Harrison Metal

From, Babbage, a blog on The Economist’s website. An interview with Jose Ferrreira, CEO and founder of Knewtonfrom 2010:

Babbage: What distinguishes Knewton from traditional long-distance learning, and from other online offerings?

Mr Ferreira: All the value ever created by the internet falls into one of two categories: distribution or personalisation. As major pieces of education infrastructure move online, new technologies are being developed to manage that transition. Virtually everyone else is focused on distribution. Knewton is focused on personalisation. We want to work with everybody: we’re lining up partnerships with some of the great education publishers and schools around the world. We’re also going to release a retail version of our software, so that anyone anywhere can upload content, make it adaptive, and share it with anyone else around the world. [Read the rest of the interview.]

A friend of mine recently sent me the interview above. (Thanks, Ryan.)

I like the idea that distribution is one of the big benefits of the Internet. The cost of distributing information, experiences has collapsed. It’s like the effect enjoyed by the hinterlands of the northeast when canals were built in the early 1800s. Greater share of total economic activity moved to the canals and the total amount of activity went up as the costs of transportation and distribution went down. Ditto, railroads, department stores, supermarkets. But personalization is too narrow, I think, to cite as the second (of two!) big benefits. I would go up one level and say that personalization is a type of enhanced product so the label for that particular big benefit from the Internet might more accurately be “product quality.” Personalization fits under that headline label I think, alongside feature-richness, diversity of assortment, things like that. I think the other big benefits of the Internet — if we are trying to make an inventory of the fewest categories that capture the maximum % of the answer — might be (3) Idea Generation — Internet explodes the concept that there is a priesthood of people who are allowed to come up with and put forth new ideas — and (4) Production costs, particularly true with software. Then you could arrange the four in order of the product lifecycle: Idea Generation, Production Costs, Product Quality, Distribution Costs. Again the parallels to canals, railroads and vertically integrated industrial production are neat to think about.

I think education is an attractive market right now. The basic human desire to invest (time, effort, $, etc.) to improve one’s own situation is deeply written into our DNA. And now that online access is ubiquitous and cheap and people have learned over many years that quality content can be had online, I think it makes perfect sense that many of the dollars and minutes people spend offline on these activities will move online *and* the market size will increase significantly as transaction costs for accessing education fall significantly. While I haven’t invested in test prep or in the companies that aim to substitute university coursework, I have invested in technical education (Bloc.io) and lifestyle learning (Craftsy / Sympoz), and “brain wellness” (Lumos). They are at different stages of life but I feel like they each benefit from the macro trends in the consumer market generally. Plus they are founded and run by some exceptional people. Micro-economic (inside the firm) excellence — that’s the best “macro” trend you can have going in your favor.

“Are there any questions?” — The CEO

What happens after she or he says those words? In most organizations, a few hands go up and a few vanilla questions are tossed out. But if your organization is full of smart, ambitious, thoughtful, hard-working people like you hope it is, there’s a lot under the surface that isn’t getting said out loud at an all hands. If they are spoken at all, the true worries, concerns, questions are talked about in private 1:1s between peers and only sometimes do those questions make it back to the leadership team via the scenic route through two or three other people.

And what about the questions that never get asked? Start again with the premise that you hired smart, ambitious, thoughtful, hard-working people. These people observe all sorts of details about the business, the product, the team, the customers. Naturally, they form thoughts from the observations. Thoughts are the natural product of excellent human brains. Whether the thoughts are positive or negative, helpful or harmful, they are in your team members’ heads, impacting people’s work.

Wouldn’t you like to know what’s inside your colleagues’ heads? Wouldn’t you like to build the shortest path between your colleagues’ brains and your ears?

The best way to know what’s in there and know it fast is to establish an anonymous question asking and answering service inside your company. Mine was called the Orange Box (I ran part of eBay.com back in the day). It was a cardboard box. It was wrapped in orange crepe paper. There was a hole in the top of it. People stuffed all kinds of questions into it. I took each question and read them verbatim at our all hands on Fridays and answered them. Sometimes I sent emails but the questions were always verbatim (only a few in six years were rude or had swear words). Since eBay was full of human beings, not robots, who behaved like human beings I described above, there was a lot in their heads. The Orange Box helped me see their thoughts and speak to them faster than any other mechanism. Instituting anonymous Q&A helps build a workplace where leaders mean it when they ask for questions, and where leaders are expected to answer colleagues honestly and publicly.

The Orange Box process was:

100% anonymous. The typical approach to Q&A — an invitation to questions at the end of an all-hands — is designed for only a tiny minority of users: smart, ambitious, thoughtful, hard-working people who also want to speak out publicly and who also can do it in a way that is clear and compelling without making peers or leadership cringe. Anonymity increases the reach of your Q&A process by designing it for the broadest possible market.

