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Resegment If You Aren’t In The Top Three

Six months ago I wrote a post about how I think about competition which included a list of topics that summarizes my philosophy. I covered the first item, Be The First Mover, but then went on to other things, like thinking about competitors every single day. I’m back today with the second topic, “Resegment If You Aren’t In The Top Three.”

If you look at the Foundry Group portfolio, you’ll notice a lot of market leaders. Zynga is the obvious one, but I’ll assert that there are many others, including AdMeld (now part of Google), Cheezburger, Fitbit, Gnip, Makerbot, Oblong, SendGrid, Topspin, Trada, and Urban Airship. After that there is a category of companies who might be market leaders, but it’s too early to tell as they are still very young. And, if you look at some of the successful companies we have had from our previous investing at Mobius Venture Capital, you’d see market leaders like Postini, Return Path, FeedBurner, Rally, Stratify, NewsGator, and Sling Media.

An important nuance is that these companies weren’t unambiguously market leaders when they got started. While some of them created entirely new markets, others entered into existing markets. In some cases, there were only a few players as the markets were new. In other cases, they took the existing market and resegmented it.

Existing markets are wonderful places to go play in especially if they are expanding rapidly. Entrepreneurs are drawn to fast growing markets, which is awesome, but there are many who I see that are simply trying to play a fast follower game. I’ve been there, having invested in “company #17 in a market.” Unless you get lucky, that generally sucks.

I’ve developed a viewpoint that if you aren’t in the top three in your market segment, you should “resegment.” Step back and redefine the market segment you are going after. Change the customer, change a product focus, change the distribution channel, or change the partner dynamic. Sometimes it’s a tweak, other times it’s more radical. But change something so that you are in the top three of the “new market”.

Don’t bullshit yourself about this. I’ve been the investor in many companies who weren’t in the top three that were going to get there with the next release, or a new sales VP, or something exogenous that would happen to the existing market leaders, or a magic trick that no one had thought of yet. This is almost always a losing strategy. Don’t count on luck. Resegment.

January 23rd, 2012 Categories: Competition Tags: competition, market leader, resegment

Anonymous

I think it was probably Jack Welch at GE who told his folks – when their business unit was #1 or #2 in their market – to redefine their market more broadly and become #1 or #2 in that larger arena. So I think there are lessons in this post that apply even to market leaders.

http://www.feld.com bfeld

Yup – very similar perspective, although Welch’s view was “if you aren’t #1 or #2, we should sell the business to someone else.”
http://www.alearningaday.com Rohan

Nice timing. I was thinking the very same.

http://www.kickofflabs.com Scott Watermasysk

I think this part of the 22 immutable laws of marketing….if you can’t be number 1 in your market, create a new market.

Another way to think about it….really understand what you need from the market to succeed. Can you offer a great service at a great premium? Startups way over think owning the market and/or being the market leader. You don’t need to lead any market….you need to (at some point) earn more revenue than it takes to run the business. Being the biggest certainly helps….but it does little if anything to ensure long term success.

When you take off the “size for the sake of size” blinders, the startup world becomes an even more amazing sea of opportunity.

JamesHRH

It is absolutely the foundation of the Trout & Ries philosophy. That principle, in short strokes, states that, over time, markets mature into binary propositions: the standard and the alternative.

Sub markets and next door markets emerge, as providers discover new attributes that carve out or cleave off a group of customers (or a part of their usage / need).

Brad’s comment above about being third is a great one – if you are third and second is close, you can likely become second (although first is really tough, unless the incumbent is poor).

But, if you are 5th in an established market, almost 100% of your sales are relationship based or low margin (neither is defendable over time).

http://patrickfoley.com/about Patrick Foley

Great minds think alike, Scott … (I think I exchanged comments with your co-founder recently, too – “small world” is another cliche that comes to mind …)

On on level, I agree with you that all you need to succeed at the most basic level is to “earn more than it takes to run the business” – I get the sense that’s fine for a lifestyle business or a regional business (do you need to be the world’s greatest dry cleaner?) or a very early stage startup. However, it will never get you funding (at least not from Foundry Group). And even if you don’t want funding, I suspect it’s pretty hard to excel as a business long-term unless you lead SOME category at some point, even if it’s a tiny, tiny niche.

