Make millions, lifelong friends, and a professional wolfpack for the years to come. Also possible: leave with no money, work for a minimum wage hourly rate or less when overtime is accounted for, and burn out. In the world of extremes, this is a good description of the startup experience.
So how should you be thinking about joining a startup? Is it worth leaving the cushy, well-paying job?
There’s no crystal ball and every choice is unique. In the end, it’s your life, your choice, and if your gut tells you to go for it, then don’t bother reading further. You have your answer.
If however, you’re on the more popular side of the camp, where options are swirling in your head inconclusively, then this is for you.
Know what you want.
Ask yourself, “what is it that you want”. Is it money? Acknowledgment or perhaps challenging yourself?
The older I get, the more I take seriously the question of “where do you see yourself in 10 years”. Have an answer to that and you can reverse engineer your way to the end result without feeling like you are groping in the dark.
The experience element
Are you next to the action?
Startups are great for learning; unless you’re the last cog of the machine in which case you simply “do stuff”. You won’t even experience the actual journey. Business insights will be tainted by what the narrative told across the business. This is not pessimism. The unfortunate truth is that founders have to sugarcoat things a lot – if not outright lie -to their employees, since everything is shaky at the early days (pre-series B) of a startup.
On the other hand, if you are the Founder’s right-hand and get exposure to investors, customers and get to witness the decision-making journey of a strong founding team, this is a golden ticket irrespective of the result.
Are you a key employee?
Key employees don’t have to be the first 10 people. Key employees can be employees in the formative years of the company, the first 500 employees of a 5,000 person company, or any employee whose remit allows them to execute and learn on someone else’s account.
Imagine you’re a director of marketing and you’re given a few million pounds to execute on a marketing strategy. The experience of having experimented and seen the direct outcome of your actions at scale from the front seat, are an automatic step change in your work capabilities and skillset. You’ve levelled up.
Seeking an adrenaline rush or balance?
The ubiquitous, understated, unquantifiable issue of startups: can you deal with dedicating your life to your work? You will have to.
On the other hand, your cushy job means socializing, going to the gym, and having personal time for family and friends. This is a trade-off that seems easy conceptually but just like bodybuilding, it’s hard every-single-day.
The value of experience is delayed
Startups that grow like rocketships offer a scarce experience: the experience of seeing a constantly transforming, growing organization. This is critically important since there is no company that would not want to follow that trajectory nor is there another successful company that does not want to poach the “experienced hires” who were there for the ride.
Being part of this journey means that IF YOU LAST and if you become a key employee, then you can cash out that experience for the foreseeable future, and all sorts of doors open easily. Also, it’s cool.
Hopefully, this helps. Now, to brass tacks. The payoff. When does it make financial sense to join a startup?
How to calculate the payoff
Before I get into specifics, there are a few principles:
Think about wealth, not money.
Aim at equity, not salary.
Know your number, don’t settle for someone else’s.
In the end, every startup succeeds when it participates in wealth creation. If you don’t think a startup can create wealth, don’t join, move on.
If the startup you’re considering is not offering a generous pool of equity, move on. Because, what is a startup? Fundamentally, it’s a speculation on a potential future. And when it comes to private markets, there’s only one way to participate in the speculation: equity.
Finally, know your number; don’t compromise for someone else’s. Forget the spiel about “the pool is maxed” or “no one has more stock than this” or the even more offensive – and my personal favourite – “people with twice your years of experience make this”.
You’re not an amateur experience seeker. You’re a professional playing the game and you ought to have a threshold number and stick with it. What is the ticket you’re looking for when the startup exits? It does not matter if you like the business, the founders, or the setup. It’s likely that your number is not possible to be met. Can this business get you where you want to be? If not, don’t compromise, move on.
How much can you really make?
Total Equity owned x Exit Value – tax.
The total amount you will receive from your time at a company is basically the vested options you end up with by the time there’s an exit minus the tax you pay. Simple right?
Let’s start with an example.
Assume you’re offered a job at a hyper-growth startup. By that I mean a company that is growing in terms of people and VC inflow way faster than the mean of the industry. Imagine a company that grew from 0 to 100 employees within a year and raised £10m in 12 months in Seed and Series A. Since the startup is raising way more money than average, the dilution is also quite high and the startup is valued £30m.
You’re offered to join by the time they’re 50 people. Your offer includes options worth 0.2% of total equity (£60k) and a salary of £100k which I will leave out since salary would be matched in lots of places – and is not a wealth-creating mechanism -.
So, how much do you stand to gain?
Let’s move on with our scenario. The business raised meteoric rounds of £50m at £150m and £300m at £900m and gets sold. You’re left with about 0.08% of a unicorn (in dollars) or £720,000.
Now let’s divide by the number of years it took to get here. We are on a rocketship, so let’s say it’s 3 years and the return per year is £240k. But what about tax? Let’s say it’s EMI qualified (the UK tax incentive for early employees of businesses) and only taxed at 10% and the market value was negligible to acquire shares so won’t even calculate it. This leaves us with £216k per year.
But judging an option based on the outcome is not really precocious approach. What you need to think is the expected payoff is and since a lot of things can go wrong and at early stages, even if you’re in a rocketship, can you really be that sure? I will be generous and assume 50% certainty (at Series A!) to exit the business.
As a result, before you take the job, you are looking at shares worth £108k per year which is very different from your original 0.2% of £900m.
And I am not finished. As competition rises and alongside it pressure does too, the startup succumbs to dealing with terms that are not beneficial for you. There might be liquidation preferences, a bridge/down round (the valuation drops) and suddenly you end up with a much smaller amount.
The allure of big tech
Now let’s say that you get a job at a FAANG business. At a mid-senior level, a Product manager/engineer in one of these businesses can make £130k and another £200k in stock and bonus which may I add is often exercisable from the first month i.e. you can treat it as cash. You also have a sign-on bonus and performance bonus – you can double your stock-.
Let’s also assume that an 8% year-on-year increase on the total compensation is an average scenario.
In this case you’re expected annual payoff is ((£200,000 + £216,000 + £233,280)/3) or £216,000 pre-tax or £108k after tax assuming your 50% tax rate on RSUs.
In other words, the best case startup scenario is the average at Big tech.
Some other things to consider:
Getting fired from a startup is not uncommon.
Big Tech keeps offering stock, startups don’t usually until much later.
There are very few UK businesses that have exited with more than £1bn in value.
So if money is the reason you’re joining, the option is simple.
Follow your gut, or follow your plan
Progress is not linear. Whether that is experience, money, or career, we make plans only to see them fall through.
One good startup will leave you with experiences, opportunities, and money for the next decade at best or with some learnings that stick with you for the rest of your life.
But as a person that has done both and has passed on opportunities for the right and the wrong reasons, I want to leave you with this: if you can follow your gut instead of a plan, do that. But if go with a plan, stick with it. In both cases, consistency trumps intensity and if you make a mistake, know it’s yours, not someone else’s. Good luck!
Google search is one of the top engineering marvels of the 20th century.
Its business one of the top industry defining businesses of the century. Google is the true dominant name really in the category it helped invent. The rest of the players are inevitably and undoubtedly playing catch-up.
And here comes the unfathomable: A new better search is needed and Google might not be the one to make it.
Yes, you read correctly and no, Google won’t lose in its own game. The question is whether it will be able to capitalize on the new wave. That which is driven by the needs of knowledge workers and the creative economy. One driven by digital skills as a means to productivity and the corporation’s appetite for paid productivity tools.
The trends are all there: an ever connected globe of 5 billion connected devices. 45% of jobs already being digitally enabled driving more competition amongst firms than ever. An increasing flow of capital in productivity -33% of unicorns in 2020- is reported and across all areas of work (email, design, notes, sheets).
There is soon going to be a new paradigm for search. It will be for businesses only at first, costly, exclusive, and a trillion dollar business.
The next frontier in search
There’s a few reasons why search innovation on the consumer side has not happened.
First, no one can or wants to compete against Google.
Secondly, the barrier to entry in search is very high.
Third, search is currently “free” and works really well.
The thing is, it works really well for consumer use cases. And though all three were true till recently, we are now at a tipping point. But first, it’s important to examine what is the current and future opportunity in search.
The business of search & AdWords
Let’s start with the business of search. What does Google sell? It sells attention and corresponding leads in the form of keywords. In a way, Google AdWords is a marketplace. And how are there keywords priced? Keywords are priced on a Cost per click (CPC) basis with the exact price calculated as a derivative of the sale. Google’s thinking is that since a customer made a purchase as a result of discovering the product or service from Google, then they deserve to be paid a fraction of that transaction. As a result, factors that pertain to the CPC cost are things like demand of the keyword, the probability of a user buying a service as a result of clicking on the keyword and finally the cost of the service. A rough formula then appears for valuing a keyword.
