Dave Concannon

Nassim Nicholas Taleb’s (@nntaleb) 2007 bestseller details how popular statistical and economic theories expose us to large amounts of risk while never even acknowledging that they exist. Taleb argues that a combination of evolutionary human nature, academic theory that should not be applied in ‘the real world’, and post-event storytelling deludes us into believing that we have predictive ability over ‘black swan’ events.

Mediocristan

The author asserts that certain qualities of the world we live in exist in a domain that can be mostly measured by the standard bell curve of Gaussian statistics, a domain he calls Mediocristan. A quality such as the height or weight of people exists in Mediocristan, and is represented well on the bell-curve (You’re not likely to see someone 15ft tall, or 2 inches tall for example). In Mediocristan, you can observe things for a while and then make generalizations about how the system works, and the more data you receive the more accurate your predictions will become.

Extremistan

Extremistan is another matter entirely. In Extremistan, things are dominated by one or two very large outliers – take the example of the number of books sold by an author; One JK Rowling or Dan Brown completely overshadows the sales of just about every other author producing literature. Bill Gates’ fortune can barely be compared to the earnings of most entrepreneurs. Where problems arise is that conventional experts attempt to apply Mediocristan’s models to an area where it is not only completely unsuitable, but actively dangerous as it leads to a false sense of security. In Mediocristan, the systems are so complex, intertwined, and dependent on pure chance that predictions are impossible.

The Nature of Humans

While I can’t even touch on all of the great ideas in this book, the sociological implications of his theories are very interesting. While it might be obvious to some that we lie to ourselves in some way or another throughout our lives, the author categorizes the mechanisms we use in interesting ways:

• Narrative Fallacy – Explaining an extreme event after it’s happened in a way that makes it appear obvious. “Of course the Irish housing bubble was going to crash, here are all the reasons…“. This rationalization after the fact hides the obvious truth that at the time, nobody believed that anything extreme was happening.
• Luddic Fallacy – Academic theories of economics, game theory, and general psychology are often based on the premise of the “rational actor” or “market forces” – that somehow people or systems will come to a balanced path based on perfect information. The author argues that these theoretical models are entirely useless in the uncertainty of the real world.
• Confirmation Bias – It is human nature to try to find evidence that confirms our stories, to take past instances that corroborate our theories and treat them as evidence. The problem is, it’s pretty easy to find evidence that will confirm just about any theory. The author suggests that ‘negative empiricism’ – looking for conflicting evidence that disproves a theory is more useful. I found this particularly useful in the context of Customer Development and Lean Startups – Don’t just go out looking to prove your assumptions, look for the instances where your assumption fails and rethink it.

I’m sure I’ve been guilty of these logical traps in the past, and it’s interesting to try and catch yourself in the act.

Benefiting from Black Swans

Taleb gives an insight into his investment style which he believes will give positive exposure to Black Swans – Keeping a high percentage of ones wealth in safe investments such as Treasury Bonds, and a small (10 – 15%) percentage in risky investments such as venture capital and equity investments in startups. A portion of startups will fail, a portion will break even, but there may be that one eBay or Google in the mix that results in a huge multiplicative return on your money. A very interesting theory and one I’m already practicing. I love when someone far smarter than I tells me I’m doing something right almost as often as when they tell me I’m wrong.

Writing Style

Taleb’s argument style is highly confrontational – he has no problems calling Nobel prize winners or captains of industry morons. This makes for a really enjoyable read! He believes what he’s writing is true, and holds little respect for people clinging unwaveringly to their sacred cows. His assertion that in certain fields (economics, politics, psychology) there are no experts, only opinions rang very true for me.  His ideas resonate with my own beliefs that for all the learning and theory and rationalization, a lot of the time success is going to come via keeping yourself open to the chance encounters of pure dumb luck. This was probably one of my favorite books I’ve read this year, and I think I’m going to give it another read in a few months.

After seeing Randy’s excellent conversation with Eric Ries (@ericries) at the Startup Lessons Learned Conference, I felt compelled to pick up Randy Komisar and John Mullins’ “Getting to Plan B“. Randy delivered a very succinct and informal series of advice based around why the initial assumptions about a business model will oftentimes not be the path that leads a company to success. Fitting in very nicely with the Lean Startup philosophy he went on to describe his methods to enable a company to test and measure these assumptions and pivot to a new model if necessary. ‘Getting to Plan B‘ is the basis for his chat with Eric, and the expanded thesis on these ideas.

Analogs, Antilogs, and Leaps of Faith

The authors set the stage by describing a few companies that found success after discarding their initial model (yes, the ubiquitous PayPal example is used…). The authors describe taking inspiration from analog companies or models that you want to learn from, avoiding antilog companies that you want to avoid mimicking, and clearly stating the leaps of faith that you need in your business model – e.g. Sony’s leap of faith for the Walkman was that people wouldn’t think that walking around a crowded street with headphones in was antisocial.

Dashboarding

The guideline for success they define is the dashboard – A series of measurements that test the leaps of faith the model is based on. Whether it’s the amount of revenue coming in, the number of users signing up for your software, or some other metric specific to your business it’s imperative to understand when success is happening – or more importantly, when it’s not happening. Poor dashboard results may indicate a need for the plan B.

Business Models Examined

The next few chapters in the book have a lot in common with Ram Charan’s ‘What the CEO wants you to know‘. The authors define the essential building blocks of a business model, and offer case studies of how companies have used these elements to drive success. Specifically:

• Revenue Model - Who is going to buy from you and what will they buy? What pain points are you resolving for the customer or what delights are you providing? How frequently will they buy from you? What price are they prepared to pay and how much effort will it take to win them?
• Gross Margin Model - At it’s simplest, how much more will the customer pay you than what the service or goods cost to provide?
• Operating Model - What costs will you incur, and how can you tweak the cost base and margin to give you a competitive advantage?
• Working Capital Model - How can you tweak your revenue and cost base to insure that you always have enough cash on hand to invest in company growth? Can you get better terms from suppliers, or get customers to pay up front?
• Investment Model - How much money do you need to start? Can you grow organically by bootstrapping or do you need a large capital investment up front? If you need to switch to a plan B (or C,D,E) will there be enough money to fund the change in direction?

