Category Archives: Big Ideas

FREE…It May Cost You Your Startup

First, a quick quiz…For this quiz, time is important as we want your gut instinct so you only have five seconds to answer before the submit button goes away. It’s multiple choice, there are only two options and you simply need to select one.

When you’re ready, go take the quiz and make sure to return here…

Pricing, Business Models and Virtual Goods

The topic of free and freemium pricing models is a regular one in startup land.While I’m sure it comes up on occasion in more traditional businesses, I have a feeling it’s much less the case. I don’t recall Mark pondering the option of offering free drinks and meals for the first six months at OX Restaurant. Or Beth considering just giving sweatshop free clothes away for the first three months at Grey Rock Clothing.

“When something is FREE! we forget the downside….we just can’t resist the gravitational pull of FREE!”

Over in startup land, it’s almost universal that first time founders plan to launch their product initially for free. While the free excuse list is almost infinite, a few samples include….

  • We really want to get people in and using it, get them hooked on the app before we start charging.
  • Because this is such a new innovative way of doing things, we can’t charge them, they just won’t pay until they use it.
  • Once we have enough users, we’ll start monetizing through ads but we can’t sell ads until we have the users.

A FREE image!

To be clear I’m not advocating against free or freemium models. In some cases they make great sense, however those cases are rare. What I am advocating is that you make that decision explicitly and can back up your reasoning. I have yet to speak with a new founder who plans on offering free initially AND has a good reason for it. Someone who’s explicitly thought it through and has clear, sound reasoning why they’re starting with free.

Making an Economic Choice

In new product development, what is much more important than free users are the hard no’s. What’s a hard no?

“Here’s a pink stuffed animal I made, do you like it?”

“Yes, it looks awesome, you’re a lovely human being, let me hug you…”

“Will you buy this pink stuffed animal from me? Will you please give me 20 of your hard earned dollars for this pink stuffed animal I made?”

“You want me to give you 20 bucks for this crappy stuffy you stitched together? Are you mad?”

There, that’s a hard no. It’s someone saying no, I don’t see enough value in this exchange for me. Hard no’s are money in the bank for startups, if you leverage them. You have to chase down every hard no and ask why, why, why? Why don’t you love me anymore? Why doesn’t my value proposition work for you? Would you pay $10? What if I included a lifetime warranty? What if it was $5 plus a lifetime warranty?

Starting with free removes your ability to get to those valuable hard no’s almost entirely. Now rewind the above conversation…..

“You want me to give you 20 bucks for this crappy stuffy you stitched together? Are you mad?”

“I’m just kidding, we’re giving them away for free as part of launching our new company, here it’s yours!”

“Thank you! I love you again, that was a close one”

See the difference? Few people can resist the power of free. You feel great about your pink stuffed animal, love is in the air, everybody happy, happy, happy.

What happens to the pink stuffed animal? The same thing that happens to most free software apps, it’s neglected and dies a slow quiet death in a dusty basement. Dad never says “hey, why aren’t you loving that pink stuffed animal? I paid $20 for that you know?!”

Here’s the thing you must realize, free is a reality distortion field of it’s own. We can’t control ourselves around free. Remember the quiz at the top of this post? I’m quite confident that greater than 75% of you chose the free option even though it’s not a rational choice. A $30 giftcard for $5 offers you $25 in value. A free $20 giftcard offers $20. That doesn’t matter since we go bonkers around free!

“Zero is not just another discount. Zero is a different place. The difference between two cents and one cent is small. But the difference between one cent and zero is huge!”

Clearly the rational choice is the $30 giftcard but free messes with our minds. In the book Predictably Irrational: The Hidden Forces That Shape Our Decisions, the author Dan Ariely digs into the details of how we tend to apply either market norms or social norms in these situations.  Free confuses your customer into applying social norms instead of market norms. This will certainly increase your user count but if you’re building a business you need to iterate to a value proposition that works when customer’s apply market norms to them.

If it makes good sense, free it up! Just be aware how powerful free can be. Depending on how you use it, it can help or hinder you. Offering free prevents your customers from applying market norms to your offering. Having customers applying social norms can distort your offering in ways you may never recover from. Good luck selling those $20 pink stuffed animals six months from now!

Vanity Celebrations

[Editor's Note: This is a guest post by Brydon Gilliss  founded the shared office space ThreeFortyNine in Guelph where he plays with Startupify.Me, Ontario Startup Train and 20 Skaters. A serial entrepreneur and fervent community builder, he’s also busy organizing a train-full of founders for this summer’s International Startup Festival.]

The moments we choose to celebrate say a lot about what we consider important. They’re a proxy for the metrics we value, because we’re signalling to others by their very celebration. And yet, I’ve always been of the belief that startups tend to celebrate the wrong things.

If that’s true, what signals are we sending? We celebrate product launches, government grant acceptance, fundraising, winning pitch contests, and so on. Too often, these are the vanity metrics of our startup ecosystem.