Keyword Cost = Demand competition x P(purchase) x Cost of service/good.
To exemplify what I mean consider this. For google “find a plumber” is more valuable than “How to find out if you have a leak” since the first is indicating intent and thus more likely to result in a job whereas the latter merely an interest in a house issue. Following that logic, Google prices the former search phrase higher.
From that lens Google’s strategy becomes easier to understand: provide free knowledge and responses to all the non-commercial questions so that users love it and come back frequently so that when they do have a commercial query in mind, Google can monetize that.
Whilst the amount of new questions people ask on Google tends to infinity, it turns out that they can conceptually be categorized in three broad types based on their commercial value.
Here’s a nice illustration from Moz showcasing that.
There’s three categories of search: Navigational, Informational and Transactional.
Navigational queries are the original use case of search and of low value to the business. Informational are what makes people love Google and the basis of SEO nowadays and transactional where Google makes the majority of its revenue.
Whilst there are no public data around the distribution of revenue per category, it’d be logical to assume that transactional queries might contribute above 80% of the total ad revenue.
And this leaves us with an interesting observation: Google’s incredible business model is leaving the majority of searches without monetization. In Google’s case it is partly intentional. Free traffic (SEO) is the reason why companies comply with Google’s standards. This in return provides Google with better data, less problems to solve and better monetization in transactional queries.
It’s also safe to assume that the more complicated the informational query, e.g. “what is the total valuation of online marketplaces” the less ads are likely to be targeting the phrase. Additionally, this is not an insignificant amount of traffic. Complicated queries inherently require more more words in each search and according to Moz, this amounts to approximately 20% – in line with the percentage of people clicking on multiple results per query.
In other words, the answers to the complex informational queries that are powering the workers of the future are free yet unattainable unless one performs multiple searches, opens multiple tabs and manually extracts the data points from each page.
GPT-3, Transformers & search v2
And then GPT-3 arrives. GPT-3 is a new search paradigm by OpenAI and possibly the biggest threat to the status quo of search. Both Google and GPT-3 accept a string (a sequence of characters) as input but while Google needs to return a relevant link which hopefully will result in a paid click, GPT-3 is an API which merely returns a text-mashup of the most relevant information it has collated from the web and charges on a per call basis. GPT-3 is also able to generate answers for any symbolic query, not just words. In the example below, GPT-3 returns code that is rendered on the browser.
In doing so, GPT-3 does not need to worry about neither transactions happening off the back of a search nor owning the client. In fact, that’s not the purpose. GPT-3 is focusing on complicated informational queries. In doing so, it is breaking down the so tightly held barriers to entry in the search space.
Additionally, GPT-3 provides a superior user experience to this growing segment of digital workers which rely on information gathering and analysis to conduct their jobs.
To understand why that is, consider the previous example of “What is the total valuation of all online marketplaces”.
Google is not able (in its current form) to respond optimally to this query because it is designed to find the most relevant web resource, written by a human and surface it. However this desirable answer to such a query requires gathering information from multiple sources and aggregating it all in one place. Today, this means opening up multiple tabs (some relevant, some not), reading through each post and manually stitching together the relevant information.
This inherent limitation in the way the engine is built is the reason why Google’s 21% of search queries result in multiple open tabs. This is an effect we have never questioned because we didn’t have to. However just as people don’t want a mortgage, they want a house, similarly people are searching for multiple data points, not multiple open tabs.
On the other hand, GPT-3 will aim to understand the intent behind the query, find all the marketplaces online, collate information about their valuation and then return a complete response.
The Google approach might take hours whereas the GPT-3 search will take seconds and return a complete response. Apart from the argument of convenience, consider the difference this makes for an employer. This is not a step change. This is a game-changer. This is search v2.
The difference in terms of working hours is massive. And of course this does not stop here. This revolution of search can be applied in any field which requires the user to research and collate information and each field will present different requirements. Search v2 will be vertical-first.
Here are some other interesting use cases:
Sales: Return a list of all the names of Texas based CEOs in companies with more than 200 people.
Education: Create a set of exercises to test a user’s knowledge on “Advanced computer architecture”.
Investment Analysts: Return a list of all London based businesses with less than 10 people focusing on <you_name_it>.
The list of use cases is endless for someone with a little imagination and one thing is for sure; our kind is full of that.
However the three use cases above all seem relevant under a corporate setting. There’s good reason to believe businesses will be the first customer for search v2. Under the current global context discussed above, they’re the most likely to perceive paying for a new kind of search as an “edge” rather than as an unnecessary expense. Additionally and in accordance to the history of disruptive innovations, these revolutions start from “toy architectures”, niche use cases and with limited capabilities. Businesses present the perfect starting point.
And so, following recent updates to email, sheets and the rest of productivity tools there are a few things we can expect:
A freemium version of such a search engine
A product-led growth approach defined by low initial operational expenditure and healthy cash flows from day one.
Inherent product virality stemming from collaboration use cases
User adoption that will move from (small) business to enterprise and finally to the general public similar to the desktop computer and unlike Facebook or Google.
And a true competitor to the latter.
And here is another interesting thing to consider. If a company with a slick UX and good interactive design managed to persuade people to pay $30 per month for email (yes, Superhuman), what would a consulting firm be willing to pay for the new generation of its knowledge workers? The answer is simple: way more.
The business case for search-as-a-service: a trillion dollar opportunity
Google search yields about $36 per user globally. In fact, to better visualize how possible it would be to create a new trillion dollar search business, consider that business search, search v2 is priced at $99 per month, or $1,188 per year, yielding 33x Google’s ARPU.
For context, Microsoft Office business Premium is about £180 per annum per person, or $240 at the current conversion, so 5x less but at full market penetration.
I guess the point I am circling around to is this: to reach Google’s 2019 $133bn in revenue, search v2 would not need 3.6Bn users. It would only need 110m, or 1/8 people of the combined US/EU population or ⅓ people on Linkedin.
And when this means your work halving and productivity doubling, this suddenly the combination of price and market penetration does not seem so crazy.
So, the next billion dollar question is: who is going to reap the benefits of this?
The players in the search industry
Did you forget about Bing? In this new game they’re not an outsider; rather they’re the dominant platform. There is a few reasons for that. Firstly, Microsoft is a SaaS-first business and workplace is its bread and butter. Office, Teams and Outlook and search v2 make for a good combination.
Secondly, they invested $1bn in OpeanAI, the business behind GPT-3. Additionally, they have the customer base and thus very effective distribution.
Finally, Microsoft owns LinkedIn and GitHub. The former is conveniently the most powerful distribution mechanism to businesses while the latter provides an edge to Microsoft within the developer community should they decide to pursue a platform approach.
This is definitely Google’s opportunity to miss. Google Cloud and its enterprise division are very well positioned in the space of productivity and Google can already power search V2. Additionally, many organizations rely on the search giant for Storage, Sheers, Docs & email which is also one of its fastest growing segments.
This could very well be another product offered as a premium tier of the gSuite or at least use the customer base of the division.
The main issue here is that Google has to face the innovator’s dilemma: how to launch a product which is competitive to the cash cow?
With GPT-3 being offered as an API this means that any startup can basically compete in the quest for dominating this new trillion dollar industry. VCs have also shown a clear appetite for funding productivity and working on the future of search would be as sexy as it gets
This also makes sense since newcomers can have insights in specific use cases for business and enhance search with the necessary tools to make this a complete product for the industry.
I feel inclined to highlight DuckDuckGo as a fit candidate since this approach would be completely in line with their privacy-first and, using GPT-3 as a basis for new search products, with their indie approach.
Conclusion? Brace yourself. Search v2 is coming. it will be the biggest business since Google and it’s up for grabs. Possibilities are endless.
When I think of marketplaces in the future I see Facebook against the world.
Facebook vs eBay vs Amazon vs Shopify vs Craigslist Vs everyone-that-comes-along-in-any-vertical.
A few years ago this comparison would seem nonsensical.
But in the ever-expanding internet universe, these businesses are not commerce, fashion or social. They’re all network businesses.
This makes sense once you look under the hood. Networks don’t derive value from individuals but rather from their interactions. And ultimately, monetize in similar ways:
2. Listing fees
(4. SaaS – but let’s leave that for another post).