Patrick McKenzie’s Bingo Card Creator actually has competitors, but I know his name because he executed flawlessly to dominate his market (and wrote eloquently about it). I doubt I would know his name if he had a middling product in a big market, even if it made him a bit more money.

http://www.kickofflabs.com Scott Watermasysk

A couple of points:

1. I am not saying there is anything wrong with being the biggest/owning the market. I simply think you are better off focusing on building something someone will actually pay you for instead of trying to figure out how you can big for the sake of being big. The surest way to being the biggest is happy customers and time.

2. The Foundry group (and Brad) appear to be really smart…I hope they are not simply looking at your market position. 3. You know of Patrick McKenzie because he speaks, interviews, and writes about Startups. I don’t know Patrick personally, but my money says his bingo-card business makes close to zero money directly from the these activities. He certainly makes money from them…and if he ever wanted to raise money this would make it much easier for him than the average startup. His Bingo card business makes money because it is a great product and he is great at SEO. 4. Any startup making decisions based solely on getting funding is doomed (with or without money). I hate that when I say don’t focus on being big for the sake of beging big the first response is “how will you get funding….or sounds like a life style business”.

OK, that was more than a couple.

http://yoavlurie.com/ Yoav Lurie

Should you do this in third place, too? In many markets (especially in B-to-C), it seems there is more and more “winner-take-all.” Network effects make this even more powerful. The 50%, 25%, 10% math for the top-3 might start looking more and more like 75%, 15% for the top-2.

http://www.feld.com bfeld

I’ve had lots of success being in third place, especially when the dude in second isn’t that far ahead of you.

Anonymous

but let’s say if your company is a distant 3rd(10%) and you are not gaining market share..

http://www.feld.com bfeld

Then you should think hard about resegmenting what you are going after.

http://grandresume.com/ resume service

VEry nice post!
http://grandresume.com/ resume

Very nice!
James Mitchell

This is advice that one should take with a grain of salt.

Jack Welch told his mangers, “If you are not no. 1 or no. 2, come up with a plan to become 1 or 2, or sell the business.” For the kind of businesses that GE owns, this probably makes sense. If you are no. 3 in aircraft engines, or train locomotives, I doubt you will ever earn your cost of capital.

There are some industries where if you are not no. 1, life sucks. For example, search engines. Is anyone making serious money other than Google? Is there any chance that Microsoft will recover the billions it has poured into Bing? I doubt it. On the other hand, there are lots of industries where you can be no. 8 and be very profitable — e.g., banking.

So I would argue that a more thoughtful approach would be:

1. Correctly define your market.

2. Access your current market position.

3. Make reasonable estimates of how this will change in the future, including your raising capital, acquisitions to snuff out a competitor, likely new entrants, etc.

4. Then estimate how profitable your projected market position will be.

A better way of phrasing Brad’s advice would be, “Given the markets that FG invests in, our experience has been that you need to be 1, 2 or 3.” But Brad’s rule certainly can’t be extended to tech segments FG does not invest in, and most certainly not to non-tech segments. Among law firms, for example, I doubt Cravath or Wachtell Lipton are in the top 10 terms of number of attorneys, but there profits per partner pretty much blow everyone else out of the water.

http://www.feld.com bfeld

My comments about competition only apply to high growth tech companies. For more general management theory, I defer to lots of other folks.
http://www.justanentrepreneur.com Philip Sugar

Cravath’s Website: “We are not, and do not strive to be, the largest law firm measured by number of offices or lawyers. Our goal is to be the firm of choice for clients with respect to their most challenging legal issues, most significant business transactions and most critical disputes

Wachtell Lipton: “is consistently ranked as the most prestigious and desirable law firm to work for in the United States, enabling the firm to attract as associates some of the most outstanding and motivated attorneys and law school graduates in the United States and from around the world.”

Both claim number one in their segment.

James Mitchell

In purchasing legal services, one should be skeptical of talking only about law firms. In most cases, the attorney on your case is more important than the law firm. Some very prestigious firms will assign second year Associates to a case, and most second year Associates have not yet figured out where the bathrooms are.

Cravath and Wachtell Lipton have simply done what Brad recommends: resegment. In their case, the resegmenting is legitimate. If you ask General Counsel of Fortune 100 companies who the first firm they would call with a bet the company problem, those two firms would be on everyone’s short list.

