The only path to success for a startup is to become the leader in your market
Most startup pitches I see have a similar story: the market for X is $100 billion dollars and growing at a 10% CAGR. Our new AI-powered B2B SaaS needs to capture only 0.01% of this market to become profitable.
At that point, I tune out the rest of your pitch. Sorry. There’s no chance of the company being successful. Companies with a 0.01% market share never are.
It’s well-known that the market leader is usually wildly profitable. #2 usually does okay. #3 struggles to break even. #4 and beyond are hopeless and will lose money until they’re put of their misery. You need to be #1.
For this reason, nearly all big companies with multiple product lines have a simple rule made famous by Jack Welsh at GE: Be #1 or #2 in the industry or close it down or sell it off.
Not all CEOs are as coldblooded and ruthless as Jack, but all managers have this rule at the top of their mind when planning product strategy. And yes, Jack was wrong about a lot of things, perhaps even most things, but not this.
The reason is simple. Customers buy the market leaders. They avoid the also-rans. (Even the word “also-ran” is instructive. It originally meant horses other than #1, #2, or #3 in a horse race. The other horses also ran but didn’t win any prize money. If you’re racing, don’t be an also-ran.)
That sounds like a tautology, but it’s not. Customers buy the market leaders because:
- they spend the most money on marketing to convince customers they have the best product, even when they don’t.
- they have the most money to spend on engineering to add features customers request, even if they’re useless.
- they have the widest distribution to get the product to the customers in the easiest way for them to buy.
- they have the highest volume and therefore the lowest cost of production, so they can beat you on price with discounts to knock you out of any deal.
- they’re already embedded at the customer with other products that are difficult to displace.
- most importantly, corporate customers feel safer buying the market leader. If something goes wrong, you don’t get blamed for a bad decision. Nobody gets fired for buying IBM/Cisco/Microsoft, etc.
Here’s what usually happens when you try to compete with the market leader: You have a feature they don’t have that the customer needs. The early adopters on the innovation teams buy a few copies to play with. They love it. It solves a big problem for them. They recommend it to the managers of the operating groups.
The operations folks are less enamored. They’re the ones who have to get up at 3 AM if the system crashes in Germany or India. They’ve been working with the account manager at the market leader for a decade. So instead of buying your product, they ask the market leader to add that functionality to their product.
The market leader’s functionality doesn’t have to be good. It just has to be good enough. So they’ll announce they’re adding wonderful new AI-powered features that are remarkably similar to yours. They’ll be delivered late and won’t work well, but in the meantime you’re locked out of customers. If they work at all, the customers will stick with them.
Gotta Be Number 1
The solution is obvious: you have to be number 1. You have to dominate the market for your product.
As a startup, you’re not going to dominate the very large market for databases or beer. But rather than a miniscule share of the beer market, you could become the leader of a submarket such as organic beer.
It’s easy, though, to go to the other extreme to declare yourself a market leader. You’re the number 1 selling organic blueberry-flavored wheat beer in Casper, Wyoming. Congratulations! Does anyone care? Other than my blueberry beer fanatic friend in Casper, Wyoming, no. It needs to be a real market. It has to be a market people care about.
The market needs to be:
- Big. Unless the market size is at least $1B, even if you dominate the market, the opportunity is not large enough for venture investment.
- Protectable. Being the leader in Wyoming doesn’t help if the leader in Colorado can grab your territory by hiring another salesperson.
- Something customers care about. Is blueberry flavor instead of say lemon or raspberry something customers care about when choosing a beer? Probably not. Fruit-infused beer? Perhaps. Organic. Probably.
Let’s focus, then, on the market for organic beer. Worldwide, it’s estimated to be an $8.5 billion dollar market, projected to reach $16B by 2023. Big enough? Yup!
There’s plenty of competitors now, including beer giant Anheuser-Busch with Michelob Ultra and lots of craft beers. But no clear leader in a market that’s still developing. With brilliant marketing to a select audience, it’s not impossible that you could grab major market share and even become the market leader.
At that point, and only at that point, does InBev, Diageo, Molson Coors, or one of the other beer giants buy you at a high valuation. They’re willing to pay out the big bucks not because you have a better product, or have technology they can’t replicate, but because you own the organic beer market which is growing fast while regular beer is stagnating, so they need you for their growth strategy.
They need you in their portfolio, they need you for their distributors. They need to be the market leader in your market segment and it’s easier and cheaper to buy you than to compete.
So as you build your investor pitch, tell us not how you’ll take a tiny share of a huge market, but how you’ll become the leader in a smaller but substantial market.
If you like Hitchhiker’s Guide to the Galaxy, don’t miss my Silicon Valley novel, To Kill a Unicorn, about a startup specializing in teleportation. The novel has 42 chapters, of course, and ends with Life, the Universe, and Elephants.