So is it any wonder that marketplaces are targeting ads?
Marketplaces go after ads and services
eBay, in its 2019 annual report, mentions that marketplace net transaction revenue grew to 8.86% up from 8.25% as a result of “promoted listing fees”, a nifty way to promote sellers’ items.
The marketplace recorded $85bn in GMV and of the total revenue 7.5% was attributed to…ads.
Amazon makes $12.5bn in revenue from ads, 23.5% up in 2020, which is not far from the rate at which AWS, the crown jewel of the company, is growing.
But it’s not only the behemoths.
Etsy made a controversial foray in advertising revenue. In contrast to the more commonly accepted model of “you may promote your listing” they forced advertisers to pay an extra % in case their item was sold as part of a cross-promotional effort namely Etsy advertising on their behalf across Pinterest, Facebook and Google. In other words, Etsy is no less than forcing their retailers to pay for the services of an outsourced marketing department which is genius and yet a step too far.
Instacart, Deliveroo, Uber Eats & basically any marketplace where sellers are not commoditized (will) offer a promotional boost and eventually seek the ad revenue as the next frontier.
Is it any surprise? Marketplaces exist to allow users to discover and for sellers to sell.
All marketplaces started by offering the same things to users: Search amongst a plethora of suppliers and better pricing as a result of information symmetry. Today, marketplaces dominate by improving the experience of transacting with others.
eBay was the pioneer of this new wave of marketplaces. First it established trust with its sellers reviews. Later by purchasing PayPal, it added further ease and value to parties. Payments not only increased the profit margins but allowed the marketplaces to expand in value-adding services. eBay, using PayPal’s capabilities, added the “money back guarantee” and in doing so, created a new playbook for marketplaces.
One where marketplaces would use their low cost structures and high profit margins to reinvest in streamlining the experience. In turn, users would be happier, buy more and return more frequently. Whilst eBay might be the pioneer it is far from an isolated case.
Amazon revolutionized logistics with Prime and changed eCommerce forever. AirBnb offers insurance to hosts. ThredUp offers to sift through the seller’s clothes, price them and sell them saving them the hassle. OpenDoor is willing to buy house’s upfront.
Meanwhile, internet penetration and digital marketing maturity are increasing driving paid advertising costs up. In turn, capturing a bigger part of the customer lifetime value turned from opportunity into imperative. Capturing a higher chunk of revenue is necessary and a mix of advertising revenue and services offered is the way.
Yet there is one outlier in the game. A network first, Facebook didn’t need to worry about customer acquisition. All of us are there.
From ads to transactional revenue: the Facebook way
Engagement, growth and more engagement. The Facebook playbook in a nutshell. If anything was obvious early on it was that user engagement needs to be protected at all costs.
Facebook holds its users’ real identity and and the responsibility to protect it is a business imperative. Over the years, Facebook has invested significantly in what is internally called “community integrity”. The aim was clear: remove all posts that are net detractors of engagement and stymie growth. This was a key move their predecessors had missed and a precocious one at that.
At the same time functionality built around identity propelled their targeting capabilities to levels previously unmatched – even by Google -.
Sign in with Facebook was a key move that subtly, yet critically, allowed Facebook to break out of its own limitations. Businesses all over the web would allow Facebook to track their users outside of the network. This was a fantastic move for two reasons: better targeting directly improves targeting and thus revenue but also allows Facebook to gain critical data it didn’t have before whilst rooting across the whole worldwide web.
Facebook had secured trust amongst its users. Now it also had intent. And with its advanced machine learning it could mine and classify all sorts of interactions. Recommendations requests. Preferences. And of course, commerce.
The social network had all the information it needed. The best part? Unlike any marketplace, users join and broadcast information for free allowing the business to continually reinvest in engineering tools and targeting capabilities.
What remained now, was to come up with an efficient way to expose that information.
Facebook launched its marketplace in 2016 reaching 800m users in 2018; its foray on search, however, had started much earlier. In 2011, the entity graph was introduced which, given its scale and time, was an engineering marvel.
The original focus was on people’s relationships. This quickly extended to map entities around each user. Facebook was already building an advanced ranking mechanism for listings and items.
And somewhat like that Facebook had the foundations for a strong marketplace of its own with built-in acquisition, trusted connections, never-ending inventory and incredible targeting.
The first steps were ultimately successful as the marketplace reinforced the existing flywheel.
It also provided yet another reason to be on Facebook which meant increase on the time users spent, data the network aggregated and ads served. So far so good.
But to compete in the future of marketplaces, Facebook will need more; it will need to create vertical experiences for buyers and sellers alike.
So the question becomes: Is there anything stopping Facebook from doing so?
The main thing in Facebook’s way is itself
Facebook’s ever-compounding flywheel is predicated on two things: zero cost of customer acquisition and targeting. This is the core asset powering everything very much like Google’s search is powering all its verticals.
But when it comes to commerce, what got the company so far can be a challenge for the future. Specifically, there are a few things that will be roadblocks:
Public market expectations
Finite real estate
The Facebook Brand
Public market expectations
Most startups go through the “valley of death”.
This is the concise way of saying that even for the most successful companies, innovation is costly and to kickstart the flywheel a business – marketplaces in particular – requires heavy investments upfront which may never pay off.
Additionally as capital becomes cheaper and add-on services a strategy for marketplaces (think Opendoor), said experiments require increased costs per unit.
Facebook owns $55B in cash or equivalents. So not a showstopper so far, right?
Indeed, cash is not the core issue. Expectations are. Whilst a startup can stay away from the spotlight for years, Facebook can’t. Risky bets are likely not to be welcomed by analysts not just because of their short-term financial impact but also because they raise questions of strategic coherence. Each new service layer adds costs which are accompanied by more rigid organizational changes. Financing, delivery, insurance – all require customer support and bespoke operations.
Should Facebook start building teams around these activities who knows how that would change the company profile in the years to come? It’s a risk worth considering.
Finite Real estate
You wouldn’t buy coffee from the Coca-Cola company, would you? But you might buy Costa Coffee which is owned by Coca-Cola. And in essence, you’re buying from Coca-Cola without thinking of it like that. A brand is a powerful asset but has its limits.
Facebook diversified its brand on social networks by owning Instagram, WhatsApp and Oculus amongst others. But when it comes to marketplaces it still uses its own brand and accompanying real estate.
So far, Facebook has doubled down on two products: Marketplace and Dating.
Both of them have occupied prime real estate in the Facebook app facilitated by a navigation bar overhaul. The bottom navigation is dynamic serving whichever app the algorithm deems appropriate but currently seems to be pushing dating a lot.
The center of the bottom navigation is so prominent users will click on by accident. But what about all the other applications Facebook has created such as offers, movies and blood donations to name some? Surely, these can all be served by dynamic shuffling in the nav bar but to entrench a position in a user’s mind, more is needed. Facebook will need to spin off its successes for them to occupy their own space on the web and in the user’s mind. And of course that bears the question: would these be successful on their own, away from the mothership and how would that work?
The Facebook brand
Then we have the elephant in the room meta-problem: the better Facebook gets at targeting, the more creepy people deem it to be. This is not a problem that can be shrugged off; the resulting clash is more than a nuisance. It’s an orthogonality between its primary and secondary value creating activities.
To put this better in perspective, consider how a firm value chain works. The value chain represents the set of activities a firm must perform in order to compete. The key idea here is that the activities summed provide a value that is larger than the individual cost.
Each firm has primary activities that pertain to the production of its services and goods and a set of secondary activities that supercharge the primary activity.
As an example consider the cost of creating a pair of shoes.
Primary Cost of material: £10. Cost of labor: £10 Distribution: £10 Secondary
Design & branding: £10
Final retail price: £100.
The key here is that if a business is selling the material is only making £10. So is another firm assembling the shoe (labor). But it’s the business that owns the design, marketing and management of production that reaps the excess value of the final price.
And this is what great businesses do: operate an individual value chain synergetically to position itself as a dominant player in the industry value chain.
Under that lens, here’s what the Facebook Value chain looks like for marketplaces.
The primary activity for Facebook is to add more users to its network, keep them engaged, and then show them listings that are relevant to them across categories.
And all of it is underpinned by excellent targeting capabilities which in turn rely on an endless stream of information people give Facebook.
And here lies the conundrum. The better facebook gets at targeting and predicting the needs of the individual, the more disliked it becomes. It becomes “creepy”.
In all fairness, creepy is a compact way of saying that Facebook inadvertently surfaces the existential anxiety in all of us. Facebook’s algorithms expose our flaws, predict our desires and in doing so remind us how vulnerable and normal we all are.