Of course, some of these events are worthy of celebration. A grant lets us live to fight another day; a winning pitch might drive sales or help us to hire a key employee. But they would be way down on my list, personally, if my goal was to build a real business. Let’s stop concentrating on celebrating events like taking on debt or winning what is often little more than a beauty contest—and focus instead on what we should celebrate but rarely do.

At ThreeFortyNine, we celebrate the achievements that matter to the business model. Consider, for example, the first time you sell something to a complete stranger. That’s worth celebrating because it’s the first sign your business might have legs of its own. In our Founder’s Club events, we celebrate selling our first train tickets to strangers; Foldigo celebrated its first-ever sale to a stranger. Our plan is to build up this list and move it into our monthly socials.

We’re building our Startupify.Me program around the concept that talented developers stepping into startup life need options. Incubators, accelerators and government grant programs funnel them into a single, traditional path thereby discouraging experimentation. We want our cohort to have the option to create a lifestyle business or a even a small, local business—if they choose. Of course, any of them can still try and swing for the fences, but they have all options in front of them.

“We didn’t get to where we are today thanks to policy makers – but thanks to the appetite for risks and errors of a certain class of people we need to encourage, protect, and respect” – Nassim Taleb

CC-BY-NC-ND-20  Some rights reserved by RahelSharon

Only in recent years have books like Lean Analytics begun to draw out the real risks of obsessing over feel-good data that does little for the business—so-called “vanity metrics”. There’s a very real danger if a young entrepreneur believes that success comes in the form of taking on debt, winning a pitch contest and launching a product. Those may be required for some businesses but they shouldn’t be misconstrued as success.

Part of the challenge here is the proliferation of what I call success turnstiles in our ecosystem. These are entities whose prime motivation is to funnel as many businesses as possible through their turnstile. It’s a pure numbers game for them as they chase their success metrics. These entities tend to be government funded and these success metrics are defined by bureaucrats and can be tracked up the organizational hierarchy to a speech-writer’s desk.

We need to lead real conversations about what success is because it comes in many shapes and forms. Advocates of this more mindful form of celebration include Jason Cohen imploring founders to get 150 customers instead of 1000 fans and Rob Walling helping startups to start, and stay, small.

Here’s an initial list of milestones and accomplishments worth celebrating to get you started.

  • Performed 30 interviews with real potential users.
  • First customer acquired.
  • First customer acquired and you have no idea where they came from.
  • Covering your monthly personal costs.
  • Identifying the first product feature a potential customer will pay cash for.

Which vanity metrics need to stop being celebrated? What do we need to celebrate more?

Hardware and Startups

[Editor's Note: This is a guest post by Gideon Hayden LinkedIn , associate at OMERS Ventures and previously founder of Tradyo. Full disclosure: I work with Gideon at OMERS Venture and I have tracked his progress at Tradyo with his partner Eran Henig over the past few years.]

CC-BY-20  Some rights reserved by jurvetson

“You know, one of the things that really hurt Apple was after I left John Sculley got a very serious disease. It’s the disease of thinking that a really great idea is 90% of the work. And if you just tell all these other people “here’s this great idea,” then of course they can go off and make it happen.

And the problem with that is that there’s just a tremendous amount of craftsmanship in between a great idea and a great product. And as you evolve that great idea, it changes and grows. It never comes out like it starts because you learn a lot more as you get into the subtleties of it. And you also find there are tremendous tradeoffs that you have to make. There are just certain things you can’t make electrons do. There are certain things you can’t make plastic do. Or glass do. Or factories do. Or robots do….

And it’s that process that is the magic.” – Steve Jobs quote as quoted by Travis Jeffery of 37 Signals

The lifecycle of consumer hardware startups is undergoing a rapid transformation (see Chris Dixon’s Hardware Startups). Consider the well known Pebble Smartwatch; the first example of a company that perhaps unintentionally used crowdfunding to demonstrate demand for their concept long before they had the ability to produce it at scale. The $10.7M raised significantly decreased the upfront risk for the company, allowed them to avoid dilution by avoiding traditional financing methods, and decreased their inventory risk due to this ability to accurately forecast demand before production.

This change in the stage of demand generation represents a new paradigm for hardware startups. Whereas before they likely had to build and scale manufacturing prior to generating demand for their product, they can now accurately forecast this simply by gauging reactions to a proof of concept video.

However, the purpose of this post is not to highlight all the good stuff surrounding this method of funding for hardware startups; I think those are largely well known and accepted. Instead, I’d like to address what other impacts this change has on the lifecycle and trajectory of a company.

Exploring the Impacts

Firstly, with large surges of excitement and accompanying pre-orders surrounding these campaigns, a company has to jump from a conceptual and iterative stage to become an operational company thereby skipping a lot of crucial steps in between. Perhaps one of the most important steps they must skip is the pricing strategy for each unit. Without sufficient vision into QA, returns, defective products and COGS, they can’t accurately work these costs into the price of the product. Furthermore, if we look solely at the numbers, the outlook for the company is bleak as they’ve already locked into a certain price with their pre-orders, as well as a specific timeline, and this can end up costing the company huge amounts of money down the road.

