The elephant disguised as a unicorn: despite many advances, established corporations still fail to understand some of the most basic startup engines

My adolescence “startup” business model

When I was 14 I got my first scanner (a Genius 2400 DPI) to be used with my Desktop computer along with my inkjet color printer. Living in a small town in the countryside of Brazil, I was one of the few people in the region to be able to make colorful high definition copies around 1996–97. Soon I started a small business of making color copies, mainly driven by my mother’s painting class colleagues who wanted to bring home some of the catalogue models.

Working by myself (with no overhead), having no understanding of accounting principles such as equipment depreciation and being partly “subsidized” by my father who would cover not only the equipment but at least part of the inkjet printer cartridges (when it was not so overwhelmingly expensive), I was able to provide the service for an affordable price and still be happy with my revenues (I was seeing almost all of the incomes as free cash flow).

Besides, being a high school student, I had plenty of time and could therefore also provide a fast individualized service. I was trying to master some basic photo editing techniques and I’d use more challenging requests as an opportunity to learn, without getting frustrated if editing the colors of an image would take a few hours of my days. In addition to that, I would be pleased in providing “free delivery” whenever my family would hand me over the family car to do so. No extra charges were applied (yes, the gasoline was also subsidized and I would not dare think about vehicle wear and tear and consumables at that time). Besides not having financial pressures of commitments, I was happy as long I could keep learning.

I could have never imagined, but this experience would somehow resemble in many ways to how startups start their disruptive activities, providing differentiated services in an affordable and user friendly way (with not so many immediate concerns with a more accurate accounting as long as the family, or venture capitalist, continues supporting).

Decision-making in big corporations — the lack of appetite for the costs involved in pursuing more breakthrough concepts

Fast forward 15–20 years, during most recent rise of tech startups, I, both as customer and innovation professional, watched amazed new business models emerging in areas where innovative practices have not been so present. Like most users, I was pleased not only in finally having alternatives but also in enjoying special treats. Clean new cars with polite drivers and affordable rates made most of us not to consider taxis anymore; exotic house rentals brought affordable and more personalized travel experiences, beyond what even 5 star hotels could offer; an endless on-demand streaming movie catalogue offered for a modest price helped us forget about the pricey cable subscription or previous pay-per-view offerings.

The previous examples are commonplace and it’s needless to further point out the various attributes that drove engagement and excitement in the many startup offerings that clearly revolutionized several industries, including healthcare, deliveries, logistics, banking, investment, etc. In many sectors it is really easy to find examples of newcomers that thrived and changed the game bringing new solutions, business models and a fresh mindset to once stagnant sectors.

As already carefully covered by abundant literature, outsiders disrupted industries where established companies (well positioned with abundant resources and technologies) could not do so. Take for example the many David vs. Goliath modern corporate episodes: Apple vs. Nokia; Netflix vs. Blockbuster; Uber vs. Taxis; Sony vs. Kodak. Nevertheless, what might not be so obvious in all analyses and debates is that startups were many times able to do so by?playing by a really different set of rules when compared to established companies. Here I’m not only referring to the widely discussed lean methodologies or the corporate culture differences regarding management, but rather the expectations for the?financial and operational performance from their supporters (covering since early stages until scaling phases).

One of the great myths of business is that corporations become victims of disruption because of innovations they do not see coming. The reality is that disrupted firms like Polaroid and Nokia both saw the disruption coming and had the technology assets to compete. Polaroid had the world’s first commercially available megapixel digital camera in the 1990s and Nokia had all the assets to win in the smartphone era. They all saw disruption coming, but the core business was too focused on delivering immediate results to also build a new business. That’s because the core business has its own?operating rhythm designed to optimize results, incrementally improve to defeat competitors, and maximize profitability. In contrast,?an explore business unit has a different rhythm. It lives with high uncertainty, testing and learning its way toward a successful model. These are two equally valid, but?contrasting logics?— one operating in known, if complicated, environments, the other in highly complex uncertain ones. Sparks fly when you cross these two logics; one logic typically rejects the other.?Core businesses drive short-term results to meet performance expectations. If this same logic is applied in an explore business, it forces the new venture to stop learning and start executing. Corporate leaders are forced to find the safest route to commercialization, often missing the disruptive opportunity. The new venture underperforms, reinforcing the core business’ assumptions about the riskiness of these ventures. Binns, Andrew; O’Reilly, Charles A.; Tushman, Michael. Corporate Explorer (p. 14). Wiley. Kindle Edition.