Beyond philosophical implications, this is bad for business. Facebook is not “cool” and this is costing in terms of new community monetization and capturing value.
While disliking the brand won’t be a showstopper for the daily mindless feed scroll, it certainly is an issue for services that Facebook would be primed to capitalize but require a different level of trust and brand association.
Brand is important for a simple reason. Every purchase we make is a vote in the community and culture the brand stands for.
eBay introduced a world of discovery and bargain. Staying at an Airbnb still maintains the edge of the experimental. Etsy supports the creators.
But Facebook is a threat.
Would anyone want Facebook to become their general practitioner, insurer and bank with which they pay both of the above? Unlikely.
Corporate strategy argues the firm should leverage its existing assets to optimize the chances of continuous innovation. In practice this means that you don’t expect a grocer to produce shoes or a fashion retailer to do research on chemicals. Each to their own.
Similarly, Facebook’s core asset is the astounding engagement of its user base. From the perspective of building marketplaces, Facebook has no cost of customer acquisition (CAC). Its users keep coming back and that is an opportunity to promote more ads.
This creates a virtuous flywheel. User A brings User B. Together they stay longer in the network and consume more ads which in turn help businesses and Facebook grow.
There is a stark difference between the growth curve of the advertising business and Facebook’s. Whilst the business grows its cost and revenue somewhat proportionately, Facebook’s net revenue increases while its cost structure remains the same. In other words, Facebook’s profit margin from advertising increases without further effort.
This is part of the Facebook magic. And so here lies the other question:
When does it make sense to risk enraging your advertisers to pursue a new business line?
When a user posts something in the marketplace, it is visible to all. Again, staying true to the flywheel logic this is perfectly sensible. Every post is another attempt to keep people on their screens.
Despite the marketing attempts, users will still feel wary of being exposed to a certain extent. After all, it’s their own identity. And since dating requires time and exposure, there should be doubts over long term user retention. Same goes for all activities which are deeply personal.
So, looking ahead what is Facebook’s marketplace endeavor going to look like?
The future of Facebook marketplaces
Here’s what seems likely to happen then in the next 5 years and how nascent marketplaces should view the giant.
Facebook will invest in engineering driven services with high profitability to add value to its marketplaces (e.g. payments).
It won’t venture in categories where it would require an overhaul of mindset and cost structure (e.g. iBuying).
It is likely to launch further marketplaces in verticals with low set up costs and a strong human touch (e.g. recruitment)
Finally, for the attempts which will work we might see them to be separated from the core site/app and try to capture their own space (e.g Dating, Marketplace).
Facebook will invest in payments & engineering driven solutions
Facebook will aim to capture the transaction in-network. Whether that is within the Facebook marketplace, through WhatsApp or as a tool via Facebook Pay the intent is clear: own payments when a transaction occurs.
This makes a lot of sense. Payments bode well with the general strategy of the business. Rely on technical implementation, have low marginal costs and keep the users in the network.
Similar services: ID & verification, insurance underwriting, psychometric matching.
Won’t venture in new categories
Facebook is unlikely to go after innovations that require an overhaul in its structure and mindset.
For Uber to scale, Uber partnered with maps, car manufacturers and even set up physical stores to serve their drivers’ queries. And Uber is still in deficit.
Whilst Facebook could rely on individuals to create its own mobility network, immersing itself in the operational side of it seems unlikely.
Service based marketplaces
But it is likely that Facebook will not stop fighting for services. Should dating work, this will herald a new playbook for Facebook. One where it can monetize 1-to-1 relationships.
And in services there’s all that. Recruitment being a close relative to dating and a huge market. And given Facebook is already eyeing up work, similar experiments in job seeking seem sensible.
Facebook will spin off apps
As Facebook tries to deal with the finite space it has to entrench itself as many more things than a social network in the mind of its users, it makes sense to spin off its successful apps to extend the real estate it owns within our smartphones.
Consider this as an emancipation moment and a filtering process:
Is an app established enough to stand and grow on its own? Spin it off
Is an app in need of the Facebook mothership? Position it in the middle of the users’ screen till it becomes a habit.
What does this mean for vertical marketplaces?
In the categories Facebook will venture into, marketplaces will face increased competition. This might not be felt immediately as the eCommerce market is growing but it will intensify the need for differentiation.
I expect that more and more marketplaces will compete on the Experience layer of the transaction (delivery, fintech, services) which in turn implies a higher cost structure to start a marketplace.
For the moment, this is ok since Venture Capital is at an all time high. From a cultural standpoint it becomes difficult to be an founder running an indie marketplace (like yours truly).
However it seems unlikely that Facebook, despite its unfair advantage, will become an unstoppable marketplace factory anytime soon and likely that consumers will reap the benefit of increased competition and corresponding innovation.
You are reading Part 1 of a 3-part series on the publishing industry.
Part 1 is about the past. Specifically, the internal mechanics of publishing and the forces that defined the industry’s response to Google and Facebook.
Part 2 is about today. How has publishing adapted to the change, what is working and what is not?
Part 3 is about tomorrow and what sustainable news & content publishing can look like.
If you thought Google and Facebook killed the news industry you’d be right; but only partially right.
It is true that the internet nullified the raison d’être of buying the paper. It’s also true that these two internet behemoths robbed the publishing industry of its audience and the attention that came with it.
Disruption is the inevitable outcome in the life of any company. It is not possible to predict the future; it is within the realm of possibility to respond to the present. And that is where news has failed; in providing no response of their own for the past 27 years.
This is a story of games, corporatism, and misaligned incentives. Let’s start at the beginning.
The business model of news
The first colonial American newspaper was printed in 1690. The New York Times is 169 years old. The industry itself is 330 years old.
As it often happens, the news revolution was kindled by matching idealistic founders with a technological revolution; in this case, the printing press.
In the process of distributing the news, the founders of the first newspapers were the first to capture public attention en masse.
And in doing so, in these past three centuries, newspapers have enjoyed their fair share of influence, and profits. So much so, that there is a special term for their importance in our society. “The fourth estate” was coined to denote their crucial role in regulating our society. There was no other industry that enjoyed this level of attention.
If anyone understood the importance of how stories underpin economic value, it was news publishers.
The news was immediately entrenched in society and publishers exerted a strong influence in the public sphere. With an addictive product, the revenue model was simple. Want the paper? Pay per unit. Want to read more newspapers? Buy more units. Circulation became the core metric. And circulation skyrocketed.
At the beginning of the 20th century, advertising found its natural place within the newspaper and the combined business model exploded. Advertising had zero marginal costs from a print and editorial perspective but all the upside. The news started selling the attention it captured.
And the cherry on the top? Starting a newspaper was hard. Matched with a high barrier to entry due to fixed costs (printing press, distribution) news publishing offered a recipe for a long-term oligopoly.
The news business model had been on an unstoppable growth trajectory that would last almost 100 years.
Internally, the job of a journalist was perceived as an elite craft and the editor’s job was revered. Editors commandeered the nation’s attention and journalists instigated commercial, political and social action one word at a time. The editorial team were the superstars of their industry basking in the widespread belief that revenue and influence stemmed from their actions. This level of attention is addictive and when the individual finds themselves in the middle of change, change is not welcome.
News itself was a cornerstone of society, a part of the system. The most brilliant of the institutions. The blueprint of a corporation.
Fast forward to the end of the 20th century.
The market had reached peak maturity. Revenue concentration, combined with barriers to entry has led to consolidation leaving a few despots and trusts running the show. They had become part of the establishment.
And then the internet arrived.
Going free online (1994 – 2006)
Today it’s clear that the orchestrators of the internet, Google and Facebook, won our attention and the advertising dollars that come with it. In hindsight this is obvious. However, it could have been different. It started with one crucial decision: posting online for free.
The Telegraph started posting online in 1994. The Guardian in 1997. Both for free. Reading the news online for free is a given today but at that point paying for news was standard behavior. In fact, the only behavior. So why go free?
It is true that payment technology was embryonic (PayPal didn’t exist) and people’s appetite for transacting online was nonexistent. But even then, there could have been simple ways to work around this. News publishers had tight relationships with distributors and could reach corner stores, kiosks, and off-license shops. Selling a digital subscription through print would require a passcode within the newspaper to access a site. Or one providing yearly access. Cash could be exchanged physically at the point of purchase. Technicalities were not the sticking point.
