Why Startups Need To Follow the Hard Product Path
Four steps to a stronger company and a higher valuation
When a startup attempts to build a product-based business out of an existing service model, there will always be the lure of leaning on the service to bring in revenue. But while that easy money may support you in the short term, it’s going to suffocate you in the long run.
Thanks to the mainstreaming of cloud-based processing, mobile communication, and simplified digital commerce, we’ve arrived at an age where every single service you can imagine is being streamlined, restructured and offered as a product.
As we ride out the innovation cycle of Software as a Service, we’re seeing a new cycle developing you could call Service as Software. Innovation-chasing companies now offer the hiring of labor through an app — from consumer-based services like shopping, oil changes, and personal investment advice to business services like hiring, legal, and even creative services like design.
How a service model evolves into a product model
The modernization and automation of these traditional services begins with the streamlining of how they’re engaged, delivered, and paid for. What happens next, for those especially innovative companies anyway, are changes to the execution of the service itself.
If you can achieve the same results of a traditional service using a new process, and if those results can change the customer’s behavior and expectations, you can successfully shift from a service model to a product model. That means your company gets awarded all the trappings of a product play, including a sizable bump in valuation.
Unfortunately, on the way to product manna, the temptation will always be there to keep making the service money. Yes, it’s lower margin. Yes, it goes against everything your startup is trying to change. But the business is always readily available, and it’s low-hassle money. You don’t have to educate your customers to solve their old problems in new ways, you just have to show up and collect your hourly rate.
This is not a new problem. The very first startup I worked for, over 20 years ago, started as a technical services firm — a custom software factory. On the side, we developed frameworks that we used to cut our coding time by up to 80 percent. Eventually, we began selling those frameworks, and training for the customer on how to create their own software. This was a move to a higher-margin product model that required a lot less talent and cost to produce.
But there was always the lure of multi-million dollar projects coming in, customers who just wanted to get out of the way and were willing to pay our old hourly rates for custom work — low-margin but guaranteed easy money. The kind of money that’s hard to say no to.
So how do you make sure your evolution to a product model doesn’t devolve back into a low-margin, low-valuation, highly-labor-intensive service model?
Step 1: Stick to your positioning
The first thing to do is decide what your company is going to be.
For example, Lyft never referred to itself as a “two-sided marketplace for taxi services.” It was always a “ride sharing” company. In fact, while early Uber was calling itself a black car taxi service, Lyft’s business model was borrowed from Sidecar, which was a platform that allowed people who were going in the same direction to pair up (actual “ride sharing”). As ride sharing continued to evolve into a dedicated driver and rider system, Lyft never lost sight of the original positioning. Uber launched their own ride-sharing service, Uber X, soon after. Uber Black is now the ride sharing equivalent of Uber’s original black car taxi service.
If you’re going to change the way a service is executed, don’t position yourself as a watered-down or technology-enabled version of that same service.
You can get away with it for a while. You’ll definitely make investors and employees happy as the money comes in. But soon you’ll be bifurcating, essentially running two companies at the same time. And one of those companies will wind up a small competitor in a field that you had started the other company to disrupt, not to compete against. All that time spent competing is time spent not disrupting.
This happened to a fellow founder friend of mine. He found himself spending upwards of 80 percent of his team’s time filling service needs related to his product in the recruiting industry. In other words, instead of converting his customers from his service to his product, he was just using his own product to execute his old service. So he took drastic action, and shuttered his service arm entirely, telling his customers they either needed to switch over to the product, or they needed to find another service provider.
Almost all of them went and found another service provider.
But as crushing a blow as that was, he didn’t regret it, and now he’s going to succeed or fail building the business he set out to build.
Step 2: Keep the wizards behind the curtain
Success doesn’t happen overnight, and neither does the transition from service model to product model. If you switch over to a product model right away, you’re going to have to do a lot of educating, a lot of onboarding, and a lot of support.
What’s worse is you’ll have no idea how much education, onboarding, and support you’ll end up doing, or how to do any of it efficiently.
This is where you bring in the idea of managed services. Think of managed services this way: The customer tells you what they want to accomplish with your product, your managed services team are the wizards behind the curtain, with their hands on the keyboard, until the customer is ready to do it all on their own.
But managed services isn’t merely a services arm of a product company, it’s a way to fake the product until you make the product. Managed services should exist to identify the gaps between the customer and customer success. The more experience your managed services team accumulates, the better position your company will be in to anticipate and automate the tasks they repeat the most, converting those human wizards into software wizards, which can get to a better customer experience more quickly.
Managed services should not be white-glove, and it should not be offered past a defined and distinct onboarding phase. The trick is to figure out when that handoff should happen and how. Because while managed services should bring in some revenue, it shouldn’t be seen as a replacement for the volume of service revenue you used to bring in.
As an added bonus, managed services will keep your customers from turning out complete crap results with their initial attempts at solving their old problem with your new solution.
Step 3: Sell out of the death spiral
At my last startup, we had a huge hiring problem. The way we were going about hiring was producing awful results, but we were so busy trying to fill positions that we never took the time to consider changing the hiring process. That’s a death spiral.
If you’re revolutionizing the way a service is executed, you’re essentially asking customers to likewise consider changing the way they do things. This is a difficult ask, as customers would rather stay with something that isn’t working than risk moving to the unknown.
Once you get your customers to see their own death spiral, they can’t unsee it. They might not rush to change their behavior immediately, but the seed is planted. Like Inception.
Now, you might ask yourself: How long will a customer stay with a solution that’s no longer working? And the disheartening answer, from my experience anyway, is “As long as they can.”
You have to sell the customer out of the service and into the product from the beginning. That’s hard to do when you’re offering the same exact service on the side.
Step 4: Don’t chase bad product business for service money
The last temptation of a service model is sneaky, because it’s often disguised as a product use case. Bigger customers with deeper pockets can request all kinds of enhancements, one-offs, and special favors that they’re more than willing to pay for to make your product fit their needs. This can happen even when the customer sees the value in your product, because they’re not ready to let go of the status quo. So they’ll look for compromise, and by compromise, they mean customization.
This can be a big windfall if the changes fit your roadmap, but beware the customer that assumes any of these three killer personas:
- They don’t find value in the product, but see it as something to work around to get the service done. This usually happens when your product fits a limited use case for them. That’s not a problem for as long as it remains true. But the moment they want to go “off-menu,” they’ll expect your product to automatically conform to their needs.
- They see you as their own private development shop. They’ll request so many deviations from your product’s feature set that you’ll need to build a custom version just for them.
- They’ll go through on-boarding but never “get on board,” expecting your team’s hands at the keyboard forever.
Like I said, these are difficult scenarios to identify ahead of time, but even more difficult to deal with. It all goes back to sticking with your position and your messaging.
In fact, if you follow these steps from the beginning, you’ll have a much better chance of not becoming a clone of your service industry incumbents, but succeeding or failing with the product you actually set out to build.
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