Most investors and corporates estimate the potential of a new technology. It’s a mistake. Real disruption comes from the convergence of different technologies. This post will explain how technology convergence creates parallel industries and Startup Tsunamis. Most importantly, it will tell the story of a young stripteasing college student that took down a billion-dollar empire.

In 1953, a 27-year-old entrepreneur raised angel investment from 45 investors. With the money, he pioneered one of the world’s biggest industries and built a true empire. Today, his product is an iconic piece of western culture.

The name of the entrepreneur was Hugh Marston Hefner. His product was a new type of magazine. He called it Playboy.

The world was changing its view on sexuality, and pornography was taking off. It became a billion-dollar industry with companies raking in huge profits.

The pornography studios appropriated most of the profit because they controlled the means of production. Print machines, studio light, cameras and retail distribution were expensive.

At the height of its glory, the industry launched its own award show rivaling the Oscars in glamour. And then one day, in late 1990’s, it was all over.

A young college student had set up a camera in her dorm room. She connected the camera to her computer and created a website she called JenniCam. She started broadcasting for the world to follow. She quickly learned that viewers increased when she did stripteases.

A few years later, Playboy delisted from the stock market. Its stock was plummeting.

JenniCam started a webcam revolution. Today, there are thousands of cam models. They connect directly with viewers thanks to cheap cameras, fast internet connection, chat and digital payment.

The webcam revolution is one of the clearest examples of disruption caused by the convergence of technological innovations. The old companies were built on an infrastructure of professional grade equipment, film studios, and physical distribution.

In contrast, the webcam industry is built on the availability of cheap consumer grade equipment, online distribution, and new communication and payment protocols.

What the pornography studios experienced is the phenomena of parallel industries. Few people understand it. You are about to become one of them.

The difference between competition and parallel industries

The runaway success of Playboy attracted many competitors. Among the biggest was Penthouse. The magazines competed on celebrity pictures and naughtiness. With the emergence of DVDs, the studios competed on distribution and licensing agreements.

But when JenniCam launched, few took notice. To the established players JenniCam wasn’t a competition, let alone a threat. Its young founder didn’t try to muscle them out of licensing deals. She didn’t invest in new studios or steal their models. In fact, she was utterly invisible to them.

The thing is that when certain technologic innovations converge, it creates entirely new industrial platforms. The startups that emerge on the new platform are not competing with the incumbents. Instead, they are building a parallel industry.

A parallel industry is an industry that has been rebuilt from the ground up on a new industrial platform. The new platform provides an infrastructure that is magnitudes faster, cheaper and more effective than the traditional industrial platform.

The new platform enables entrepreneurs to reimagine all components of their business model and apply new technology in every layer of its business. As a result, the startups that emerge are so different from the incumbents, that they go unnoticed by the old industry.

The next thing that happens is that the parallel industry matures. It develops its own suppliers, consultants, and networks. Suddenly, JenniCam had sparked an entire industry of innovative producers of webcam technology, video compression providers, and digital payment solutions.

At this point, the incumbents take notice. But it’s too late.

How parallel industries cause Startup Tsunamis

Parallel industries are supported by underlying technologies that serve as the infrastructure of the industry. Like: production technology, distribution technology, communication technology and financial technology.

When innovations in the different underlying technologies converge, a new industrial platform is born. That happened during the industrial revolution when factories (production), railroads (distribution), the telegraph (communication) and Wall Street (finance) converged and gave us a tsunami of new products.

Startup Tsunamis describe the phenomena of very large number of startups launched within a concentrated timespan, attempting similar business models. One of the latest examples of this is ride sharing.

Much like the pornography studios, taxi companies had enjoyed decades of steady business. But around 2010, a new industrial platform was emerging.

The smartphone converged with advances in payment infrastructure. At the same time, venture capital was reemerging as a source of capital for startups after being decimated by the global financial crisis.

The result was a true Startup Tsunami. Here are just some of the few startups that built their business on the new industrial platform: Uber (2009), Ola (2010), Wingz (2011), Sidecar (2011), Hailo (2011), Grab (2011), Lyft (2012), Didi Chuxing (2012), Careem (2012).

Today, few people doubt that ridesharing will change personal urban transportation for good. When electrified self-driving cars join the convergence to enhance the new industrial platform, taxi companies are history. But the story doesn’t end here.