The first reason that emboldened publishers in going online early and free was conflating the notion of readership with that of a loyal audience. This is justified as in the past circulation was the only measure of both revenue and attention. Paying for information was a good enough signal the customer cared. And so, the presumption that readers would be loyal online too was not scrutinized. Circulation online was named traffic – the new core metric that mattered.
Since traffic was important, missing out on the new way to capture the audience bred fear. Fear of missing out. Every major publisher was petrified by the “what if” scenario where the internet explodes (hint: it did) and they missed out on following their audience (online).
The reasoning went as such: “If we go online, we can capture a new audience. And if we go free and the competition goes paid, we could capture their audience. In the likely scenario our competition goes free as well, we find ourselves in a good position for the future. This is more important than payments for now.”
So before understanding the threat of Google and Facebook, the news publishers viewed the internet as a Zero-sum game between themselves; one in which they were compelled to participate.
To exemplify, assume a total market of 100 readers. Then a simplistic version of the publisher’s perceived payoff of going online in 1997 would look like this:
From a short-term perspective, publishers were incentivized in going free. Going paid was also tricky as no one could predict the trajectory of news monetization online. What would be the right business model and how many people would be interested in reading online was unknown. In fact, buying a paper every morning was more convenient than downloading the news via a clunky modem on a slow churning PC.
But in fear of their competitors thriving in the new medium, going free was a “what if” inspired action, a defensive play. Assuming a static order of things, there is certain merit to this logic.
This period lasted approximately 15 years. It was not until 2010 when it became clear that the drop in print revenues was not a blip but rather a combination of broadband penetration, Google’s search dominance, and Facebook’s 600 million friends.
Monetization online was still a question mark albeit one thing was clear; the open web was not good for business. Print circulation and ad revenues had been in decline for the past 5 years, quickly depreciating the once most valuable assets of the corporation, the printing press.
The time to be nonchalant and experimental had run out. Still, no business innovation. The News industry decided to chase pageviews instead of long term viability. This time it was not games of fear but rather corporatism and misaligned incentives that got in the way.
Why the publishers didn’t react: an ode to corporatism (2006 – today)
This might not be obvious yet it’s not an overstatement; the executives were, in fact, incentivized to avoid innovation. Here’s why.
The executive team (CEO, CFO) would set a strategy. Since they are appointed by the BoD, this is who they answer to. Their career success hinges first on staying in good terms with their managers, secondarily with the City of London (or Wall Street if you’re in the US), and then and only then with their customers.
Of course, where you pay attention defines what you see.
Inevitably a CEO who wants to maintain their position has to keep the BoD and thus the stock at a stable level. How is this going to happen? Generally, there are two options: go after the market or go after internal mechanics. The former involves increasing market share, product innovation, and revenue with customers. It assumes entrepreneurship, innovation, and taking uncomfortable bets. The latter implies cost-cutting. And it bodes well with the corporate management approach.
See, under the corporatist view, the interrelation with large institutions is the primary driver of value rather than market competition and innovation. Customers are simply in between and disposable. And institutions want to see higher earnings per share. And so innovation was too risky. It could rock the boat.
And there was the spin. Traffic was growing rapidly and despite digital advertising margins squeezed by Google and Facebook, the digital ads revenue was growing too. So, it was easy to present a story hinged on digital ad growth as a deus ex machina somewhere in the future.
In parallel, circulation was plummeting for every publisher and the return of the fixed assets -printing, factories & distribution- is diminishing. This means one thing: an opportunity for consolidation. Consolidate printing and distribution, reduce the number of employees, increase prices per unit, and increase operating profit in the short-term leaving the long-term business model question to the successor. Such is the corporation.
In the UK, there’s a perfect example: Reach PLC (FKA Trinity Mirror). In 2015, Reach PLC acquires Local world, a large regional publisher. In 2017, the Guardian scraps their £80m printing facility in Manchester and outsources printing to Reach PLC. In 2018, Reach PLC acquires the Express and other core publishing assets from Northern & Shell, combining circulation and revenue. Their operating profit margin increases almost every year whilst revenue like-for-like (revenue without the contribution of the acquisitions) drops sharply.
Meanwhile, quantity over quality becomes an unspoken rule. Journalists are judged by the number of pageviews they rack up. Each journalist is required to publish multiple times per day at an average reach of 10,000 views per article, so that a stifling number of ads can be inserted and the short-term digital growth bubble won’t burst. The editorial department sees its craft slowly commoditized and finds itself ensnared in an existential crisis. A once symbiotic relationship between them and their corporate patrons becomes a balancing act ahead of a rift.
The effect on the product is also clear. Bounce rates are higher than ever, brand loyalty eroded and publishers are commoditized further, one post at a time. Editorial is not allowed to invest in what they do best; corporate is focused on margins and technology is a catch-up play. No hint or attempt for product innovation.
The new strategy and story to stakeholders is simple: maintain a strong cash-flow position derived from the declining print revenues until digital revenue takes off. The elephant in the room is this won’t happen and it’s obvious both for strategic reasons but also by looking at the numbers. Given the digital advertising value chain, ads revenue for newspapers will never take off to cover for the loss of print revenue.
Yet, this is a long-term problem. In the short-term these moves have a positive effect. Operating profit is increased and that is the goal. So much so, that the new CEO’s bonus is 70% influenced by operating profits and only 15% by “strategic goals” i.e. product innovation. The other 15% is revenue. However this is the same remuneration structure the previous CEO was offered. Perhaps an optimistic bet – if not naive – to replace the individual instead of the goal structure, especially since the CEO’s goals cascade over layers of the business stifling innovation. Then there’s the cynical view: pointing the finger at an individual is more convenient.
The narrative was found at last. But it was not one to inspire editorial, employees or customers. It is one of a beleaguered, ailing industry that is willing to do anything to survive. Erode its core value, destroy product integrity, and trust. A narrative suitable for Boards of Directors and investors. Publishers can keep on painting a positive picture of recovery whilst fundamentally passing the pressing question “what are we doing in the future” down to their successors.
Financial analysts herald consolidation and cost cuts as moves to efficiency. The exec team will be deemed successful by executing on the strategy they set out and approved from the beginning.
But in truth, at this rate, most news publishers will not make it.
At last, startups are making shy steps towards a sustainable business model. Fake news, clickbait, and rigidity in news reporting have intensified the necessity for quality news and thus, business innovation. New organizations are embracing the world of social media and leverage niche audiences. It is still to be seen whether news publishers can ever reach their old glory and society can maintain the integrity of the fourth estate.
In the next part I examine news (and general content publishing) revenue models of today. What works, what doesn’t, and why.
Disclaimer: From 11/2016 till 6/2018 I acted as an Entrepreneur in Residence at Reach PLC working under the CTO to diversify the revenues of the business. The above post only reflects my personal beliefs.
We reached the point where the functionality of the <href> attribute needs to be extended. Links within an article -like the one you are reading – aim to provide context or reference for the main object of interest i.e. the page currently accessed.
However gaining access to the contents of the link, means reprioritizing attention (change url, visit the link) OR not gaining value at the time needed (open tabs, read later).
In a low bandwidth world when internet protocols where still shaped, this made sense. Unsurprisingly, the mental model of the link is similar to a pointer in C.
Given that the utility is not fit for purpose anymore feels like rather than choosing it we keep it as we have not questioned it.
The notion of a “link” could be much more versatile, such as a) being embedded like <video>, b) adding controls similar to autoplay and c) becoming intelligent i.e. selecting the most relevant bits of the referenced source to show as an interstitial within the article.
Mostly, this would be a better experience but it also would have a heavy implication on traffic distribution. Users would visit less sites and thus consume less ads. You can immediately see who’s losing in that scenario (hi google). That being said one’s loss, another’s opportunity.
This is a geeky topic I would like to talk about. Hit me up if you have any thoughts on it (technical/commercial) – might be interested in building something in the space.
Alternatively, if you’re reading this and thinking of building solo, still do text me. I could use a better reading experience online and would be your first user.
Before the internet, publishers were in a very privileged position. Controlling the printing press was a true competitive advantage. Similar to other mass-produced goods, the machinery necessary to replicate the news of the day at national scale came at a high cost and the right to participate in the news creation did so too. As a result, the publishers controlled their geographies, their audience, and the advertisers who wanted to reach their audience.
Then along came the internet. Fixed costs for content production dropped down to (almost) zero. What used to be restricted information became abundant and personalization rules in abundance. Google and Facebook are the clear winners of the information economy and advertising online was the prize.
