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January 19, 2017

BusinessModel Innovation: Category Creation

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The Unicorns are everywhere!  But to create an entire category requires some foresight, strategy and understanding of how others did it in the past. And the rewards are worth the risk. Research shows that 76% of market cap is owned by the ‘Category Kings’ – so what are you waiting for?

‘The disruptors’ are everywhere, but should we be aiming for disruption or instead category creation?

“The most exciting companies give us new ways of living, thinking or doing business, many times solving a problem we didn’t know we had—or a problem we didn’t pay attention to because we never imagined there was another way.” + Creating Category Companies

Category creating companies become so valuable that we can’t live without them.

“Such companies replace our current point of view on the world with a new point of view. They make what came before seem outdated, clunky, inefficient, costly or painful.” + Creating Category Companies

Let’s look at two rapidly growing markets where category creators have come in and blown the entire market out of the water:

  • Airbnb in the P2P accommodation space, a subsector of the global sharing economy
  • Equity crowdfunding platforms in the UK, part of the collaborative finance sector in the global sharing economy

Airbnb annual guest growth

Airbnb Annual Guest Growth – Airbnb Open 2016

Equity Crowdfunding UK

Equity Crowdfunding UK – AltFi Data

What enabled these platforms to ‘blow up’ in their respective markets and create new categories?

Platform + Trust = Exponential Growth

First, you need to build a platform that can streamline the process of two parties connecting, and design mechanisms of trust to enable the two parties to transact:

  • in the case of Airbnb, it was building trust between local hosts and global guests. Their breakthrough came in 2010 in NYC when they started hiring professional photographers to photograph hosts’ homes

airbnb-photography

+BMi – Airbnb

  • in the case of Seedrs and Crowdcube, the two most prominent platforms in the UK equity crowdfunding market, they worked closely with regulators in 2012 to build their trust and prove there was no fraud. Seedrs was also part of the ‘Windows of Opportunity‘ campaign in collaboration with several prominent investors and went across the country to build trust with both companies and investors

Companies in the sharing economy + fintech space usually take about three years to build ‘platform + trust’ and then growth goes exponential.

“The ubiquity of networks, cheap cloud-based distribution and lightning-fast word-of-mouth through social media is intensifying a winner-take-all economy—especially when we’re talking about digital products and services.”

Airbnb_annual_guest_growth

 

“Sometimes, booming new categories don’t disrupt anything. Airbnb created a new category of on-demand places to stay, but no one—including and especially its co-founder and CEO, Brian Chesky—is predicting the new category will lead to the collapse of the hotel industry.”

Equity_Crowdfunding_UK

Of course, no company can build ‘platform + trust’ without raising significant sums of capital and developing the internal capabilities to execute on such a model.

Raising Capital

“Valuations are an outcome, not a strategy. A billion-dollar valuation of a company that is not a category king is likely to be fleeting. A billion-dollar valuation of a category king is often a bargain, in good economies or bad. Think of Amazon.com, Salesforce.com, Facebook, Google.”

Creating-Space-Funding

For Airbnb’s first fundraising round, they tried to raise $150,000 at a $1.5M valuation and were famously rejected by 7 venture capitalists. They eventually got into Y Combinator and the rest is history.  For one investor who missed the deal, it continues to serve as a $1 Billion lesson.

+ Airbnb’s first pitch deck

Companies that become category creators reach the zenith in their respective markets because everybody wants to be on the platform and an employee in the best company:

“We analyzed data on U.S. venture capital–backed tech startups founded from 2000 to 2015 and found that category kings earned 76 percent of the market capitalization of their entire market categories. Since networks give everyone from anyplace access to the perceived best in any category, the vast majority choose the leader and leave the second- or third-best behind.”

+ Creating Category Companies

To invest in such companies requires vision, foresight and instinct, as the data is not typically there to support such a big opportunity at an early stage:

“In the earliest days, metrics will mislead you or simply lack the cumulative data to give you a real answer (to give you the certainty about product-market fit that you will never find at this stage). Metrics are mainly useful for understanding how the founders themselves think about them — but they don’t mean much on their own. Focus your time understanding the people building a company, not its charts and spreadsheets.” Airbnb, My $1B Lesson

To nail this model and become a category creator, you need to have a ‘future view’ and invest into it.  There are no market forecasts for categories that have not yet been created. The risk is high, but as we have seen above, the rewards are worth it.

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