Dispatches from the Frontier

Eating Humble Pie

When one is in a startup, one must eat a lot of humble pie.  That's because you initially are of strategic importance to almost no one.  Most of us don't like the taste of humble pie, which thins the ranks of aspiring entrepreneurs and, maybe most particularly, serial entrepreneurs.

I've mused about some of the factors that make becoming a successful entrepreneur rather unlikely:

• Business success, like success in any human endeavor, usually requires a fairly demanding combination of talent, hard work, and persistence.
• Luck plays a bigger role in success than the successful would care to admit.
• If you taste business success, your opportunity cost increases.  That makes your second venture more risky, because you have something to lose (including your reputation as a successful person).

Even if you overcome the preceding, and even if you are fortunate to live and work in an environment that celebrates entrepreneurs and entrepreneurship, being part of a startup is not necessarily rewarding for those who seek immediate status--or the maintenance of status previously attained.  It's often a long slog to earn and keep the respect of customers, supply chain partners, employees, and investors.  Nevertheless, cultivating the capacity for persistent humility is more important than I could have imagined years ago.

What Startups Are Really Like

Being a principal in a startup is to a job what parenting is to babysitting.  That is, successfully raising an infant child or company requires a substantial level of commitment, emotional maturity, and patience.  It's not always fun, but being part of a startup can be immensely gratifying.

Paul Graham is startup veteran and a principal of Y Combinator, a venture firm that focuses on startups.  Recently, he posted an essay on the unexpected realities of startups based on feedback he received from YC companies.  The themes are familiar, but it's a worthwhile read.

Here are some of my favorite bits of wisdom gleaned from Graham's commentary as well as quotes from the survey participants:

Getting the Answer Wrong is a Good Way to Learn

To learn, fail fast and cheap...really.

Being wrong is often painful and sometimes expensive.  But, scientific research shows that we can learn better and faster if we put ourselves in situations where early failure is likely, even inevitable.

Launching a new product or service is fraught with uncertainty.  Rapid, effective learning is a key to survival.  Starting the process with a small team backed with bootstrapping or venture-style, phased investment capital facilitates learning by allowing (even forcing) failure in a relatively low-risk environment.  A small team is comparatively inexpensive, and the social (and usually physical) proximity of the members speeds the development of shared meaning and understanding.  It certainly helps if the individuals who compose the team are bright, curious, and hard-working.  Phased, milestone-based investing is a technique for managing downside risk.

As my TrashCo colleagues would confirm, it's not an easy process.  Nevertheless, forcing failure (and managing the relative cost of error) can be a source of advantage.

Innovation as Outcome

From Harga-Blog:

I once asked a class full of senior executives whether they wanted innovation. They all said yes. When I then asked whether they wanted their direct reports to spend time developing and experimenting with new ways of doing their work, they all said no. They wanted innovation-as-outcome but not not the process.

Sure...innovation as process is hard work.  Furthermore, the uncertainty, risk, and cost of the process is apparent, while the risk and cost of inaction isn't always obvious.

Faith and Innovation

Consider the following from On Being Certain by Dr. Robert Burton, a neurologist:

Our catch-22: In order to pursue a new thought, we must feel the thought is worth pursuing before we have any supporting evidence or justification.  Otherwise, we would consider ideas we already know to be correct.

My colleagues and I have aspired to apply the methods of scientific skepticism to the process of identifying, validating, and developing promising consumer products.  We have consciously pursued the new in the hope and expectation that a sufficient number will evolve into innovations--products that are widely adopted by consumers.  In other words, we try to keep our eyes and minds open for opportunities then rigorously test the value propositions of each in order to weed the promising from the pretenders.

But, as Dr. Burton has underscored, there is an unavoidable paradox at work.  Notwithstanding our purportedly scientific approach, by seeking the new, we act irrationally.  After all, new and different products are inherently uncertain.  There is, to start with, no evidence to weigh.  To begin a project requires faith.

On the road to innovation, leaps of faith are required by many players--including investors, employees, manufacturing partners, and distributors.  Critically, consumers of a new product buy, initially, on faith.

Why would otherwise rational people act on faith?  Dr. Burton's hypothesis and supporting research suggests that the feeling of knowing provides a feedback mechanism as physically and psychologically fundamental as the feeling of fear.  As with fear, there may be an evolutionary advantage that stems from the feeling of knowing.  In an unchanging world, new things are expensive.  In a changing world, however, the willingness to experiment is adaptive.  The feeling of knowing could serve to inhibit superfluous change in a static environment as well as encourage experimentation in a dynamic world.