Mistaking a platform for a channel
Both won by imposing their own rules in the discovery and distribution of content, and eventually owning the audience. Initially, both were heralded as great marketing innovations.
Publishers were mesmerized at the potential of a new global, growing reach. Before programmatic advertising and the maturity of hyper-targeting this was great news. Google and Facebook were seen as channels serving them, not as platforms serving themselves.
The shift from paper to digital delivery of news left publishers with a fraction of the advertising revenue they used to gain and a steep decline of the print circulation revenue. A double whammy.
This has been a bleak and deteriorating reality ever since. The scariest part of which is that it’s been 26 years since major publications launched online and it’s only now that the first signs of economic sustainability appear.
Perhaps not obvious at first, but the restaurant industry is following the same footsteps, commoditizing itself one delivery at a time.
Food delivery as a utility.
In the UK, Deliveroo, like many a great company, started with providing value to a niche. Casual dining was the target. Connecting those establishments which didn’t offer delivery to the upper-end consumer who valued quality and convenience above cost, the goal.
“We are a restaurant, not a takeaway place” was a common thought for a lot of restaurants initially.
Deliveroo’s offer (and their sales) was hard to ignore. Off the back of the normal operation, why not make extra money? Deliveroo would make money from the extra fees clients paid. The restaurant didn’t pay but a small fee (if anything).
In the beginning, Deliveroo was the perfect utility. Since the cost was zero or very low, restaurants were incentivized to inform their local base that now they could reach them even more conveniently; they could deliver the same quality of food at home.
This was fantastic and it didn’t affect the restaurant’s economics. Deliveroo was a (near) free marketing channel.
Abundance, commodity and owning discovery
While hindsight is 20/20, in the moment it is not easy to spot the inflection point where a short-term opportunity turns to a perilous force. And this is because there was no qualitative change in the nature of the service to inform of the upcoming disruption. It was the users’ attention that shifted as a result of repetitively using the service.
Initially, customers would use Deliveroo or the other delivery companies (mainly Uber Eats) to get their favorite meals delivered, from their favorite places delivered. As the value of the service was higher than the delivery fees associated, usage increased and eventually the nature of the question changed from “how can we get X delivered” to “What are we eating tonight?”.
What started as an “add-to-basket-and-go” experience, was now turning into a discovery session.
As customers got habituated to using one place to get food delivered and, more importantly, to get inspiration, the power dynamics gradually shifted. Customers had less of a reason to stay loyal to the local pizza shop nearby. Why would they? Another authentic Italian Pizza place with great reviews was now able to reach them, sometimes enticing them at an even lower price, courtesy of the delivery companies.
To the discerning eye, the power to sway customer preferences is a pivotal moment. The channel was on its way to become the platform.
At the same time, this was but an imperceptible change for restaurants themselves; each place kept seeing their delivery revenue steadily increase and so did the confidence they placed on this quickly growing stream of revenue, devoid of quantitative concerns stemming from a drop in customer lifetime revenue. After all, such are the concerns befitting a tech company, not a restaurant. To their detriment, this is a view a lot of restaurant owners share as they prefer focus on the creative part of the experience.
The delicate balance of indulging their customers in trying the various options available whilst continuously growing revenues for restaurants was sponsored by the humongous growth of the delivery economy with the Venture Capital industry picking up the bill. In other words, the volume of orders for each restaurant was a derivative of market growth, not the performance of an individual operation.
The result might seem obvious now but not so much then, especially not from the perspective of the restaurateur who experienced a booming business. For every new order they accepted however, the relationship with existing clients was diminishing and new clients were not represented by a name; a fleeting order ID sufficed.
More choice for clients equaled a lower volume of repeat orders to individual restaurants. In return, as restaurants had a wider addressable reach of clients, an equilibrium was found.
Finally, customers were now loyal to food delivery companies which dictated the discovery, delivery, and payment for food.
And for this endless growth to be sustained the rake doubled to about 30%, charges were placed on the restaurants rather than the end consumer (or both) and delivery fees became “variable” (increased). Delivery companies now control the value chain and it’s time to squeeze as much value of the proceeds as possible, leading restaurants to re-think their razor-thin margins and business relationship with delivery companies.
COVID and the acceleration of disruption in the restaurant industry.
This was a slow process but then COVID-19 happened. And any lingering doubts were removed. Restaurants had two options: sign up to the delivery platforms or shut down. Or both. But one thing was clear: this was not the promised land they signed up for.
At the current pace and given the dynamics of the industry here’s what to expect.
Kitchen and restaurant unbundling. Low cost space “dark kitchens” become mainstream. Restaurants are struggling to compete in an industry where their sole contribution to the value chain is a commoditized product. All other value-adding services have been stripped away from them. Marketing, payments, delivery operations, and real estate (dark kitchens) belong to delivery platforms.
And just like that, restaurants are in the shoes of the publishers. Losing their customers attention means gradually giving up on their sovereignty.
Dominant marketplaces inevitably give birth to individual creators
But we have seen this cycle before. When a network reaches maturity and moves to a value capture phase there’s inevitably an economic incentive for creators, solopreneurs and SMEs to compete against the network and capture value from customers on the fringes of the network, kicking in another cycle of creative change.
As Amazon grows to unprecedented level, Shopify is growing even faster.
Substack grows in tandem with Medium and traditional media as the appetite for content is at an all time high.
This should inform us as to what might happen in the restaurant industry too. Restaurants have traditionally been low-tech, focused on fly-by traffic and didn’t have incentive enough to act any different.
However, there have been significant changes in the past 5 years. It is now possible to outsource delivery, have a direct relationship with customers and finally, capture the whole transactional value. And of course, now it is a matter of survival. How can they compete? Customer loyalty.
Lessons from the publishing industry moving forward
I’d be surprised if the dominance of the platforms was to be challenged anytime soon. In a way, it’s too soon. It’s the boiling frog effect once again and things won’t change before they get any worse. Delivery platforms play a significant part in keeping the lights on and, as such, it’s difficult to envision radical change.
But were things to take on a drastic change of course there’s a few lessons from the publishing industry and there is a few reasons for drawing that parallel.
In the attempt to own their audiences, publications have turned to multiple media and in doing so generate revenue from multiple sources. Subscriptions are starting to work, podcasts attract a different set of advertisers, events capture the value of an audience and social media drives premium newsletter sign ups that allows publishers to connect with their audience. Additionally, these exact same tools are available to micro, small or large enterprises.
A similar path seems possible for the restaurant industry.
From loyal customer to member: a viable path ahead
Despite the recent slump in retention, restaurants are indeed a high loyalty sector which becomes obvious with a quick glance at Deloitte’s report on restaurant spend. 49% of visitors spend at least 25% of their total restaurant budget in one place.
A loyal customer would be someone eating there once per month which looking at the graph above should be represented by the segment of people who spend 25% of more of their total restaurant budget, assuming eating out once per week that would be once per month. If that was the case there’s 49% of people that each given restaurant could target to convert.
Of the roughly 100 customers an average restaurant (25 seater) serves per day, or 3,000 per month we can assume that at least 10% will become repeat customers. This means that a restaurant hosts roughly 300 loyal customers monthly.
The second important metric that Deloitte points out was that (in casual dining) 9% claimed they’d be amenable to a subscription offered by the restaurants they visit and they’re likely to dine again.
It’s reasonable for a restaurant to convert 10% of its 300 loyal customers each month and expect these customers to do so with an increased spend. This would equal 1% of the total footfall.
In other words, this restaurant, assuming no churn for simplicity, should aim at 360 members in a year. Taking an Italian restaurant as an example and £15 as the cost of a pizza, it’s safe to assume the average member spend could be £25, the price of two pizzas discounted by ~16%, as an example of a simple membership perk.
That would amount to gross sales of £108,000 in annual recurring revenue or roughly 60% of the total revenue the restaurant would need to be viable.
The restaurant owns its audience.
Starting as low tech as a QR code on the food box offering a perk and later through a combination of email, SMS or even a Facebook Group the new wave of restaurant operators would have the ability and the mindset to harness a community.
In an era where people are spending more time than ever in their local area and their social fabric has been eroded, the community feel (even virtual to begin with) is more important than ever.
Community, multiple touchpoints and revenue diversification.
On the basis of creating a community, a restaurant would seek to use an array of channels to deliver and capture a higher part of the value of their members. Educate on all culinary topics, offer exclusive perks (e.g. private dining after hours is a great one), exclusive meals (specials of the day) and/or cooking classes “how to cook X on your own” are some very basic examples. Especially since once owning a community, monetization opportunities present themselves.
