viral if its core functionality encourages users to invite their friends to become users too. This isn’t just cheap — its fast, too. The ideal viral loop should be as quick and friction-less as possible.
POWER LAW OF DISTRIBUTION
A kitchen-sink approach — employ a few sales people, place some magazine ads, and try to add some kind of viral functionality to the product as an afterthought — doesn’t work. Most businesses get zero distribution channels to work: poor sales rather than bad product is the most common cause of failure. If you can get just one distribution channel to work, you have a great business. If you try for several but don’t nail one, you’re finished.
SELLING TO NON-CUSTOMERS
Your company needs to sell more than its products. You must also sell your company to employees and investors.
Selling your company to the media is a necessary part of selling it to everyone else. Nerds who instinctively mistrust the media often make the mistake of trying to ignore it. But just as you can never expect people to buy a superior product merely on its obvious merits without any distribution strategy, you should never assume that people will admire your company without a public relations strategy.
Any prospective employee worth hiring will do his own diligence: what he finds or doesn’t find when he googles you will critical to the success of your company.
EVERYBODY SELLS
Nerds might wish that distribution could be ignored and salesmen banished to another planet. All of us want to believe that we make up our own minds, that sales doesn’t work on us. But it’s not true. Everybody has a product to sell — no matter whether you’re an employee, a founder, or an investor. It’s true even if your company consists of just you and your computer. Look around. If you don’t see any salespeople, you’re the salesperson.
MAN AND MACHINE
Computers are complements for humans, not substitutes. The most valuable businesses of coming decades will be built by entrepreneurs who seek to empower people rather than try to make them obsolete.
If humans and computers could together achieve dramatically better results than either could attain alone, what other valuable businesses could be built on this core principle?
Author sites examples of humans and computers working together to reduce credit card fraud or identify terrorist networks.
Think of what professionals do in their jobs today. Lawyers must be able to articulate solutions to thorny problems in several different ways. Doctors need to marry clinical understanding with an ability to communicate to non-expert patients. And good teachers aren’t just experts in their disciplines; they must also understand how to tailor their instructions to different individuals’ interests and learning styles. Better technology in law, medicine and education won’t replace professionals, it will allow them to do even more.
LinkedIn has done exactly this for recruiters. They din’t try to write software to replace recruiters. Recruiting is part detective work and part sales. Effectively replacing all those functions with a computer would be impossible. Instead, LinkedIn set to transform how recruiters did their job.
Why do so many people miss the power of complementarity? It starts in school. Software Engineers tend to work on projects that replace human efforts because that’s what they’re trained to do. Look at the trendiest field in CS today: “machine learning”. Its boosters seem to believe that computers can be taught to perform almost any task, so long as we feed them enough training data. Other buzzword: “big data”. Companies mistakenly believe that more data always produces more value. Big data is usually dumb data.
We let ourselves become enchanted by big data only because we exoticize technology. We’re impressed with small feats accomplished by computers alone, but we ignore big achievements from complementarity because the human contribution makes them less uncanny.
A logical endpoint to “substitution” thinking is called “strong AI”. But even if strong AI is a real possibility, it won’t happen anytime soon. Indefinite fears about the far future shouldn’t stop us from making definite plans today.
As we find new ways to use computers, they won’t just get better at the kind of things people already do; they’ll help us to do what was previously unimaginable.
SEEING GREEN
At the start of 21st century, everyone agreed the next big thing was clean technology. It had to be: in Beijing, the fog had gotten so bad that people couldn’t see from building to building — even breathing was a health risk. Bangladesh with arsenic-laden water walls. Ivan and Katrina in US. Al Gore implored us to attack these problems with urgency seen when mobilising for wars. People got busy; entrepreneurs started thousands of clean-tech companies, and investors poured more than $50 billion into them. So began the quest to clean the world.
It didn’t work. Instead of a healthier planet, we got a massive cleantech bubble. Most cleantech companies crashed because they neglected one or more of the seven questions that every business must answer.
THE ENGINEERING QUESTION
Can you create breakthrough technology instead of incremental improvements?
A great technology company should have proprietary technology an order of magnitude better than its nearest substitute. Cleantech companies rarely produced 2x, let alone 10x, improvements.
Tesla’s technology is so good that other car companies rely on it. But Tesla’s greatest achievement isn’t any single part or component, but rather it’s ability to integrate many components into one superior product.
THE TIMING QUESTION
Is now the right time to start your particular business?
Entering a slow moving market can be a good strategy, but only if you have a definite and realistic plan to take it over. The failed cleantech companies had not.
THE MONOPOLY QUESTION
Are you starting with a big share of a small market?
John Doerr said, “Internet sized markets are in the billion of dollars, the energy markets are in trillions.” What he didn’t say is that huge, trillion-dollar markets mean ruthless, bloody competition. In 2000s, I listened to dozens of cleantech entrepreneurs begin fantastically rosy presentations with all-too-true tales of trillion-dollar markets — as if that were a good thing.
Customers wont care about any particular technology unless it solves a particular problem in a superior way.
Cleantech entrepreneurs’ thinking about markets was hopelessly confused. They would rhetorically shrink their market in order to seem differentiated, only to turn around and ask to be valued based on huge, supposedly lucrative markets. Solar Company: US Solar Market? Global Solar Market? Renewable Energy Market in general? Global?