Having worked myself in a corporate venture builder from an established conservative corporation for over a decade, I performed several benchmarks studies with venture capitalists and startups (as almost every big corporation did in a fair attempt to become more agile and more innovative). It became clear that although there is a lot to learn from startups, there are very distinct expectations from stakeholders.

Even when there is a genuine corporate desire to chase more disruptive and “sexier” business models (platform creation, data driven monetization, new channel development with direct to consumer offering), there is rarely patience to wait for the long maturation of those initiatives, nor appetite to cope with the high investments required for doing so.

The will of creating new successful venues is present but does not suffice. Many times there is an unreal (almost naive) perspective of mimicking most successful startups with no concessions (no attention to the trade-offs): one wants to find the next billion dollar business as long as it can be achieved with minimal risk, very limited financial investment, a team of 3 interns (with part time dedication) and only if payback can be delivered in less than 2 years. It is the same as trying to come up with a vehicle that handles so well as F1 car, having at the same time offroad capabilities as an offroad vehicle, a comfort of a limo also being capable of transporting 40 passengers, towing 5,000 kg and still being as affordable as an entry level Ford. There is no such an animal!

It is often more of an over-excitement about the innovation stage than taking deliberate actions towards this end. Realistic commitment has to be made with the acknowledgment of existing trade offs. Even scalable business models that are now successful took a long time while maintaining a high capital burn-rate (and therefore requiring a resilient and patient sponsor). When talking about new conceptions, it simply takes time (and investments) to conceive a product, gain trust, bring market awareness, establish a stable and growing user-base, clear the path with regulations and deliver investment payback. In fact, it’s not uncommon to find unicorns that despite of the market (and stocks) success, have never reaching profitability.

Yet, I’ve seen corporate products being abandoned in the very first generation without being awarded the opportunity to learn from first market interactions, fixing deficiencies in upcoming generations (which should be the principle of an agile project created with true user experience feedback). If we think properly about it, the very first versions of what are now top selling products were not so great when they came to market. First generations commonly have many downsides: just think about the lack of reliability of the first vehicles or the first iPhone that had to be setup with iTunes on your computer, had no Appstore, and presented a lame camera and battery life (you can read more about it in my other article?Great Inventions are build on rejections: the natural fear regarding new concepts and how to avoid it ). But many underestimate the go-to-market challenges and the required investment (especially if we are to consider new offerings that customers are not so used with, or new industrial fields for established organizations) and abort the mission when more persistence and commitment would be required (as we can imagine how challenging it is for an executive to risk his own career chasing endless resources to invest in a risky and not yet proven vision).

Short term results and a less risky approach in incremental developments often displace a true and serious pursuit of new business models (the latter requiring a strong commitment of capital and resources for a substantial timeline to give opportunity for the investment to mature and realize its potential). The “not so serious approach” that we many times see in corporations is a lot of noise about innovation with several initiatives and buzzwords around ideation sessions and hackathons with no upfront idea on what to do next (no financial resources to allocate for further developing the upcoming initiatives, no headcount to pursue the developments in the later stages of the developments that are really resource-intensive). “Focus on ideation and incubation comes at a cost. It encourages a lot of ideas, few of which will receive funding to go to scale” (Binns, Andrew; O’Reilly, Charles A.; Tushman, Michael. Corporate Explorer (p. 13). Wiley. Kindle Edition).