Restaurateurs as creators
Operating a community, subscription management, and payments is a solved problem and very much in the scope of being a creator. Finally, delivery can be outsourced to a 3rd party, dedicated delivery service companies like Stuart.
And this is already a big part of the value chain.
Expect steps in this space and along these lines to be few and far in between as well as clunky for a while until dedicated SaaS platforms (an opportunity there) to arise to streamline these operations for a fraction of the cost.
I’d be keen to hear from operators. If you’re in the space thinking along these lines, feel free to reach out, I’d like to hear from you.
Restaurants* there is an implicit assumption that for sheer takeaway places things might stay the same since their margins were already low; in this article I mainly refer to restaurants offering seating which also didn’t offer delivery traditionally aka the casual dining part of the market.
But PMF is hard and no matter what process you use it’s an elusive concept. It will take time and you will get stuck. So before you start thinking about that, there’s the prerequisite you, the founder, are the right person to take on this challenge. Founder market fit. Perhaps the most important, yet under-appreciated, part for the success of the business. It’s not a frequent topic of conversation. Early stage investors though do understand this and as such they want to know at least two things:
Is this founder technically equipped, or even better “the only one”, to execute on this problem? A perfect example would be Patrick Brown, from Impossible Foods. A professor in biochemistry decides to start a plant based burger which tastes and feels like real meet and to do this he will produce a lot of heme from plants. The whole business is based on a scientific insight only someone with this background could have had, recruit a team for and execute on.
What is driving this person? How do we know they will keep on going when things get hard? Once more, Patrick Brown. To come up with Impossible Burger, Patrick took an 18-month sabbatical to think where to focus his energy on and decided starting this company is the best way to go about protecting the future of the environment.
Not every case is so clear cut. Very often a founder will stumble in an industry as a customer or have an itch they’re trying to scratch themselves. And then there’s a need to assess how well that person (you) can operate in this industry. Is it a good fit for you, the human?
More often than not, we get excited about the idea, the product, the customer and don’t examine the long term match of the person in a particular market.
However, if you are starting a business and you’re going to dedicate years of your life in, you better make sure the every day life in your chosen field adds rather than drains your energy.
A fundamentally wrong argument that can mislead is to think you will love the process no matter what. Yet the process is not an esoteric task; rather it’s a by-product of the market you’re in.
It’s not obvious and easy to confuse. For example, you might think that a mechanical engineer would be a great fit for the automotive industry: (s)he has the credentials, the quantitative background and might see solving hard problems as their mission and hobby but: how would every day look like? Would they thrive socially within a manufacturing culture ridden by safety and regulation? Is is possible to work remotely? What about dressing in a particular way? How does that affect the rest of the day? This might seem trivial from the outside but it’s every day. And “every day” follows the magical trajectory of compounding.
With that in mind, here’s some thoughts on areas to research to conclude whether you’re a fit for a given market.
Market dynamics: What’s the market currently like? Is there fierce competition already? Is it a rapidly growing and nascent or boring old market? Depending on the state of the market you may have the ability to stay in stealth or need to go loud and quick. This implies a whole different setup, day to day life and organizational structure.
Business model: Your business model is not your revenue. It encompasses all the exchanges between people and systems to create (product), deliver (marketing) and capture (sales) value. As such, the founder’s obsession needs to serve the business model. When Jonah Peretti decided you start BuzzFeed he was deeply interested in the mechanics of why people share content. Or take Ray Kroc of McDonald’s. Relentless in the pursuit of opportunity and deal making. A salesman by nature, he grasped the potential of expanding McDonald’s from a nifty restaurant to a global phenomenon by selling to franchisees that involved constant, rutlhless deal making. Now imagine if they ran each other’s business. Not so obvious, right? Is the problem the business requires the one you’re inclined to solve?
Key activities: Then depending on your business model, you will have certain key activities that are not to be underestimated. These are the things that will actually occupy your day to day. For instance, running a sales driven business is fundamentally different than an engineering one. HR. Culture. Metrics. Discussions. Amount of deep work. Everything is different. In a Sales driven organization you get shorter reward loops and morale is crucial. Communication is necessary, managing expectations too. And to run a top tier sales organization you will need a formula for your people, very aptly described by Marc Roberge in this book. On the other hand, if your business is engineering led things might be different. You will need to expect long reward loops, perhaps with no rewards for a long term, intellectually challenging conversations constantly and an analytically driven mindset to prevail constantly so that product quality is maintained.
People and culture of the industry: And finally, the people and culture. Say you like finance. Do you like financiers too? Getting to like the people you will be selling or working with might be the most important thing. If you don’t enjoy your interactions, even if they’re minimal it is bound to cost the business. At the end of the day, businesses are a bunch of humans together and each business shares its own culture, rituals etc. Here’s a real life example when things went awry. A friend was part of a prestigious incubator. Built a SaaS business in the fashion industry. The business case was there. The salesmanship too. But the business didn’t take off. At the time, him and his co-founder were not even clear why. After the dust had settled and time had passed they told me: “It was impossible to get our point across. They didn’t get us. It was really frustrating”. Currently, the two of them have taken on a new business with great commercial success in another industry – oil and gas. It turns out that selling to geotechnical engineers and governments (!) was easier to them compared to selling to the fashion industry.
So, ask yourself: will you be happy in your market of choice, given the necessary responsibilities and the people that come with it?
If not, then you have a problem. In fact, I would argue it’s such a problem you should choose to focus on another business, one that feels like a great fit.
How to solve Founder market (un)fit
Still want to go in? In that case, here’s some suggestions:
Find a co-founder that is deeply entrenched in the industry. If the market you’re in is not one that is a great fit for you, you can substitute some of the problems by getting a co-founder or senior executive to work alongside you. To open doors, develop relationships and generally do all the things you dislike. Usually, it will someone more senior with experience and an interest to join a smaller company and of course you will need to be very persuasive because these people are hard to come by.
Get Social proof. Start with investors. Now you don’t just need money, you need smart money. In this case your investors are signalling to your market that you are important and worth listening to. Are you in Oil and gas? Get BP to invest in you.
Get influencers and create thought leadership. Then you invest in thought leadership. If you can’t be the voice, use your resources to befriend those that are and get endorsements.
Conclusion? It is going to cost, will feel uncomfortable and will place higher demands on you. The need to fundraise differently, hire differently, grow a larger team and a brand early on etc.
There you have it. Founder market fit. It can make or break your business so ask the hard questions and ask them early. In the end, you need to feel good to perform well.
Analyzing markets is not an easy task. It’s going down the rabbit hole. Dynamics, competition, fragmentation or consolidation, PEST, TAM, SAM, SOM are just the tip of the iceberg.
That said in competitive environments, there is one ratio that stands alone. Market growth.
Jeff Bezos apparently decided to start Amazon upon realizing that the internet was growing at 2300% YoY.
From a product strategy perspective it might feel easy to discard market growth as another statistic. In fact, you might go as far as to say that a differentiated product offering would fare better against a steadily growing (stagnating & mature) market which is already shaped and rigid where differentiation has the ability to disrupt, erode, and re-distribute (to your benefit). And that is true. It can happen. But it’s against the odds success where a startup disrupts an industry, not the norm.
In practice, high-growth markets have a few fundamental advantages.
High growth rates coincide with medium to small markets driven by early adopters. Easier to identify, target, and create early communities.
Growing demand means that supply can have healthy margins. Since the market is growing and demand often outstrips supply, there is no incentive for suppliers to engage in price wars.
Paid acquisition is very low and it’s possible to acquire customers at large.
It’s possible to grow without a highly coordinated & sophisticated marketing plan.
COVID, Cycling and bike shops
Bike shops are a good example. It’s September 2020. The restrictions of the pandemic are very much in place. One of the (few) good outcomes of the pandemic is the rapid rise in cyclists where at least in the UK, their number of increased by 100% within 8 weeks.
Have you passed outside a bike shop? If you haven’t and you want to see the effect of rapid market growth in practice, find the most obscure bike shop, one without a website, and pass by on a random weekday. It’s very likely they’d be packed.
In fact today, I had to wait 1.5 hours to get a simple fix on my bike at a mom’n’pop shop that does not have a website or any market presence whatsoever. Why? Simple. Before COVID 42% of people > 5 y.o. had access to a bike and 8% cycled weekly. Within a space of 8 weeks the total miles increased by 120% and since all other means of public transport fell by a whopping 95% the urgency to fix our primary vehicles elevated from a “to-do” to a must-do. Result? Bike shops are getting customers left right and center with no effort. The market is pushing them up.
