The Startup Conundrum: Scalable vs Services

VCs Seek Scalable Technologies
Lately, I’ve been spending time trading information with one of the most powerful groups in our industries: VCs. They spur innovation by injecting funding into startups, help fuel those that need an accelerated path, and work many deals in the background to connect their investments with the right folks.

[Although VCs seek investments that rapidly scale, startups must satisfy the needs of enterprise clients by offering a range of services]

Yet despite their power I’m often concerned about one of goals that VCs have of their investments is finding and investing in a company that will quickly scale an an exponential rate then exiting. Their vision is for technology to go from 1 person to 10 people to 100, 1000, 10k and so forth. Then the opportunities for monetization and exit strategies are more at hand.

Yet Enterprises Often Need Service Offerings
I understand why this model makes sense to VCs, but this is often the opposite model that enterprise class companies may need. Some analysts approach the same industry from a different perspective. I’m looking for companies that just won’t scale to reach millions of users, but companies that will help brands and users make a difference, yet often, this requires offering non-scalable offerings, like services.

The Conundrum of the Solution Startups
Take for example the community platform market, a space I’ve been covering for over a year and a half. These vendors sell to large enterprise companies, yet the business case is far different. To be successful in selling to the enterprise, vendors need to have a solution offering that includes services like: education, implementation, custom development, support, analytics services, and community management services. When you couple these services with a technology offering (called a ‘solution sell’), you’re now able to provide value to large brands.

What’s the challenge when vendors offer a solution to enterprises? Services don’t scale in terms of revenue, it’s only an incremental growth in the top line incomes (2-10X). As a result, some VCs may shy away from investments that are heavy services focus, and may instead encourage their portfolio companies to instead focus on scalable technologies.

[Often, social media implementation in the enterprise is 80% process and labor, and only 20% technology]

80/20 Rule of Services/Technology
In the end, you’re going to need both types of companies (scalable technology and solution partners) to help both businesses and users, in fact the most successful companies will often have both. I often encourage my clients (large brands) to look at vendors beyond technology, in fact, most enterprise deployments of social media are only 20% technology and 80% process and labor. So when you’re selecting a vendor, be sure to understand their roadmap, how their investors perceive the direction of the company, and take a long hard look at the services and support they can offer you.

Note: I’ve also heard that some VCs are scaling back their investments in startups, while you continue to hear of funding happening for vendors.

Speaking of community platform vendors, I’ve submitted the community platform wave report to editing, and am anticipating a publish date in early Jan.

24 Replies to “The Startup Conundrum: Scalable vs Services”

  1. So true – working directly with human activities and thoughts can rarely be converted to a defined set of business rules that scales – hence the 80%. We struggle with this dilemma every time we meet an investor. Their portfolio model of one home run for 2 singles and 7 strike outs drives a decision process that bets only on the big ones. Perfectly good businesses models, ie profitable, are left in the wake of the rush for scalability.

    Social media is still big brain, not big iron.

  2. I just posted something similar on another blog, basically proposing that instead of simply looking at total numbers as the way to grow revenue, there needs to be a change to looking at the revenue per user, and profit per user – perhaps ignoring overall scale.

  3. I think Mysql’s model makes the most sense — offer a technology for free and sell the services that support it. I’d like to see the whole internet go that way — products and applications are free, personalized service is paid.

    Having said that, I must admit that my own experience with the Mysql support contract I paid $5k for was a complete disaster. Whatever, its still a good idea. If payment for personalized service becomes accepted, a lot of new opportunities will open up, both online and in social media.

  4. This tension can definitely be felt in the platform world right now between big business wanting feature velocity (to scale their user base), and services (to maximize the value of the current platform/user base).

    One of the ironies of the downturn is that big business is still asking for feature velocity with the assumption that they’ll save money by bringing “services” in-house — only to turn around and ask the vendors for services when they quickly run into the human scalability issue.

    Looking forward to the report.

  5. We’ve run into this exact problem- our application requires some experience to get keywords and searches set-up properly, in part because it does a lot of things with a lot of data (social media monitoring). So there’s inevitable handholding. So far we don’t charge for services because when we turn new users into powerusers they will increase the size of their accounts.
    It is definitely a case of revenue per user in addition to number of users. One ,ulti-brand user account might generate the equivalent of 20 entry level users.
    We also had to deal with the market sizing problem. Investors tended to see the agency market as too small, however it is not the number of agencies that sizes our market, it is the number of brands. An entirely different proposition…

  6. I thought the main goal of almost every VC was to quickly scale and exit. At some point, to really be successful as a business, don’t all scalable technologies need to evolve and continue to offer services on the “next level?” Or am I missing something entirely?

  7. Jeremiah – amen! As someone that’s worked at a large company before in the marketing department, I couldn’t agree with you more. Technology is great but without the right training/services/support, it often sits there like that unwanted BowFlex or Nordic Track in the proverbial corner.

    Now that I work for a company that is big on services while providing social technology as well (we’re probably 70/30 on the services/technology spectrum), I can appreciate why VCs want companies that have the inverse ratio. However, at the end of the day if that’s not what CMO’s want to buy, all the VC $$ in the world isn’t going to change that issue.

    Thanks again for a thought provoking, insightful post!

    Aaron | @astrout

  8. Very interesting post Jeremiah. I agree about the 80/20 breakdown. (I’d include the support in services btw.)

    Understanding what VCs are looking for in the way of exit strategies and scalability often means that those of us in the services busines (community strategy consulting and moderation services for us), are locked out of the VC funds. While we’ve talked to VCs, we understand the decisions that they’ve made. It’s easier to fund software which is replicated again and again over a knowledge based services company where bodies and training are required prior to scaling.

    So, we grow by bootstrapping ourselves. We’ve been profitable from day one and have by necessity had to operate conservatively. Many of the Sequoia marching orders for surviving the downturn are daily operating procedures for those of us in the services business.

    Of course, if any VCs want to talk to us we’re always ready to listen 😉

    We just don’t expect much. The VC model works. I doubt it will be changing back to where it was in the late 90s when everyone got funding…

  9. Jonathan Bentz

    Yes, VCs have a very succinct goal of the exit strategy at higher valuation. The downside (as I’ve learned in my discussions) is that the desire for quick growth may not be what brands may want from the vendor.

  10. Jeremiah,

    It sounds to me that it’s the people that matter more than the service/technology…and I couldn’t agree more. Although I’m not an expert here, I would assume it’s the best teams of people running these the new startups that eventually become successful, raise VC money, etc.

  11. You hit the “nail on the head.” As someone who works for a social media company, I find it interesting/frustrating when VCs, analysts and (occasionally) prospective clients focus too much on the tools/technology and not enough on the services required to support them. It would be refreshing to see them all take a deep breath and ask how we help companies build world-class social media solutions vs. what it is (nuts and bolts) under the hood. 😉

    Jim | @jstorerj

  12. I totally agree Jeremiah. This is one thing we’ve really been pushing at Baynote. In our experience, quality of service can definitely be a differentiator. As a startup its challenging to create a model that is highly scalable but balancing that with excellent service.

    I used your information to break into how Baynote is dealing with this challenge.

  13. And I wander around the web commenting over & over again – it’s about the people & relationships!

    Smaller companies can provide excellent customer service & resources. That’s going to be important.

    (I’ve joined Martin Edic – comment #7 – and am doing the high touch work with customers. Education is very important so they can sell the importance of sm monitoring to their clients.)

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