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Interview: Hamilton Helmer & Chenyi Shi on How to Build an AWS-Like Second Business

Interview: Hamilton Helmer & Chenyi Shi on How to Build an AWS-Like Second Business

Mon, 03 Apr 2023 21:19

7 Powers author Hamilton Helmer and his Strategy Capital colleague Chenyi Shi join us again to discuss their latest research on a topic that’s highly relevant to the recent Acquired canon: how to build a second business line. This incredibly important “transforming” question faces every great company who has achieved initial product success (as well as their investors). Do we continue solely along the established path, or do we attempt to grow new branches on the tree? Some companies grow new businesses with tremendous success — Amazon and AWS, Nintendo and video games, Nvidia and CUDA — yet many others fail miserably. For the first time Hamilton and Chenyi share their research-based playbook on how companies should approach this decision and choose wisely. Tune in!

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Oh, I'm sorry before you keep going is this going to be a question of is this a scale economy or network economy? Yes. Oh damn go for it Jenny because I don't know the answer We've stumped the experts Who got the truth? Is it you? Is it you? Is it you? Who got the truth now? Is it you? Is it you? Is it you? Send me down say it straight another story on the way The truth welcome to this special episode of acquired the podcast about great technology companies and the stories and playbooks behind them I'm Ben Gilbert. I'm David Rosenthal and we are your hosts 8 years ago I pitched David on an idea for two different podcasts one was on grading technology acquisitions that became acquired The other idea was to do episodes on companies that managed to create two separate multi-billion dollar innovations Our hypothesis is that most companies have really one big founding insight and that the rest of the company's history is just drafting on that Well Hamilton Helmer and Chen Ye-she friends at the show coincidentally have been exploring literally exactly that idea And they've been asking questions like what percent of the profits of the biggest companies in the world came from a second business line They have a new framework in addition to seven powers to help founders answer the transforming question If I were to expand the scope of what my company does how should I go about it? And this is a particularly Interesting time to do this episode with them because I feel like a bunch of the companies we've covered recently on the show This has been like a key part of the story whether it's Amazon and AWS or LVMH and how all the businesses LVMH itself have been transformed over the years and even particularly I'm thinking about Nintendo and our Nintendo series and going from like A supplier for the Yakuza to Dominant video game console manufacturer Yep, and David I can say you and I have already recorded this interview with Chen Ye and Hamilton and like we address exactly that So listeners this was a really fun one to do and having Hamilton and Chen Ye on it just concretizes a lot of the very Abstract thinking that we sort of banter about on the show but never quite crystallize they crystallize it for us Yep Well, if you want to go deeper you can become an acquired LP to come closer into the acquired kitchen We have bi monthly zoom calls and we just announced that we'll be asking our LPs to help us pick future episodes So you can join at slash LP Subscribe to our second show acq2 formally the LP show Which is now public for expert interviews with founders and investors search acq2 no space in any podcast player Join the slack There's now over 15,000 smart thoughtful kind members of the acquired community at slash slack It's pretty cool, but I will say that only represents like five to ten percent of you who listen to acquired every month So for the rest of you who haven't joined come join us in the slack Without further ado this show is not investment advice David and I may have investments in the companies we discuss and this show is for informational and entertainment purposes only Hamilton and Cheny welcome back for the third time to acquired our pleasure This all is great to be here the acquired audience has grown so much since the last time we did this together We thought it might be fun first to sort of humanize the seven powers a little bit and do a little background of what is this thing that We talk about on every acquired episode and how did the two of you come to be world experts in this? Yes, yeah, yeah, it's delighted to do that So as I've said, I think on other episodes my Understanding as an economist is the ground zero for economic vitality is the strength of the entrepreneurial sector So there's a famous economist called Joseph Shumpeter is sort of Positive that and it was different than sort of normal economic theory at the time because it was very dynamic and not sort of mathematical and So I believe that very strongly and of course the Silicon Valley is a center for that So the thing that really interested me was Can I contribute to that anyway? Is there anything that I can do that helps with that and my discipline is sort of Business strategy and so there's a real question about is there anything useful that business strategy can add to that sort of creative dynamic effort of all these people and I'll cue it up with an example that I used to use in my classes Stafford sometimes which is that if you can imagine me holding up two devices See that's the iPod with the touch wheel and I have no idea. Is that calculator? Right, so that's the first handheld calculator in the United States boomer And so here's the issue is that here are these two devices They were wildly successful to begin with incredible product market fit BOMR1 from maybe three million to you know 100 million and a couple of years which back in those days was real money And of course calculators are an interesting starting point because you know the Japanese calculator Busy comm was sort of what started the whole CPU revolution and so tremendously successful and you all know the story of the iPod that was the beginning of Apple as incredible business model But it also was the precursor to the iPhone BOMR on the other hand and this speaks to wide seven powers not exactly a household name today right you never heard of it So that dates me and you You might be saying that innovation is not sufficient Yeah, innovation or disruptive technology is not sufficient is very disruptive if you were an abacus maker or or a monro calculator maker It puts you out of business very disruptive but completely one out of business after a while and then had tremendous brand recognition Was the thing and this huge spin up and that speaks to strategy and so what you wonder is If you were helping the people founding those companies is there anything that you could say that would maybe