Rule 5: Formulate a business model

Throughout Silicon Valley, “Software as a Service” (also known as SaaS) is the business model de jour. For startups, business models are moving targets, and the questions are endless. What is the best way to generate perpetual income? Are your products for sale, for rent, or both? Should your business model include short-term contracts? Long-term contracts? Or perpetual licenses? How do you support all of them simultaneously?

Because Loopd was a primarily a wearables company with upfront engineering and manufacturing costs, the SaaS subscription scenario was risky and unattractive. Many companies use this subscription model to lure customers in with a “freemium” offer that evolves into recurring regular payments.

In May 2016, we were raising our third round of financing and starting to hear more pressing questions from investors about the Loopd business model. We were not entirely unprepared, because Series A included plenty of traditional venture capital funds who were hyperfocused on the bottom line. Before that, angel investors put up the capital for research and development, a minimum viable product, barebones sales organization, and market-fit trials, so we were practiced at giving them answers too.

Yet as these new financial investors entered the picture, we faced even harder questions about our sales numbers and customer lifetime value (LTV). Under their tough scrutiny, we were measured against hundreds of other startups internationally. Many of these other companies had great products, proven revenue, and in some cases, long-term customer relationships.

In our corner, Tim Draper, an angel investor and well-known VC with DFJ Venture Capital, had already started preparing us by asking tough questions. Tim challenged us to think big with our business model. In an email, he bluntly wrote, “I am thinking you might want to do some brainstorming on how you can keep your customers. Either create a SaaS business where you get them to sign up for a subscription or move this to the consumer where there will be a network effect.”

Tim argued that Loopd could evolve more quickly as a B2C (business to consumer) company like FitBit, rather than a B2B (business to a business) company like an IBM. In addition to selling to corporate events, he believed Loopd could serve as a digital business card for consumers worldwide.

We agreed, but struggled with our product reliability in those early stages. We wanted more time to refine our products and prioritize user experience in the controlled environment of the corporate event space.

I also worried about the bigger challenges of being a small startup trying to access consumer channels. This would require tens of millions of dollars, specialized retail promotional expertise, and a high-performing supply chain with access to consumers via the web, large distribution networks, and large volume outlets globally.

Only a few wearable digital device startups have succeeded in consumer channels and built a sustainable business. After we decided to exit, Tile, a smart lost-and-found tag, raised $60 million and can now be found at Target, Walmart, Amazon.com, and other retailers in 15 countries. But Tile is the exception, not the rule.

Our business model was one of our most difficult challenges, but we had been forewarned. During my time at Draper University, Tim used to say, “A lot of entrepreneurs have good ideas, but cannot figure out where they are going to make money or even get to the end user or how their businesses are going to work.”

In many ways, Tim’s genius comes from his uncanny ability to distill successful business models. He is famous for helping startups wade through the confusion to design something brilliant.

Tim often remarks that he “got lucky” with Hotmail, the first web-based, free email platform in the late 1990s, when he suggested the founders put in a small promotional link for viral marketing in every email. The promotion stated simply, “Get your private email at https://www.hotmail.com.”

He was also an early investor in social business models like Skype and Bitcoin, companies that grew globally through the networking effect of the Internet.

Tim likes to remind new startups that many big companies have been formed through unique and clever models. His formula for identifying the best strategy is one that we adopted and now preach as the business gospel, “You assess the fastest way to get the service to the user, but in a way no one is thinking about. I always like to get to the end user. All the greatest company have end-user connections.”

It’s easy to get lost in the endless questions that come after product inspiration. But forming a successful business model hinges on remembering why you started. The beginning and the end is always about the end user, and the best business model is simply the path that connects these two points.

Tim Draper, Founder of venture capital firms Draper Associates and DFJ, the first believer in LOOPD. Image via Mashable.

LOOPD exhibiting at IBTM World 2015 in Barcelona growing the enterprise customer base

I hope you enjoyed this preview to my new book Takeaways: Secret Truths from Leading a Startup. 

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