Sunday, July 31, 2005

The Blue Ocean Paradox

There is a wonderful book, "The Blue Ocean Strategy," now on the business best seller lists that encourages businesses to look beyond simple extensions of today's products and services, and to find their own unique products that appeal to a vast wave of new customers. It's a great book, and is one I highly recommend. And, like so many great business books, it's premised on a readily observable, widely accepted reality. We all know at face value that its message is true.

Everybody knows that the most amazing business success stories invariably involve a guy, an idea, a new way of doing things, and, an appreciative new market that flocks to buy the resulting product or service. The most-told stories of blazing growth and profits involve unknown entrepreneurs, unanticipated products, and uncharted new markets.

The VC Response To Innovation

Have you ever approached a venture capital company as an unknown entrepreneur, with an unanticipated product, aimed into an uncharted market space? If so, you know that the result can be pretty ugly. No matter how obviously your new approach strikes to the heart of a vast new sea of buyer demand, the VC guy simply points to his investment criteria, calmly explains how your oddball plan doesn't fit the mold, and then sends you along your way.

The truth is that VC companies don't want to invest into truly earth-shattering new markets and products. So, despite the known truth of the Blue Ocean Strategy, the result when trying to fund such an out-of-the-box venture is that the guys who should be most motivated to seek out businesses with the potential to carve entire new markets into existence actually turn these projects away on a regular basis. This is the Blue Ocean Paradox.

The most financially lucrative new ventures are the least attractive to venture capital companies. A little "different" is good; but, being too different is the kiss of death.

Where The VC Approach Breaks Down

Skimming the "requirements" listed on a variety of venture capital company web sites quickly points to a few common threads in their expectations. And, perversely, it is these common threads that are at the heart of why VC companies almost always pass up the most promising and profitable new ventures. Here is a look at a few of those points.

Experienced Management Team

It's amazing how nearly every VC company wants to only back an experienced management team, and will only consider projects submitted from such teams. The paradox here is that throughout history the best companies have emerged from some of the most inexperienced people on the planet. In his series of books exploring the course of innovation in modern business, Clayton M. Christensen notes that the only way to truly maximize the early success of a innovative business is to put it into the hands of managers who are not steeped in prior methods and existing habits. In other words, the only way that truly innovative business ventures can reach their highest early growth potential is when piloted by inexperienced managers... ones who are not bound by historical precedent or corporate dogma.

It's a good thing that Steve Jobs and Steve Wozniak found a private backer for their little business venture (in Mike Markkula). Their inexperience at running a computer manufacturing company would surely have seen them driven out of the offices of every VC firm in California.

Category Defining Business

VC companies make it plain that they are only really interested in companies with the potential to lead their market segment. The fallacy in soliciting only category defining companies is that the idea presupposes the existence of a quantifiable "category," in the first place. How does a VC firm react to a proposition based on opening an entirely new market? What's the response when zero financial metrics exist for such a project, because the market into which it is aimed simply has never previously existed? Even though the first company to mine such an opportunity would have an enormous opportunity to truly define the new category, VC guys run for the hills when such a project comes their way.

Venture capital guys really do not want category defining companies in their portfolios. They want companies that can compete strongly in existing categories.

Acceptable Types Of Businesses

All VC companies precisely state what type of businesses are acceptable investments, and which are not. The premise here is that the people working in the VC firm must provide sufficient in-house expertise to properly evaluate a business venture, and, that this expertise can only come from prior experience. At face value that makes good sense. But, in reality it creates quite the hurdle to any new venture that is also an entirely new type of business. "Normal" is a requirement to get VC funding, despite the fact that the most lucrative business ventures are also the ones that take the most abnormal approaches to providing entirely new value to customers.

Some Ventures Are Doomed From The Start

Today's reality in new companies seeking venture capital is that it is not good to be too clever, too inexperienced, too creative, or too different. If you are, you are doomed from the start in gaining institutional venture capital funding. No matter how strong your premise nor how well crafted your approach, if your business plan sits too far out of the box you will have to find another funding route.

The result of the Blue Ocean Paradox is that the brightest new ventures face unneeded delays and risk oblivion from capital shortages, and venture capital companies lose out on the highest rates of return on their capital funds, because the traditional approach taken in the VC community is structured to exclude the best business prospects.

From this writer's view, it seems like the time is ripe for a truly innovative venture capital approach to emerge. The rewards to both the brightest entrepreneurs and the innovating VC firm will be remarkable. Until that happens, such bright new ventures will remain privately funded ventures, nursed into existence by sheer entrepreneurial determination, credit cards, second mortgages, and angel investors.


Blogger tarfford said...

very informative. that it is better to create new market space or a blue ocean rather than competing in the existing market. Blue Ocean Strategy trainer
can be very helpful in this regard

6:08 AM, February 03, 2010  

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