Market growth first, company second
The bike shop example showcases a fundamental truth: Jump on a wave and the wave will help carry you. In the case of the bike shop, it’s literally “Offer to fix it and they’ll come”.
In the case of a new business? Its so much better to follow market growth than not. It’s not just another metric. Then again, you can always go for a bike shop.
Our society likes to glamourize genius, overnight successes and anything that can be attributed to inherent advantages. If you’re remotely close to VC-Twitter you’ll hear talk about brilliant founders; if you’re into sports, journalists talking about talent and in dinner parties where “charismatic” is the common description for successful people. It turns out things are a bit different and if anything, for better or worse, intelligence does not matter a lot.
There’s a few sound arguments against genius myth:
1. The intelligence delta between a “genius” in the top 0.1% and an upper bound average average individual according to their IQ is roughly 30% (average between 110 and genius = 140).
This means that at any given point, someone can be 30% faster compared to another average person at the same topic. Assuming all other personality traits and background to be the same, then it would take the average individual ~ 1 hour more to work through the 3 hour problem the of the high IQ.
Considering that most people spend 1+ hours per day in social media, this does not seem a lot.
2. There’s a few researchers and authors who make a great case that “compounding” returns is what make a difference in achievement; not inherent ability. Malcolm Gladwell talks about this extensively in his book outliers, introducing concepts like the 10,000 hour rule and “concerted education” and Angela Duckworth in Grit where she explains her model that achievement = passion x effort =>Skill x effort = achievement.
In other words, anything worth mentioning takes time and even if someone is 30% smarter, they need to put in years of work to create something remarkable. Then intelligence does matter. But if someone is smart and quits in a matter of months and someone is less intellectually apt yet passionate enough about the task at hand to dedicate years, the winner is clear and it’s not the most intelligent one.
Considering how many people truly excel and the time dedicated, It’s more remarkable and rare to score high on grit and perseverance than intelligence.
3. Take a really fast computer to solve complex problem with a large dataset and run a dumb, inefficient algorithm and you will be disappointed. Take a mediocre computer with an optimized algorithm and rest delighted in the speed differential.
This is so true in humans. Where software, replace with mental models and thought patterns. Our lives and the decisions we make are vastly more complicated than what we can process alone. We rely on collective knowledge and intelligence to survive. Good decision making is much more important than raw processing power and yet it’s not the smartest that makes the most efficient use of mental models or perspective. It takes training, not ability.
4. Capital is the largest intelligence differentiator.
Capital allows indiscriminate additions of intelligence to one’s roster.
Almost certainly it’s better to work with a designer, a programmer and a writer than you doing all these jobs. In fact, mental models imply this would be wrong (context switching costs).
This is also useful in answering the question:”Should you hone your skills or strengthen your weaknesses?”
Slightly tangential, yet I think it’s fair to answer: None of the above. If you want maximum impact, partner with others and let them hone their respective strengths to complement your weaknesses.
Of course this answer only fares well from an organizational perspective but is there a worthy pursuit which only an individual is interested in?
Coincidentally the reasons geniuses don’t exist is also the recipe to productivity, purpose and achievement. Go make your genius.
Sometimes a marketplace is flawed and headed for a tough time before it even begins. But it’s not unlikely that this does not become evident until £20m has been invested. So, it begs the question: how can you know if that is the case and what can you do about it?
Network effects, liquidity, TAM, are some of the many things that a marketplace needs to get right. All very aptly described by Bill Gurley here. The list in the post is informative, concise and certainly correct. But if we were to put these in a timeline, gap related to the execution in the middle emerges. For instance, you can know if you have a big market from the get-go and by the time you experience network effects it all gets easier however, everything in the middle is murky, complicated and multivariate.
In a 2018 post, Eli Chait published a very insightful piece where he correlates the fragmentation of buyers to marketplace success.
Effectively, his research reduces the complexity of the first list to one metric that’s a bit meta; he’s positing that for a marketplace to be successful there is an inherent characteristic the market needs to possess and that is a very large amount of buyers (1 million buyers for one business) and for those buyers to also be fragmented.
This is a useful point because it identifies the principal component of success amongst many other variables and thus simplifies the problem. Can you get a million buyers? If not, then the cards are stacked against you.
Once more, if you have 400,000 buyers already this is a meaningful insight. You can approximate the value per added buyer in the network and roughly calculate if you can escape velocity through network effects.
But what if you’re just starting? What if you have 100, 1000 or even 10,000 buyers? Are the above enough to ensure that a marketplace is the right model for a given industry? How can you tell if your unit economics can mature to reflect a £1bn marketplace?
Perhaps there is a way to know what will NOT work. And there if there’s one thing to steer clear from is services with inherent repeatability of transactions between the same supplier and buyer. If that is the case, then scaling a marketplace to the 1 million buyers, 1 billion GMV will be tough.
And there is both an intuitive and analytical approach to explain why. But first, why is the lack of repeatability a benefit? Uber is a good example.
From the perspective of the supplier (driver), Ubers works like this. A driver can reach clients previously unreachable and get access to a set of value-adding services to make the job easier. In exchange Uber takes a fee per ride. Every time a new rider connects with a driver, Uber has taken care of: finding the client, navigation, safety measures and, seamless payment in the end. But since the whole CLV is (most likely) equal to the value of the ride, the next time the driver picks up a new rider, (s)he will reap the same exact benefits from Uber and Uber will receive the same fee.
In other words, supply and demand see each other as a commodity. Therefore a platform facilitates the transaction. Uber is there to ensure that a code of conduct is enforced (safety, trust, politeness etc) and enables transactions that would not be possible before (eBay, AirBnB are also good examples). This is an example of Bill Gurley’s point on “technology expanding the addressable market”.
However, there are industries where the above hold true and still have fundamental issues in their economics, because of the loyalty repeat transactions create. Take therapy for example. The more therapists, the better the matching. A marketplace can expand the market via remote therapy, matching and also by creating the necessary privacy and trust for clients to make the first step. It’d be closer to how eBay grows the market (remove friction) than how AirBnB, Fiver or Uber do it (without them it’d be impossible).
But still, in the UK alone there are at least 2,500,000 people that will receive privately funded therapy per year. Trust is necessary initially. Structural and attitudinal barriers can both be addressed by marketplaces and therapists have a constant need for new clients as some come and some go. Yet, a therapy marketplace won’t work. Why? Because of the repeatability of transactions. A therapist is not able to see more than 25 clients (max) per week (50-75 uniques per year) and a client will only see one therapist.
That would not be a problem if the marketplace could capture a chunk of the value across the lifetime of therapy. However, the value-add of a marketplace declines after the first session because the client forges a trust relationship with their therapist. By definition, therapy is about the trusted relationship.
In fact, from the perspective of the therapist, the marketplace doesn’t only stop adding value but can detract value. After the first session, a therapist will start adding notes for a client, have constant communication with them via their preferred medium (e.g. WhatsApp), receive the payment in a centralized way (e.g. PayPal) and agree on a fixed schedule which on a per-client basis at least, is simple.
Consequently, after the referral is done, the marketplace introduces a cognitive cost to use its add-on services (e.g. automated payment collection). If the therapist wants to use the marketplace they have to do extra admin on another space to keep their operations centralized.
Therefore, taking the client away from the platform is natural. Disintermediation is inevitable and thus, CLV real < CLV expected, which leads to unsustainable economics and does not allow the marketplace to scale.
Enter SaaS enabled marketplaces, or SEM
So, repeat transactions present a structural barrier for the marketplace to achieve strong unit economics and scale. Still, suppliers do need services to grow and manage a practice.
This is where a SaaS-enabled marketplace can provide a solution for a few reasons.
The positioning of the product is not necessarily around lead generation
Consequently, pricing is not pegged on “getting more clients”
Finally, the supplier might bring the clients onto the platform voluntarily which alleviates the platform from the burden of CAC but also positions it to capture value across the lifetime of the client.
From a cash flow perspective, this allows for a direct reinvestment of revenue per supplier to acquire new suppliers. Eventually, when there is a critical mass, then the platform can aggregate them and introduce a new service on lead generation but without the pressure of that being a promise. Shopify’s Shop app is a good example of that.
So, are repeat transactions intrinsic between supply and demand in a market? If so, it will erode the marketplace unit economics and pose challenges in scaling to network effects. Looking at the “come for the tool, stay for the network” approach is the more appropriate strategy for these kinds of markets and can still take to the same end point but in a more sustainable way.