In other words, inventors and entrepreneurs may well act--initially--from deep-rooted (possibly addictive) feelings.  So do the investors and customers who enable them.  While the feeling of knowing can be a source of intransigence, it can also be learning's best friend.   If necessity is the mother of invention, faith may be the father of innovation.  Thank goodness.

Theory or Practice?

A thought which does not result in action is nothing much, and an action which does not proceed from a thought is nothing at all.  Georges Bernanos

A number of my acquaintances and friends--even  some who have known me for years--tend to think of me primarily as a business theoretician.  That may not be particularly surprising to readers of this blog.  Admittedly, I'm attracted to rather abstract, even esoteric, aspects of business, entrepreneurship, and innovation.  Nevertheless, I'm troubled by the implication of a two-valued world composed of business thinkers or actors.

It's true that I aspire to become a better theorist.  To some, that suggests that I may be unfamiliar with, or even averse to, the practice of business.  The evidence suggests otherwise.  After all, I've co-founded several companies over the years as diverse as a private equity firm and, most recently, a maker and marketer of consumer recycling and trash containers.  I've assembled, with my own hands, thousands of products (quite literally) in my garage.  I've celebrated success, though I've frequently tasted the bitter disappointment of failure.

My experience is unexceptional.  Survival in business requires that we learn to think and do.  Theory--explicit or not--drives our actions.  The consequences of our actions (should) modify our theories.  In order to adapt to a changing world, we must change our behaviors.  To change our behaviors, our mental models must evolve to reflect new realities.  Theory, unconstrained by the reality experienced through practice, is hollow at best and dangerous at worst.  Action, unguided by informed theory, is foolish.

The price of learning how to become better thinkers and actors can be steep.  A strong link to the consequences of our actions tends to expose the inadequacies of our beloved theories, and changes to our theories pressure us to change our comfortably habitual behaviors.  Nevertheless, adaptation and innovation demand that we deal with such discomforts.  Adaptation and innovation is optional, but so is survival.  

The Importance of Testing Our Assumptions

Embedded below is the video of a talk given by Dan Ariely, the author of Predictably Irrational, at a recent TED Conference.  It's worth watching.

Scrappy Marketing

I've always been a little wary of many who profess marketing expertise.  I think it's because I'm suspicious of anyone who makes claims of predictability in the context of any dynamic, social process.

On the other hand, I've been fortunate to work with some very fine marketers who a) understand that stimulating the sales of anything substantially new and different is fraught with uncertainty that cannot be resolved analytically and b) the best approach to resolving such uncertainty is through experimentation.  As Al Ries might say, experiment until you find a sales tactic that works, then build a marketing strategy around that tactic.

Mario Schulzke is such a marketer.  In new new blog, Scrappy Marketing, Mario writes:

To a lot of people, marketing is a science. I disagree.  Marketing is the ultimate science experiment.  While through learning and past experience marketers can make some pretty good guesses about what might work and what won’t, it ultimately comes down to testing a variety of different ideas and then scaling the ones that do work.

In order to run a successful marketing experiment, you have to be able to do two things. Test and Fail. Then repeat.

Taking Improbable Events Seriously

Nasim Taleb, the author of The Black Swan, offered this advice to managers of non-financial companies in a recent McKinsey Quarterly interview:

Be hyperconservative when it comes to downside risk, hyperaggressive when it comes to opportunities that cost you very little.  Most people have the wrong instinct.  They do the opposite...Don't fear being aggressive if that only costs you a little.  Do more trial and error.  Learn to fail with pride, comfort, and pleasure.  But try to have less downside exposure by building more slack into your system through redundancy, more insurance, more cash, and less leverage...My idea is to base your navigation on fragility.

His advice is grounded in his experience with, and careful analysis of, "black swans."  Per Taleb,

My black swan is an event with three properties.  Number one, its probability is low and based on past knowledge.  Two, although its probability is low, when it happens it has a massive impact.  And three, people don't see it coming before the fact, but after the fact everybody saw it coming.

Taleb and others have made the compelling case that "in the historical and socioeconomic domain, black swans are everything."  For example, the unexpected growth of the Internet and the sudden collapse of global debt, equity, property, and commodity markets are two such events--one positive and one negative--that have dominated the economy over the last decade. 

We can't predict black swans.  Nevertheless, we can be confident black swans will continue to occur.  What Taleb is saying is that we can do a better job preparing for their appearance.  That is, we can hedge against the unlikely, but potentially devastating, negative black swan while we make numerous, relatively small investments in opportunities that offer at least a small chance of a large reward.

For instance, the practice of open innovation has the potential to provide companies with the ability to make relatively small investments in highly uncertain, but promising, concepts for new products.  Most companies, however, under-invest in the possibility of catching a ride on the rare positive black swan and, as a consequence, are over-exposed to the rare, but potentially deadly, negative black swan.