I have a business that does lead generation for plaintiffs law firms. We bring cases through FINRA arbitration. The defendants are major investment banks who use firms such as Cravath and Wachtell. We love it when they do. Why? Because the partners at those firms are great trial lawyers when they have exhaustive preparation before trial, which you can do in normal litigation, due to the extensive discovery that is permitted. Discovery is substantially curtailed in FINRA arbitrations, however. Partners at those two firms are lousy at winging in, while my attorneys are gifted at it. In winging it, my guys can run circles around them.

Resegmenting in many cases invites abuse. If I start “James Mitchell’s dog grooming business in Back Bay,” and I define my market as all dog grooming services on Newbury Street between Fairfield and Gloucester Streets, I am legitimately claim to be no. 1.

http://www.feld.com bfeld

James – your dog grooming example isn’t “abuse” – it’s actually a great example of narrowing the scope to be a leader in what you are doing (dog grooming services). If you believe you can build a profitable business dominating dog grooming in this segment, then there’s nothing wrong with this segmentation.

http://www.samedayphysical.com/ Richard Weisberger

What are your thoughts on applying the techniques of survival analysis to look into this issue a little further? Group buying sites might be a data set? Thougts on other data sets?

http://www.feld.com bfeld

I don’t know much about survival analysis other than what I learned in stats (survivor bias) and what I gleaned from wikipedia so I don’t know of anyone who has done this. However, I think if you do a binary survival analysis using a long enough time window you’ll find some very interesting data. The one challenge is how to treat the acquisition of company as it results in three cases: (1) successful financial outcome for founders/investors, (2) neutral outcome, and (3) failure outcome.

http://www.samedayphysical.com/ Richard Weisberger

This falls under the subset of Multiple failure-time data or multivariate survival analysis. Do you have a data set that i can play aroud with?

Anonymous

Never under estimate first to market

http://MainStStark.com Jeff ‘SKI’ Kinsey

Okay. But then, consider a number of factors. In Myrtle Beach, SC the expression is something like, “The third duck gets the corn.” The road to bankruptcy is often paved with renderings of the first-movers. If you did not know, Jack Welch is believed to have learned his “be #1 or #2″ in your market from his early career interactions with Peter Drucker. Mentorship is a beautiful thing.

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http://www.justanentrepreneur.com Philip Sugar

Great comments. I write about it on my blog.

I usually give just the entrepreneurs perspective and would say that 9 out of 10 technology businesses cannot use money to scale. Therefore they are not a good candidate for VC, as it gets cheaper and tools get better I argue this is going to increase not decrease.

Ironically VC’s can’t use money to scale which is why you see successful ones like Foundry Group/Union Square not trying to be the biggest.

But this post is not about pure size, its about leading your segment. For instance Foundry Group is not in the top three VC firms as far as funds under management, but I’m sure that is not the segment Brad defines himself in.

So while at first while I was reading the comments and saying no, you don’t have to be top three, I think he’s right you need to be top three in your segment. I don’t care if its fixing cars in geographic region X or what, but you need to focus on who you compete against (it better be somebody not the hairy gorilla of nobody) specialize and win. Maybe it might not be fixing cars it might be the place to go if you’ve been in an accident. You need to have a real segment and you better be top three.

As far as “lifestyle businesses” I have gone retro, and say fuck yes I own a lifestyle SaaS company try and match mine beeatch!!

http://patrickfoley.com/about Patrick Foley

Thanks! I’ll check out your blog. Kudos on the approach of being proudly “lifestyle” – I hope it proves to be a competitive advantage so that we don’t have to equivocate …

And dangit – You pointed out something cool – even regional businesses need to come close to leading that REGIONAL segment (how ever small the region is defined) in order to be successful long term.

http://www.justanentrepreneur.com Philip Sugar

It already has….I have a long history in the software/technology business.

And it sucks when people pigeon hole things. Just like when people tell us that you can’t use SQL Server to process the tens of millions of transactions we process a day.

I ask those BigCo execs why I’m in their office and its because we work and have a serious reputation because of the industries we’re in.

http://www.youtube.com/watch?v=vOAnzYk379M samedayessay.com

interesting thoughts
Bill Mueller

Very Jack Welch in your approach – good points, thank you!
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Resegment If You Aren’t In The Top Three

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