But you can’t dominate a submarket if it’s fictional, and huge markets are highly competitive, not highly attainable.
Tesla started with a tiny submarket that it could dominate: the market for high-end electric sports cars.
THE PEOPLE QUESTION
Do you have the right team?
Energy problems are engineering problems, so you would expect to find nerds running cleantech companies. You’d be wrong: the ones that failed were run by shockingly nontechnical teams. These salesman-executives were good at raising capital and securing government subsidies, but they were less good at building products that customers wanted to buy.
The most obvious clue was sartorial: cleantech executives were running around wearing suits and ties. This was a huge red flag, because real technologists wear T-shirts and jeans. The best sale is hidden. There’s nothing wrong with a CEO who can sell, but if he actually looks like a salesman, he’s probably bad at sales and worse at tech.
Tesla’s CEO is the consummate engineer and salesman, so it’s not surprising that he’s assembled a team that’s very good at both.
THE DISTRIBUTION QUESTION
Do you have a way to not just create but deliver your product?
Cleantech companies effectively courted government and investors, but they often forgot about customers. They learned the hard way that the world is not a laboratory: selling and delivering a product is at least as important as the product itself.
Most companies underestimate distribution, but Tesla tool it so seriously that it decided to own the entire distribution chain. Tesla sells and services its vehicles in its own stores. It affords control over the customer experience, strengthens Tesla’s brand, and saves the company money in the long run.
THE DURABILITY QUESTION
Will your market position be defensible 10 to 20 years into the future?
Every entrepreneur should plan to be the last mover in her particular market. That starts with asking yourself what will the world look like 10 and 20 years from now, and how will my business fit in?
Was competition from Chinese Solar manufacturers really impossible to predict? What about fracking? Cleantech entrepreneurs would have done well to rephrase the durability question and ask: what will stop China from wiping out my business? Without an answer, the result shouldn’t have come as a surprise. And nobody took the trends in fracking seriously.
Tesla has a head start and it’s moving faster than anyone else.
THE SECRET QUESTION
Have you identified a unique opportunity that others don’t see?
Every cleantech company justified itself with conventional truths about the need for a cleaner world. Each of the casualities had described their bright futures using broad conventions on which everybody agreed. Great companies have secrets: specific reasons for success that other people don’t see.
Tesla knew that fashion drove interest in cleantech. Rich people especially wanted to appear “green,” even if it meant driving a boxy Prius or clunky Honda Insight. So, Tesla decided to build cars that made drivers look cool. Tesla built a unique brand around the secret that cleantech was even more of a social phenomenon than an environmental imperative.
MYTH OF SOCIAL ENTREPRENEURSHIP
If something is socially good, is it good for society, or merely seen as good by society? Whatever is good enough to receive applause from all audiences can only be conventional, like general idea of green energy.
Progress isn’t held back by some difference between corporate greed and nonprofit goodness; instead, we’re held back by the sameness of both. Just as corporations tend to copy each other, nonprofits all tend to push the same priorities. Cleantech shows the result: hundreds of undifferentiated products all in the name of one overbroad goal.
Doing something different is what’s truly good for society — and it’s also what allows a business to profit by monopolizing a new market. The best projects are likely to be overlooked, not trumpeted by a crowd; the best problems to work on are often the ones nobody else even tries to solve.
ENERGY 2.0
The 1990s had one big idea: the internet is going to be big. But too many internet companies had exactly that same idea and no others. An entrepreneur can’t benefit from macro-scale insight unless his own plans begin at the micro-scale. Cleantech companies faced the same problem: no matter how much the world needs energy, only a firm that offers superior solution for a specific energy problem can make money.
Paradoxically, the challenge for the entrepreneurs who will create Energy 2.0 is to think small.
THE FOUNDERS PARADOX
Are all founders unusual people? Or do we just tend to remember and exaggerate whatever is most unusual about them? More important, which personal traits actually matter in a founder? This chapter is about why it’s more powerful but at the same time more dangerous for a company to e led by the distinctive individual instead of an interchangeable manager.
I jump directly to the author’s advice to Founders.
The lesson for business is that we need founders. If anything, we should be more tolerant of founders who seem strange or extreme; we need unusual individuals to lead companies beyond mere incrementalism.
The lessons for founders is that individual prominence and adulation can never be enjoyed except on the condition that it may be exchanged for individual notoriety and demonization at any moment — so be careful.
Above all, don’t overestimate your own power as an individual. Founders are important not because they are the only ones whose work has value, but rather because a great founder can bring out the best work from everybody at his company. That we need individual founders in all their peculiarity does not mean than we are called to worship Ayn Randian “prime movers” who claim to be independent of everybody around them. In this respect, Rand was a merely half-great writer: her villains are real, but her heroes were fake. There is no Galt’s Gulch. There is no secession from society. To believe yourself invested with divine self-sufficiency is not the mark of a strong individual, but of a person who has mistaken the crowd’s worship — or jeering — for the truth. The single greatest danger for a founder is to become so certain of his own myth that he loses his mind. But an equally insidious danger for every business is to lose all sense of myth and mistake disenchantment for wisdom.
CONCLUSION
The essential first step is to think for yourself.
altLearners 