Honest. Telling the truth requires disclosing some facts that make you uncomfortable (e.g. details about the business performance, challenges facing the management team). Telling the truth includes explaining why you don’t feel comfortable sharing a particular fact and, instead, giving general context for how you think about an issue or a problem without breaking confidences (e.g. personal life details, compensation, performance, confidential deal terms). Your colleagues are entitled to more information than your competitors or the public.

Hygienic. Think of this like brush teeth, wash face, comb hair of management. Or think of it like colon cleanse. Either way, it works.

I didn’t invent anonymous Q&A process. I am sure there are many variations of this process. (Please post them!) I just believe in it totally for all teams at any size or stage of life and I find they are too rare in the wild. I’ve seen some people use online tools like Google Moderator with great success. Others prefer old fashioned paper and ink. Whatever you choose, choose something. Don’t let your all hands meetings become scripted theater. Capitalism is crippled when creative, honest, innovative leaders treat their colleagues like a captive audience. They are neither captive, nor audience.

Here is a video of two small children trying to do martial arts on each other.

This is a prototype. There is a lot wrong with this site (formatting sucks, the list of companies only goes up to F, I can’t get the images to look like I want, etc.). It will get better. Thanks for your understanding. Here is a picture of a puppy to take your mind off it.

Many people accept the idea that competition between firms yields higher quality products and services in macro markets. It’s less common to apply the same thinking to a company’s internal or micro-market. But think about the product roadmap for a particular company. It seems to me that the best product roadmaps come from vigorous internal competition for time and talent from engineering, design, marketing. But how do you build a competitive internal market for product ideas without giving up the benefits of aligning the whole team behind a strategy? I think there are a couple of practices that founders can implement to get the benefits of competition *and* alignment in product process.

1. Start with a sharply v-shaped funnel of ideas. A wide open top of the funnel for new product ideas gives you a large number of options from a diversity of sources. The quality of the “above the line” (i.e. the funded) investments is driven partly by the number of alternatives vying for resources. It’s also partly driven by tapping the creativity and perspective of all the members of the team, not just a priesthood of product people who are permitted to contribute ideas. Giving any one person or group a royal monopoly on new product ideas weakens a product team by not exposing them to internal competition from other functions. And it keeps the extended, non-product team out of the most exciting and creative aspect of building a business, narrowing their view like an assembly line worker.

2. Editor-in-chief. At the bottom of the v-shaped funnel, there is the editor-in-chief. She or he — it really should be one person — puts some products above the line and others, below it. The most impressive and effective EIC’s I know use a combination of quantitative and qualitative judgment to sort the list. Quantitative considerations might include the return on investment of a project (whether you are focused on IRR, NPV, or some other measure). Qualitative considerations might include strategic positioning versus competitors or the gut intuition of the founder. (It would be nice if everything could be quantified, but we are humans, not robots. Some allowance must be made for judgment as long as it doesn’t become an excuse for lack of financial or operating rigor.)

3. Compost “below the line” ideas publicly. Imagine an exhaust pipe coming off the v-shaped funnel. Not the part where the good stuff drips out — that’s the product roadmap. I mean the part where the stuff that didn’t make it goes. If the funnel is going to teach, the stuff that goes in the exhaust pipe can get reformulated and put back in the top of the funnel; it can get composted into component ideas and insights to fertilize other product ideas; it can become the seed of an entirely new business (inside or outside the firm where it was born). Showing people what’s in the compost pile, explaining why it’s there, and allowing it to recirculate in the micro-market is better for the environment. BTW, the piles of composted ideas can often be Exhibit A in the argument for expanding faster on the engineering and product side. When the compost pile is full of unrefined gold, the opportunity cost of not building that stuff becomes unbearable and the internal market will direct resources to eng and product.

4. Put the roadmap where everyone can see it. Similar to #3 above, putting the entire roadmap where everyone can see it is one of the most powerful actions a founder can take. Sharing a detailed product roadmap is a great complement to sharing high-level business strategy so that people can see exactly where the most precious resources of the company — time and cash — are being invested. It keeps the leadership team honest on how investment choices are made; it trains the members of the team — many of whom will want to advance their skills and careers — how to think about product roadmaps and investing scarce resources. (BTW #3 and #4 are based on the assumption that the disappointment felt by people who championed “below the line” or composted ideas is thoroughly unavoidable and that these feelings are best dealt with by transparency rather than by denial. It is to be expected that people who care about what they work on are disappointed when something doesn’t work out the way they wanted. The approach above arms them with the information they need to make sense of the disappointment and to improve the probability that their next ideas will get funded.)