guide them to be a little more iPod additional little less BOMR-ish right But the problem with that is that the nature as the two of you know from your acquired Citus of all is all the other things you've done The nature of developing business is Adaptive and evolutionary. It's not like you said a bunch of bright people in the room and you figure out the strategy and say okay We're just going to execute from now. It's you go forward in time and effort and new information comes in Oh, that customer didn't do what I thought This competitor is coming in this way the technology frontier is changed all this stuff and you have to adapt to that over time And so if a problem with that is that okay well then if it's that way how does a body of thought contribute to that and the answer to that is that if you can provide a useful mental model Or as genie calls it pattern recognition You provide something so that as entrepreneurs are moving through space and time they can see What's a little more likely to end up iPod additional little less likely to end up BOMR-ish That kind of mental model is actually hard to construct and what I say in the book is that the very high hurdle that it has to clear is that it has to be simple but not simplistic So simple it has to be that way or people won't remember it if it's some complex theory that you have to go back and look it up every time It's not going to elbow out when you're making business decisions And not simplistic means that it's got to cover most of the situation and shoe face and other words It has to be relatively exhausted and that's a high hurdle So there were a number of strategy frameworks before There were extremely interesting and made great contributions But weren't simple but not simplistic probably the most prevalent was Porter's five forces focused on what he calls industry attractiveness It was a tremendous contribution, but it's not insufficient if you're in an attractive industry It doesn't get you the kind of security that an iPod has right Samsung is in an attractive industry called smartphones and yet their P&L looks quite different than apples Right, and there's been statistical work Just butters in that point more generally that industry attractiveness doesn't explain a lot of firm differences and profitability Another one was Christiansons work on disruptive technologies, which is just phenomenally interesting in the highly aridite But this example is perfect Disruptive is actually not correlated with long-term profitability It has to do with product market fit It basically says you've come up with a better way of doing something that takes out the incumbent it just drops it So very interesting in that frame but not for the boomer iPod problem And then there's a whole strain of thought around capability analysis You can do a lot of things with capabilities But it's not common that that's the basis of why you build great business models Other people have those capabilities as well So what that meant from a concept development Framework is that I sort of had to go back to square one and say okay I'm thinking about pattern recognition for entrepreneurs what simple but not simplistic And one of the keys to that question is persistence Which is that if you were to say Apple's profitability next quarter It's not a random draw right it's highly persistent and there's statistical work on that that suggests that's generally true for You know very successful companies and importantly not just next quarter but four quarters from now and eight quarters from now You sort of have a pretty high level of confidence You know, we don't know ten years from now and that's what we're going to get into on this episode But we know what year from now He's always used to say the line uh this quarter is already baked this quarter was baked three years ago Yeah, there's that but I think also the fact that he says that this quarter is baked also sort of tells you about something about the business model on a way And so that persistence tells you that there are economic structures That create attractive outcomes and you then ask the question Can you generalize about those because if you can generalize about those then you know Maybe you can get to something sufficiently simple and yet comprehensive that is useful to entrepreneurs and so after Looking at that for decades my conclusion was that actually It is simple. They're only seven of them and in fact if you're dealing with startups these days That's usually a smaller subset of that and so that to me was a fairly profound insight and that's what seven powers is It's just those structures that if you can get there Make you more iPodish and less bow marsh and a key piece that I always have forced myself to remember whenever I'm Analyzing a brand new business idea and trying to run it through the seven powers framework is Seven powers is about defending the castle and less about Is this a good idea or not? It is a second invention after product market fit to create a durable business That's right. Yeah, I wish I had said that. I think you did say that I think this concept of a second invention is literally your words from a previous episode So product market fit and power are more or less worth I know there's some complexities in that statement And I'll tell you something Ben dude that has occurred to Chenyin myself over the last year which is a little bit different Maybe than what said in the book Which is that I used to think that it was sequential You get product market fit and then you deal with power But my biggest education is talking to founders I love their intelligence their creativity Dare I say their youth and their deep thoughtfulness about stuff and what I'm finding is that The proper path is actually to be thinking about those things kind of simultaneously Because what's going on is you're trying to figure out okay, what am I doing with this business? You know, I've got this choice in this choice and in the mix of that there are both product market fit questions and power questions And you don't just say well, I'm just going to do the product market fit stuff and think about power later You actually need to start thinking about it. You won't solve it completely at the beginning You won't know oh yeah, I have power for sure, but you should be thinking about it So persistence then leads you down to those structures and part of the reason You know that it's really cool that you're sort of thinking about this in your interviews And we think about it in our work is one thing I've said you before is that the Genotypes of power are simple. They're only seven my partner bill says that it turns strategy from a essay question And to a multiple choice question, although I don't know with chat GPTV the difference anymore But the phenotypes that is the exact granular way in which they are articulated and carried forward are complicated Genie and I yeah, and we might struggle for weeks trying to figure out