The Lean Startup Methodology—A Movement Transforming Business
By Anna Svedberg – an intern with Hult Labs. Currently pursuing a Masters in International Business at Hult International Business School.
“Lean Startup isn't about being cheap [but is about] being less wasteful and still doing things that are big.” - Eric Ries, founder of the Lean Startup methodology
75% - that’s the percentage of startups that fail according to new research by Harvard Business School’s Shikhar Ghosh. How come? And is there an approach that is less risky? I had the opportunity to interview Professor Mike Grandinetti, who was recently awarded -- for the third time in two years -- teaching excellence for Module D, about the Lean Startup methodology -- a methodology that allows for a product to develop through feedback from prospective users. In other words, a procedure that aims to discover a viable business model before any significant capital is invested in the product. That is, compared to the traditional startup, a much less risky approach.
Q: How does a Lean startup differ from a traditional one?
A: A traditional startup is based on the notion of creating a business plan that is generated from a combination of elaborate planning and intuition. The over-arching mission with the traditional approach is to execute against a business plan that is assumed to be rock solid -- but assumptions are just educated guesses without validation.
So what happens? The execution of the original plan, which is typically backed by angel or seed stage venture capital, inevitably fails on the first attempt -- and with the expectations of the founding team dashed and a significant amount of capital already spent on the misguided plan, it’s difficult to get back on track.
On the other hand, a Lean Startup is not centered around the immediate disciplined execution of the business plan – instead, its mission is to discover a viable business model, which can only become a reality if you carry out customer development that is market driven.
The first step is to make business model assumptions within each of the 9 building blocks of built into the first iteration of on your business model canvas*, and then head out to the market to test those assumptions. The market will then provide you with essential feedback that you use to refine your initial business model.
Next, you quickly get back out in the market with your revised ideas -- a process that’s repeated until you see a fit between your business model and market needs. In other words, until you have created a product that the market can’t live without -- known as product market fit. At this stage, you have created the “minimum viable product”, which is the smallest, leanest product that will achieve product fit as required by your first target customer segment.
And another positive aspect of the Lean Methodology: you raise significant capital in order to be able to scale your business only after product market fit has been achieved, allowing you to be much more cash efficient throughout the early customer development stage.
Q: So after hearing about this concept that clearly seems to outperform the traditional model, can you mention a few successful Lean Startups?
A: Yes, absolutely. One company that applied this concept successfully was Airbnb. The community marketplace started off with the notion of: “think big, start big.” Yet, this mindset did not take them anywhere. So what happened? Airbnb learned from its failed attempt to carry out its idea on too broad a scale by tackling numerous cities at once, and they came to understand that in order to grow fast and get big, they would need to start small. The first step was to go back to a single test market -- in this case, the Bay Area. In time, the company realized that it had validated its business model and began to scale up from there. To sum up: Airbnb was mentored to adopt a lean methodology by their own early failure.
Dropbox, a Lean Startup success, has a different story. The founder of Dropbox, Drew Houston, realized from the very start that he needed to create a minimum viable product. Houston was hungry for feedback and leveraged mentors who knew about digital marketing and social media. In other words, he had the Lean mindset that would make his idea all the more likely to succeed -- he was aware of the fact that he didn’t have the answer to everything, and that getting rapid prototypes into the hands of likely early adopter users was necessary in order to create something successful.
It was especially critical that the prototype got in the hands of users, because based on the inflated claims of a number of competitors, it was easy to confuse the primary value proposition of Dropbox with more traditional and well established backup products. Once the early users tested Dropbox, the prototype received a significant amount of feedback, which the team used in order to revise the product accordingly. Eventually, the product reached product market fit. Then, and only then, was significant capital raised. Dropbox continues to scale at breathtaking rates, managing petabytes of information and storing billions of new files on a weekly basis.
Q: So Mike, this concept of Lean startups seems to solve many of the issues faced by traditional startups. Are there any downsides or challenges of which to be aware?
A: First of all, it’s a different method that requires a great amount of discipline, intellectual honesty and humility. You just can’t do it halfway. It’s necessary for you to re-frame your mindset in order to be able to say: I don’t know -- the market knows.
Also, the traditional mindset is all about using financial ratios to measure the success of an idea -- something you can’t do early on with your venture because you have no meaningful financials at this point. You are trying to validate the assumptions in your business model canvas. Rather than financial ratios or traditional accounting metrics, you should use something known as innovation accounting -- a term that refers to the process of measuring the progress of your new venture through actionable factors such as customer retention, usage patterns, customer satisfaction ratings and customer engagement, among other things.
(For a definition of Innovation Accounting, please see Professor Grandinetti’s contribution to the Financial Times lexicon at http://lexicon.ft.com/Term?term=innovation-accounting)
Q: So for those who are interested in learning more about Lean startups, what resources do you recommend?
A: One excellent source for further learning is material by the creator of the Lean Startup methodology himself, Eric Reis. He is the author of the book The Lean Startup – How Today’s Entrepreneurs Use Continuous Innovation to Create Radically Successful Businesses, and he also has a blog -- Startup Lessons Learned. Other good sources are different Lean Startup groups or meet-ups that meet regularly in different cities around the world, or online courses from educational organizations such as Udacity.
Q: Thank you, Mike!
A: My pleasure Anna!
In our next post, we’ll cover Professor Grandinetti’s thoughts on two of the Lean Methodology's biggest challenges: the mindset you need to have in order to be successful, as well innovation accounting. Wait, you ask, accounting? Yes—it turns out that the Lean Methodology includes a new philosophy on what businesses should regard as the most important elements to measure in business. As you’ve probably guessed by now, they’re not necessarily the traditional ones businesses usually consider to be the most important. We’ll dig a little bit deeper next time.
*The business model canvas is a strategic management tool in the form of a graphical template that consists of 9 different components: customer segments, value propositions, channels, customer relationships, revenue streams, resources, activities, partnerships, and costs.