Summary

Some of the theory in ‘Getting to Plan B‘ can be a little dry, but the case studies really brings it to life. It’s unfortunate that Randy’s session from the Startup Lessons Learned conference is not available in video (as far as I can find) as it offered a great run through of the concepts. Overall, I’d recommended it as a good fundamental breakdown of business models elements,  tips on tweaking, and excellent case studies. This book and Alexander Osterwalder’s ‘Business Model Generation‘ complement each other well.

The weekly retweet

A quiet week, I was on vacation. :)

• Britain bans doctor who linked vaccine to autism http://tinyurl.com/24ghupa (Via @GuyKawasaki)
• RT http://bit.ly/cDE0RM @ThisIsSethsBlog Seth’s Blog: Simple five step plan for just about everyone and everything http://bit.ly/cDE0RM (Via @micfitzgerald)
• RT http://i.imgur.com/IG8gR.jpg @bladon: Mind. Blown. http://i.imgur.com/IG8gR.jpg (Via @Glinner)

The Four Steps to the Epiphany was a real eye opener for me. I’d worked in a succession of companies that had worked hard to produce vast amounts of code before realizing that there was no market for what they’d made. If there had been more validation on what their users actually wanted and more thought put into what market they were really aiming for they would have saved a hell of a lot of time, money, and heartbreak. At the core of the Four Steps was the message that “Engineers build the product right, but what you need to do is build the right product”.

So then what? Steve Blank’s Four steps explained the landscape of what needs to be done, but questions remain – where do I start and what do I do first?

A ‘Cheat-Sheet’ for Customer Development

I first heard of Brant Cooper (@brantcooper) and Patrick Vlaskovits’ (@vlaskovits) project on the Lean Startup Circle google group where they were looking for volunteers to “custdev” their Customer development book.  They gave me a few sample chapters that they were working on to get a feel for the direction they were headed in, and I was honestly blown away. Where the Four Steps builds up the general concepts of customer development, this book is the step-by-step instruction manual.

What’s in it?

The ebook gives you a brief recap on Customer Development – What it is and why you should care. Then it takes you through a practical series of steps to try to refine exactly what your market and business model will be, and how to get the ball rolling. There are:

• Exercises to help you decide what part of a market you should aim for
• Practical suggestions on where to find the sort of prospective customers that might buy your product
• Email and phone call scripts so you can get in touch with them
• Guides to setting your hypotheses, and concrete ways to test that you’re heading in the right direction to validate them

There’s a huge amount of very practical, actionable information in this book, it’s essential reading for anyone starting a business.  This book will prevent you from wasting time and money on things that nobody wants to buy.

Paul Graham’s recent article on generating startup ideas got me thinking.  He splits startup ideas into two categories:

Those that grow organically out of your own life

Those that you decide, from afar, are going to be necessary to some class of users other than you.

His article mainly focuses on the organic idea-generation process; finding something that bothers you and fixing it minimally before offering it to other people and incrementally improving upon it. A tried and trusted way to create something of value, and at worst you fix your own problem.

A Different Source of Inspiration

The other class of ideas is something I thought I’d focus on – Where building something for yourself and then offering it to others seems to be Problem Focused, the second approach would be more Market Focused. What I mean by ‘Market Focused’ is that you are hypothesizing that there are a group of people out there who are not you that:

1. Have a problem
2. Would pay money for a product or service that can fix it
3. Are sufficient in number to make it worth the effort

While Paul Graham warns:

The worst ideas we see at Y Combinator are from young founders making things they think other people will want.

It’s an idea I’d like to explore a little more.

Market-Focused Ideas

Where the first type of idea generation is more introspective, the second may involve more exploration.  Instead of starting with a problem in need of a solution, you’re looking for the problem. There’s plenty of opportunity to find a sufficiently large niche market that has a problem that has either not been solved, has been solved inefficiently, or has been solved a by a dominant market force (a ‘Gorilla’ in Geoffrey Moore’s lingo) that has grown lazy.  The first two cases case may be a problems that were not economically viable to solve, resulting in no solution or a solution that creates a weak business. Applying a customer development process to customers in these areas will help determine whether it’s worth spending more time on. I think the ‘Gorilla’ situation is the most interesting.

Kicking Gorillas

In this third case, a market where the dominant player is sitting back to milk the customers, you can find outdated technology, poor customer service, and/or exorbitant pricing structures. Any of these are possible chinks in the Gorilla’s armor for an agile startup to position against. If you can bring updated concepts (and associated value addition) to the customer at a lower price,  a lesser implementation and training cost, or bundled with better service you can create a very interesting business. Just because the problem has been “solved” doesn’t mean there isn’t a great opportunity – Google launched well after the search problem had been ’solved’ by it’s now practically redundant competitors.

Caveats

There are obvious caveats that will fall out during analysis of the opportunity, here are a few:

1. You may need very specific domain knowledge and credibility to access some markets e.g. Medicine or Law.
2. Double sided markets may require time and capitalization to gain mass (e.g. An advertising network needs both publishers and advertisers in volume before anything interesting happens).
3. Despite the gorilla sitting on it’s laurels, it may have a certain amount of lock-in by creating a high switching cost for it’s customers.

Update: Jason Calacanis’ latest email has a great section on capitalizing on ideas, see the section marked “How to be an Angel Investor and Business Creator“.