Blockchains are creating new financial infrastructure. IoT is creating new communication infrastructure. 3D printing is creating new production infrastructure. Individually they might seem like toys. But so did webcams until they converged with high-speed internet, chat and digital payment. The cocktail enabled a young college student to initiate the fall of an empire.

At Accelerace we help both startups and corporates. Check us out at Accelerace.io.

Thank you to Jeremy Rifkin and his great book, The Third Industrial Revolution, to inspire me to write this post. I can recommend his book.

Many corporates are billion dollar entities in stagnation or decline. So they run startup programs to look for the next big thing. But big corporates need big ideas to move the needle. That is why most corporate selection committees focus on market size. They think big market is a prerequisite for big opportunity. They are mistaken. This post will explain why market size is irrelevant and how corporates should be evaluating startups.

Today most corporates have some kind of startup engagement activity. Like outplaced innovation teams, hackathons, innovation garages, and accelerators. And they should. Startups create much of the innovation today and corporates would be foolish not to attempt to leverage it.

The problem is that it’s not working. The initiatives do bring the sense of innovative spirit and fun for the employees involved, but the billion-dollar success stories keep eluding them.

The problem is that many corporates are terrible at assessing startups. And this problem is magnified because the consultants and service providers helping the corporates design and manage these programs are too focused on getting the contract to question anything. Sucking up rarely produce truth.

The fallacy of big markets

Corporates need billion-dollar ideas and this fact makes them focus on startups with big (adjacent) markets. And it makes sense. Big markets are the prerequisite for big business. Unfortunately, this logic is flawed.

The thing is that startups aren’t really businesses. Instead, they are problem-solving entities. And this fact is immensely important when assessing the potential of startups.

Businesses have markets. Startups have niche products that target niche customers with a problem no one has cared to solve before. Per definition, most startups have tiny or even non-existing markets. Like a young startup called Unity in 2005 that made it easy to create games for Apple devices. There was no market because none played games on an Apple device. That was until Apple launched the iPhone. Today Unity Technologies is a unicorn.

Or Trustpilot (an Accelerace alumni company from 2008), that made it easy to review webshops. Their market was non-existing because they had no customers. Only free users. Today Trustpilot has thousands of business customers and raised $150 million in funding.

The thing is that market size is not relevant because the product evolves and the market sentiment changes.

Still, in most selection committees I’m in, the corporate representatives will regard the current product pitched as a fixed value proposition and estimate the potential from that snapshot. It’s a mistake.

How markets emerge over time

The truth is that most startups radically change their product. It happens because startups are founder driven, and founders can enact radical changes at will. To a corporate, sudden and radical product changes is unthinkable. Thus, corporates tend to gravely underestimate the plasticity of startups products and business models.

When the product change, the potential market changes as well. Like when the high-end limousine ordering app Uber added non-luxury cars to their app and became a taxi killer. The limousine market is small. The taxi market is not.

Just like the product can change, so can the market sentiment. It happens if the product has network effects or product consumption is highly observable.

When products have network effects, the product becomes more valuable over time. In the beginning, the product is only valuable to a small group of people. Like the first computers or an early version of the crowdfunding platform Kickstarter. But as more and more people use the products the relevant market increases. And Metcalf law teaches us it can happen very quickly.

In other cases, the market sentiment changes because of trends. If the product is highly observable, it can initiate a change of perception among potential customers that suddenly redefine the market. Like electric vehicles, café latte and CrossFit.

For reasons above, market size is a terrible proxy for potential. And corporates need to unlearn the importance of it.

How to do it right

Instead, corporates must learn to construct a thesis about the future of their industry. The thesis must regard how technologies and trends will influence, reshape or even replace their industry. Once in place, corporate must target ideas and startups within the thesis.

They must learn to resist the temptation of attempting to foresee the potential of the individual startup but instead focus on executing their thesis. In all practicality, this means betting on a lot of teams doing similar things but from different angles.

The selection committee must still regard the potential, but the potential is already built into the thesis. So instead of questioning the market size, the committee members should question how closely the startup fits the thesis.

If telcos had done this in 2011, they might have caught either Line, Snapchat, Viper or WeChat. They all launched their chat apps that year, but telcos were missing a valid thesis on the future of communication. This should be a lesson for all.

Conclusion

Most corporates look for billion dollar ideas.
When assessing startups, corporates question market size.
Market size is a bad proxy for potential.
Corporates need to create a valid thesis about the future of their industry and start targeting a large number of startups within this thesis.

Month: March 2018

What porn and ridesharing can teach corporates, investors and startups