Lean startup has mostly resulted in innovation theater: a set of activities, typically like incubators and accelerators inside a company, that generate great coffee cups, posters, and lanyards, and almost nothing else. My test is this: Did it move the top or bottom line? What I often get back is, ‘Let me show you our ‘Dogs at Work Policy.’?Steve Blank

Exciting customers and paving new ways of doing business: startups as learning organizations

On the other spectrum, startups usually enter the market less preoccupied with short term profitability since the good ones have nowadays no difficult in being backed up by abundant VC money (and later prolific IPOs). With a lean structure (not carrying expensive overheads) and having no immediate requirement to achieve profitability in the short/medium run, they are able to lure and “spoil” customers with exciting solutions provided in a user-friendly manner (free trials, freemium models, no long term commitment, no cancellation penalties, no hidden fees, no undesired or excessive advertisement).

They are different animals (and they are definitely not the elephant disguised). This does not mean that they do not have business discipline and that these organizations are just burning money: they happen to pursue different metrics at this stage. Their focus is initially on?learning?(therefore the commonly called discovery or search phases in innovation process charts). They engage users with iteractive experiments to quickly learn and shape their businesses (finding out the best product features, interfaces, channels, marketing strategies, prices, revenue models, etc).

Eric Ries once defined a startup as “a human institution designed to create a new product or service under conditions of extreme uncertainty ”.?To put it in different words, “The goal of a startup is to search for a repeatable and scalable business model. That search is focused on maximizing learning, through a rapid progression through some sort of customer development process ”.

Later on, passed the early identification of a scalable business, the focus starts to be on growth, guaranteeing that users keep coming in accelerated rates. In these highly scalable businesses, the focus is not immediately to grow financial figures, but usually to create the customer or user basis (which is key for their increasing valuations since a main indicator of their business model potential). And this is a logic move: social media companies need to lure many active users to show an attractive business model before focusing on its financials. Multisided platforms (peer-to-peer e-commerce, Uber, Airbnb) need to have many buyers and sellers (or drivers and passengers) to create a thriving and exciting community that not only attract new users, but make existing ones coming back.

Therefore, for startups, initially the success metric is learning (and shaping their offerings and businesses), expanding their user-basis (growth) and, only if those previous steps are successful, they start to chase profitability. This pace and focus allows them to properly conceive meaningful and user friendly solutions. Being backed up by patient investors that share this mindset and understand the development phases and metrics (with no rush for financial return, product readiness or anxiety to have all fields of the business sort out in a Power Point even before engaging the market), they are also able to do that with maintaining an interesting and competitive price-point (which would be completely impossible if they had to recover all development costs in the first years just to follow an insane payback metric).

It might seem unfair: the busy fellow with limited resources, many other competitive priorities and short term commitments has to compete with the affluent highly subsidized kid in the neighborhood (that has no immediate obligations in reporting profitability). But?c'est la vie?in the corporate environment where big and small fish from different species divide same aquarium fighting for same food.

Thinking in hindsight, It’s not so different from the scanning business model from my adolescence: one is mastering the abilities and pleasing users with a new service as long as there is someone else to patiently backup this effort trusting on the learning curve that can lead to interesting returns in the long run.

This publication is a part of a full article ?(Startups like Netflix, Uber and Airbnb “cheated” to disrupt their industries. This starts to flip now they came of age. Is it the end of fairy tale? ) in which I explore the mindset differences of established corporations and startups in what regards to risk-taking and pursued metrics (that pretty much dictates how the company operates). It also includes some guidelines on how to avoid the innovation dilemma of getting stiff and becoming an unfriendly "old" organization.?

References:

Binns, Andrew; O’Reilly, Charles A.; Tushman, Michael. Corporate Explorer. Wiley. Kindle Edition.

Cardoso, Marcos.?Great Inventions are build on rejections: the natural fear regarding new concepts and how to avoid it

Luo, Lucy.?Innovation Management: Explore-Exploit Continuum — Juggling between the future and the present

Ries, Eric.?Is Entrepreneurship a Management Science?