See below to visualize this change:

Old World:

Team → Concept → Seed → Prototype → Financing → Design/Manufacture/QA → Iteration → Pricing of product → Pre orders → Distribute

New World:

Team → Concept → Seed → Prototype → Pricing of product /Timeline commitment → Video launch → Pre orders → Financing (maybe) → Design/manufacture/QA → Distribute → Iteration

In the new world, companies price their product very early on, and jump from video launch to production. This places them on a trajectory that perhaps they aren’t ready for.

Let’s consider other impacts of this change:

  • Risk is transferred from the company to the consumer
    • In the old world, consumers saw a pre-order to launch time of 2-3 weeks. In this model it changes to around 9 months to 1 year.
    • The increase in time from demand generation to product in market is far longer in the new world. No Kickstarter hardware campaign has brought their product to market in less than 9 months from the close of their pre-orders – meaning consumers have to wait far longer than they’re use to for the product.
    • The 9 months to 1 year is long in terms of time from pre-order to time of distribution, but actually very short when we put this in the context of the stage of the company and the typical time between conception of a product to larger scale distribution.
    • Effectively what this means is the risk is transferred from the company to the consumer. In the old world, companies would have to take shots in the dark and validate their concept after an upfront investment in manufacturing. Today even if the product is a flop consumers will have to pay.
  • Less appetite from consumers for second chances
    • Whereas in the past consumers may have given hardware products second chances (see Jawbone UP V1 vs. V2), by the time these products are in the consumers hands there may be less interest and far less enthusiasm to give the product a second chance.
    • The amount of time from showing intent to gratifying their demand is so long in this case, that they may have even written it off even by the time they receive it. All this means is you better strike some resonance with the consumer on this first push.
  • Feedback Cycle Lengthened
    • The cycle between launch and iterations to the product is far harder to manage in this model. By the time you’ve scaled operations feedback is just beginning to roll in – and you may lack the resources to implement the needed changes to the product.
    • Perhaps the more important feedback cycle in the new world has become the software iteration cycle that sits on top of the hardware. Often this takes a backseat as scaling manufacturing is a massive task unto itself, but in today’s world, this is where the real value stems from.
  • Shipping incomplete products
    • As mentioned, much of the value stems from the SDK attached to the hardware and providing the infrastructure to allow developers to build applications on top of the platform.
    • With an underestimation of the time required to scale manufacturing, SDK’s often take a back seat and the products ship with limited functionality – far more limited than demonstrated in the concept videos.
    • Furthermore by accelerating the demand, companies often miss out on the experimentation/iterative phase of prototype development. They commit to a timeline and have to choose a solution before they may be ready.
    • With the demand to scale operations so quickly, the QA process inevitably takes a hit as well and can result in higher costs down the road.
  • Discovery and experimentation phase cut
    • In the new world, the video launch occurs before scaling of production happens. This process can teach a company a tremendous amount, but because they have often committed to a timeline and promised a certain product, they’ve locked themselves into something that is great conceptually, but may not be feasible in reality.
    • This discovery and experimentation phase is shortened greatly, and as Steve Jobs mentioned, this is the process that is magic.
  • Inaccurate Timelines
    • 84% of kickstarter/pre-order projects will miss their deadlines.
  • Threat From Incumbents to Pick Off Technology
    • Proven demand with an inability to act allows bigger competitors to jump in and launch competitive products really quickly – seeing this now with Apple/Sony and Pebble

One of the classic problems that lead to startup’s demise that we hear of all the time is pre-scaling. Companies start building out the core features of their business without truly knowing what they are. As they increase their burn rate to high levels, their margin for error becomes extremely low by the time they reach market. If that initial product doesn’t hit a nice trajectory, they’d better find it fast because the cash in the bank will only last them so long before they have to raise again, and if they haven’t proven anything by that time, it likely won’t be an attractive prospect for investors resulting in a down round, or worse.

This is not to say that this new process is a negative shock to the ecosystem, quite the opposite actually. I think crowdfunding and proof of concept similar to that of concept cars spurs innovation and creativity, and encourages new entrants to shoot for the stars; something we always need more of.

However, the risks of the new world have not yet been explored in depth, nor have they actualized as many of the relevant companies are still very young. Many processes like QA and iterative industrial design inevitably decrease in quality and leads to lower quality products shipped, higher cost of returns, and inaccurate pricing of the product; a dangerous game to play.

Crowdfunding and pre-orders is definitely a good thing, but perhaps we need to recognize where along the lifecycle of a company this process exists, and what exactly it proves. It does not mean the company is successful, but merely represents one proof point out of many needed along the journey to building a great company.