Let me give you an example:

My colleagues and I know of a multi-billion dollar company that makes very common household products.  Its brands typically have a #1 or #2 market share.  Over the years, the company has grown through acquisition and assiduously cut redundant costs (such as R&D capacity).  Its manufacturing operations are efficient.  In other words, there is much to be admired about this company.

However, the company's management is anxious.  As the company has focused on efficiency, it has constrained its ability to experiment.  There is little slack in the system.  Consequently, the rate of new product introductions has been very sparse.  As its core products have matured, they have been commoditized.  Capable, private label competitors have taken market share.  Major retailers have consolidated their vendor relationships.  Volatile raw material costs drive margins.  Ominously, the company has seen a double-digit decline in the sales of its traditional, branded product line over the last several months.

With a leading position in mature, commodity markets, this company faces a lot of downside and probably not much upside.  Its manufacturing efficiencies are already top-tier; it has no market power over the cost of its raw materials; and the evidence clearly suggests that the power of its brand is rapidly eroding.

Betting on the resurgence of its core business might be a viable strategy.  On the other hand, it might make a lot of sense for management to hedge such a big bet by making several small investments in promising new products.  These could be internal R&D projects, licenses, investments in new ventures, and acquisitions of promising young companies.

However, the company seems to be closing its doors to such opportunities.  It has actually withdrawn new products from the market in order to focus on its core business.  In relative terms, management appears to have decided to eliminate low cost/high opportunity options in favor of "doubling down" on its existing businesses, which are (for the moment) large but offer little upside.

Like Taleb, we see this pattern of behavior repeatedly.  Uncertainty is confused with risk.  Managers inadvertently take risk under the false assumption that large investments in "proven" business are safe.  Most days they are right.  However, the black swan lurks, and tomorrow could be a disaster.  By investing solely in familiar businesses, management trades potentially crippling downside for limited upside.  Meanwhile, managers tend to be overly cautious when it comes to making small investments in uncertain, but promising opportunities.  Consequently, they fore-go the chance for transformational upside.

The execution of Taleb's advice requires courage, tenacity, and a system that supports continuous, inexpensive failure in the hunt for occasional, highly rewarding success.  It's the rare company that has what it takes.

Outliers: The Story of Success

Malcolm Gladwell's latest book, Outliers, is entertaining and well told.  His message isn't new, but the re-telling is worthwhile.

The essence of the book is that the incidence of success is a function of expertise and opportunity.  Both are shaped by dispositional and situational factors.  As a general rule, we tend to underestimate the time and effort it takes to develop true expertise and to undervalue the role of context (time, place, family, and culture).  Such bias too often leads to an under-investment in skills and the shaping of our environment.

As K. Anders Ericsson and others have revealed through their research, world class expertise requires 10 to 20 years of accumulated, deliberate practice.  Due to the powerful dynamics of feedback and accumulations, even small differences in initial endowments and conditions can lead to dramatic differences in outcomes.  After the fact, we are prone to attribute achievement with "talent" and "genius" and, in the process, fail to do justice to hard work and good fortune.

As much as I appreciate Gladwell's storytelling, it seems to me that he fails to appropriately highlight how the magnitude of success is subject to extreme variance of the "winners take most" variety (see Art De Vany, for instance).  While the cultivation of expertise can increase the chance of success, it does not guarantee success, nor is there a simple, causal relationship between the degree of expertise and the magnitude of achievement.  Such extreme variance seem to be the result of supply side factors (see Chris Anderson) and demand side circumstances (see Duncan Watts).

While we too often neglect situational factors in favor of attributions based on disposition (real and imagined), it's tough to observe, measure, and shape our situation.  We have no control over when, where, and to whom we are born, for instance.  While it sounds old-fashioned, the most direct ways for us to influence our success are dispositional:

• We can take responsibility for the cultivation of our own expertise.  Hard, sustained, self-critical effort is the key.  Don't demean the achievement of others, and don't let yourself off the hook, by too readily making attributions of superior talent.  Differences in endowments are real, but are too often excuses rather than reasons.
• We can learn humility.  Achievement and success is not random, but chance plays a much bigger role in our success and failure than most of us would like to acknowledge.  By being humble about our own successes, we might find it easier to sympathize with the failures of others.
• We can learn courage.  Years of deliberate, often painful, practice is required to compete.  That provides us with the chance of success, but guarantees nothing.  Even when we succeed, the skewed distribution of rewards often make it hard to perceive the difference between success and failure (ask the person who takes 4th place in an Olympic event).  It takes courage to persevere.  As Winston Churchill said, "Success consists of going from failure to failure without loss of enthusiasm."