Can you apply competitive-micro-market thinking to the daily life of an individual? I am going to think about that…

Dolan and Gourville's Value Pricing Thermometer

I believe markets can speak. When I put my ear close to the market, I hear prices. Pricing is the most interesting thing in the world to me. Over the last twenty years I have had the good fortune to work on some cool pricing problems: mozzarella cheese in the NYC pizza market; long-distance calling post breakup of AT&T (ask your parents); automatic markdowns in the off-price apparel business; allocating seats in grad school courses; character-themed apparel and toys; wool cloth in 1830s America; inventory turnover — or lack of it — in the footwear business in LA; software, services, and merchandise in online auctions. And in the last six years since I started teaching product development and design and working with startups, few topics come up as frequently as pricing a product or service.

I like pricing because it’s at the very heart of the economic engine of any product that aspires to become a business. A business lives on cash. That cash can only come from three places: internally generated cash, debt from lenders, or equity investment from shareholders. Since the supply of debt or equity is finite for any business, internally generated cash (aka “free cash flow” or “cash from operations”) is the only permanent and renewable source of life for the company. Pricing — especially relative to variable costs, asset intensity and fixed overhead — is a primary determinant of whether internally generated cash is a positive or negative number.

Last week I got together in Palo Alto with a group of entrepreneurs to discuss pricing. The topic was “Three Ideas on Pricing.” The ideas came from lessons I learned over the last twenty years of thinking more about pricing than is probably healthy. Here are the three ideas:

1. Good-better-best assortments give you a bigger market. There is an ancient and repeating pattern among winning companies in product markets: good-better-best assortments. That is, a range of options from low price to high price, with functional and aesthetic differences along a spectrum. If you look at advertisements from the early nineteenth and twentieth centuries, you notice that a lot of products are offered in good-better-best assortments. This pattern shows up in farm equipment, stoves, teddy bears, cloth, petticoats, wigs, dresses, hats, shoes, tools, shirts, phonographs, guns — practically any category of product that was for sale. Even today, good-better-best assortments dominate categories like cars, jet aircraft, phones, and software. The differences between good, better and best products in any assortment are a blend of quantitative and qualitative attributes; these differences get summarized in prices. This repeating pattern across many categories and centuries suggests some very basic rule of marketing is at work. I think it’s this: When variation is cheap for producers and highly valued by end users, g-b-b assortments increase the addressable market and returns on capital. Another way to think about the same point is asset efficiency: the same basic set of assets can be used to create more sales by adding SKUs to the assortment at different points along a demand curve. When some pattern repeats as much as g-b-b does, it’s worth some serious thought as to why and how it might apply to your product.

Source: Flickr user mcudeque’s gallery; Sears Roebuck catalog, 1919.

2. Perceived value > price > cost. Robert Dolan and John Gourville wrote a brilliant note on pricing called “Principles of Pricing.” I think it is a piece of genius this note. To oversimplify one of the best parts of the note, the gap between price and cost (so-called incentive to sell) is important to the success of a product or service, but there is another gap that can matter more: the gap between the price and the perceived value to the buyer. D&G argue that in order for anyone to actually purchase a product or service, the perceived value must exceed the price. They label this gap as the “incentive to buy” and they make a compelling case why managing that gap is marketing’s job. Business education puts a ton of emphasis on the price-cost gap (gross margin) and we are training lots of people to pay super-close attention to that aspect of pricing. But the perceived-value-price gap doesn’t get the same attention. It should. The incentive to buy can be increased two ways: lowering price, or increasing perceived value. Unfortunately, if your product isn’t selling and if you are focused only on the price-cost gap, you might reach right away for the price lever to lower it. Perversely, you can accidentally make the situation worse if the lack of demand is really driven by low perceived value. For example, a lower price might signal to your customer that your product is actually not competing on quality or feature basis and it can constrain the economics of your business further even if a lower price ignites demand. The majority of the time that I see a product stalled in a market, it’s because the perceived value is too low. This is best fixed by re-featuring the product and re-marketing it, rather than re-pricing it alone. There are many excellent nuggets in Dolan & Gourville’s note — you should get a copy — but this idea is the one I come back to more than any other.

3. Optional add-on features let users optimize perceived value. Even if you have a wonderful good-better-best product range and each product’s perceived value – price gap is large and healthy, there are more product configurations with higher perceived values than you can offer on a static menu. So why try to guess perfectly right when you can let your users dial up or dial down the features that matter most to them? Leaving features like on-call support, dedicated storage, or, heck, even extra photos on your eBay listing (shout out to my old friend Gallery — an optional feature adopted by 60+% of the listings accounting for hundreds of millions of dollars in 100% margin revenue annually) as optional add-ons allows three excellent things to happen. First, your users become participants in prototyping and iterating your product design. You get real-time feedback on what features and functions they want to add to the basic menu. Second, your users’ perceived value of the product goes up; satisfaction and retention should go up with it. Third, when these add-ons are dearer to your users than they are costly to you to provide, you have a large incremental margin opportunity.

If you and I ever have a chance to talk about pricing, and I hope we do, don’t be surprised if I repeat myself with the points above. And forgive me if I frame too many things in terms of pricing. It’s my hammer, and I see nails everywhere.