 "Entrepreneurial traps")
THE NEW BUSINESS ROAD TEST:
WHAT ENTREPRENEURS AND EXECUTIVES SHOULD DO BEFORE WRITING A BUSINESS PLAN
AUTHOR: John Mullins
PUBLISHER: Pearson
Price: $32.99
ISBN: 9780273732792
Five common traps that look attractive by some criteria but often are fundamentally flawed.
Trap 1: The large market fallacy
Investors often hear entrepreneurs say something like this: 'My market is huge. If I get just 10 per cent of it (or 5 or even 1 per cent), we'll all be rich!' The problem with large markets, especially large markets that are growing fast, is that others like them too. Large markets attract competitors, often large established ones with deep Pockets - such markets can be very difficult places for entrepreneurs to play, especially in industries where the threat of entry is high. Equally importantly, if your product doesn't offer genuine benefits to your targeted consumers, then the largest market in the world will not save your business. Thus, serving a large market offers no assurance of entrepreneurial success.
For example, nearly two decades ago, Nestle's refrigerated foods division examined the American market for pizza, worth $18 billion at the time. They decided to enter this huge market with a refrigerated pizza product sold in supermarkets; they needed less than three-tenths of 1 per cent of the market to be successful. Their entry failed. Why? Fresh-baked pizza, delivered to their homes for an easy family meal, was seen by consumers as superior in taste and was no more expensive than Nestle's pizza. It was convenient too. Cheaper frozen pizza was adequate for a fast meal for the kids. Nestle's refrigerated product offered no clear benefits to either market segment.
What's the lesson for avoiding this trap? For entrepreneurs, large markets are good news only when their offering delivers genuine benefits for some segment thereof. For new ventures serving large markets, it's generally far better to pursue a large share of a small but carefully targeted segment rather than a small share of the overall market. Nestle failed to do that with its refrigerated pizza entry. In large markets, targeting is crucial. If entry into the initial segment provides entry to other segments later, so much the better.
Trap 2: The better mousetrap
Especially in technologically driven industries, entrepreneurs often try to capitalise on technology for its own sake. Doing so rather than asking what the technology can do that benefits some target segment of customers is a trap. Better technology - a better mousetrap - does not necessarily equal a better solution for the customer. The key question for technology entrepreneurs, where there's typically uncertain demand for the technology, is 'Who wants it and why?' Nestle, as the story above shows, fell into this trap. Thus, the trap can occur in the low-tech world and in smaller markets too.
In 1999, a British start-up called Navigation Zone had developed a novel and patented method for searching and navigating very large websites. The market for search engines and Web navigation tools was large and growing rapidly, and the company was readily able to raise seed funding. A year after funding, the company had still not made any sales, and the money was running out. Crucially, the company had not identified exactly who wanted what they had to offer. Was it site owners, other search engine suppliers, or developers? While they had developed a technology that demonstrated small but real improvements over existing approaches, the gain was not sufficient to warrant any potential customer changing his or her current buying behaviour. The company was forced to downsize and survived only by refocusing entirely on the site developer market with a specific tool that improved the site developer's productivity by a factor of two.
How can you best avoid this trap, especially if your opportunity is technology-based? Remind yourself that entrepreneurial success is not about you and your technology. It's about identifying the right customers and using technology to satisfy their needs.
Trap 3: The no sustainable business model trap
Many failures in the dot.com bust had business models that were simply unsustainable. For example Pet supply e-tailers. While large, attractive markets of pet owners and compelling customer benefits were present (who likes carrying heavy bags of dog food home from the store?), the raw economics of acquiring new customers and shipping dog food one bag at a time were simply unsustainable. Put another way, the relationship between the two micro-level factors, i.e. benefits for which a group of target customers are willing to pay and a cost structure that makes the intended product or service economically viable, must be sustainable. If not, the business will not last long, as we saw in the demise of most pet supply e-tailers in 2000.
How might you avoid this trap? Build your network so you understand your industry and its economics. Then do the mathematics on your opportunity. Grand concepts are no substitute for running the numbers.
Trap 4: The me-too trap
The combination of high threat of entry (a macro-level industry factor) and lack of sustainable advantage for new entrants (a micro-level industry factor) can cause a large number of competitors to pursue an opportunity, only to be winnowed in a hurry. In the early days of the Winchester disk drive industry, for example, so many me-too entrants entered the industry that capacity of more than 40 times the total market size was funded by venture capital investors. Thus, the combination of low barriers to entry (revealed in the upper right corner of our model) and a lack of sustainable advantage (lower right corner) should be a red flag to would-be entrepreneurs. The only ones who should tolerate this combination are niche-market entrepreneurs who can fly below the competitors' radar.
How to avoid this trap? This one's easy. If barriers to entry are low and you have nothing on which to sustain your initial advantage, stop before you start. If you've already started, sell now, unless you are happy to run a niche-market business that does not compete with the big guys. That's what Jack and Andy Taylor did in starting Enterprise Car Rental. Hertz, Avis and the others couldn't be bothered with the neighbourhood segment, and the Taylors had it almost entirely to themselves.
Trap 5: The hubris trap
Some people build careers as serial entrepreneurs. They start venture after venture, seemingly always successfully. Those who are successful usually succeed by choosing opportunities without crucial flaws and by executing effectively. Having done it before is a great advantage when it comes to fund-raising, but it does not obviate the need for attention to the seven domains. Don't rest on your laurels. Do your homework. Even you are not invincible!
Re-printed with permission from 'The New Business Road Test: What entrepreneurs and executives should do before writing a business plan' by John Mullins. Copyright Pearson Education.