whether something has power or not I'll give you an example of how the idea of power is so important so you know, I'm sort of a Sports star nut and I used to drive too fast and Porsche is a great example here Which is oh yes think of that the 9-11 First one came out in 1964 60 years ago Porsche wasn't sort of the sports car leader of the world at the time by any means And so what that enable Porsche to do Which I don't think was conscious exactly, but sort of spun out in an evolutionary way over time Was that they took away The design Element as part of the mix in what wins over sports car enthusiasts So if you looked at a 9-11 and 1964 and a 9-11 today They kind of looked the same You know and so what did that allow Porsche to do? It allowed to just constantly optimize the best performance features in the context of People would pay for that You know handling acceleration interior ergonomics And the technology frontier was changing fairly rapidly Today, I'm just astonished at the performance you can get From a small scale Honda that'll go 155 miles an hour You know faster than a Jaguar Xke right back in my day and then then but all kinds of parallel developments and other aspects break sound And everything else and so they could constantly Upgrade each generation not having to think about the design aspect to it But hit the performance envelope and people would pay for that You need it all those things right and constantly they end up with this incredibly durable business model By far the most profitable automobile maker and devoted fans and great cars Are you saying the fact that they abstracted away the design and they fixed the design meant that it sort of wasn't a hit-striven business It wasn't do people like this design or not exactly But kind of why are you interviewing me? Well, you do the hard part, you know, I just get to synthesize So yes, and then all of these elements like getting the PDK transmission just right Those are fixed cost investments And if they can spread that over a larger number of automobiles, it's lower cost So how many times have you seen sports cars that were quite interesting And then they just couldn't keep upgrading them to meet the great I mean think of the Toyota 2000 or an early version of Alfa Romeo or something And to your point, it's not just did people like them enough It's could they predict that enough people would like them to invest in the necessary things they needed to invest in And if they couldn't be certain or didn't have the hoods but to say there's going to sell a million of these things Then you can't make the investments you need to Right, and so Portugal was the one that just kept being right on that performance envelope Because they were able to do all these investments and it's a phenomenal business model All right, let's kick it over to Cheny anything to add Cheny before we move to transforming I guess I'll just add on to the perspective of a student of the seven powers framework not a creator of that So one thing that struck me as the most useful way to apply the power framework is Really as a cognitive leverage So I think Ben you mentioned it doesn't really tell you what's the next thing you should build or what products gonna hit the market But it kind of tells you what's the right strategy question to focus on? I mean the way I put it is what is not important is as important as what's important Naturally, you know as founder operators you spend 90 95 percent of time on operational excellence It's so important you have the right team the right culture the right execution But there's five percent of time that you may spend on real important strategy questions And those are what determines the eventual margin structure of the business the competitiveness of the business And what power structure can tell you is what is that five percent out of all the things you're thinking about What really makes the real strategic importance that you spend all the time thinking about That's one way I think this is what be the most useful maybe for a lot of members in your audience And the other comment I'd have is now that I've kind of had the chance to work on the theory myself It's actually amazing how it's not done yet No, I've been in Hamilton's class, you know seven eight years ago at Stanford No, I've been working with him for the past couple years And you know, I used to think oh, it's all in the book right. It's just there. There's seven of them and it's all described But then as we dig into it things that we don't know come up You know we talked about platform last year and we're going to talk about transforming now It's about sort of the dynamics part of power and maybe even extend into corporate strategy not just business strategy So this kind of life within the theory is actually really exciting and fun to explore Oh, I know we're going to get into this in transforming. Can you define the difference between corporate and business strategy? I'll kick this one to you Hamilton Thanks a lot. So business strategy is how to find power if you will In what you would think of as a single defensible entity and corporate strategy is How you think about strategy in a multi-business unit corporation and the central problem of corporate strategy is Why is one plus one greater than two? In other words, is there any Reason From a value point of view for two separate businesses to be under the same roof And there have been a variety of efforts in that if you go back in the days of GE wildly diversified companies There's a theory for a while that that was really a good thing that you get sort of these diversification benefits turned out not to be true And so it's really that question of why is it that if you're in one thing It makes sense or doesn't make sense to be in another thing and so again think of Amazon AWS why is that interesting and the static part is one plus one is greater than two the dynamic part and that's what our transforming discussion is about is What is it about the business that you currently have? That is somehow useful in doing something else Mm-hmm So you guys did the all wonderful episode on AWS demathologizing but Amazon did have Capabilities that made it not completely alien territory. Well, let's get into it then So I'll give you a quick intro to transforming kind of Why we think it's interesting and then chiny and I can sort of pull it apart a bit and you can ask questions So there are really three reasons that we think about this the first is that If you're interested in creating businesses, it's important And by important I can give you a little data on that so it did a study once of the S&P 100 largest market cap companies in the world And looked at if you pull the part Their value and look where their profits came from And you asked the question What share of their profits came from businesses that wasn't their original business What would you think if you were asked that can you help us with a year of when you looked at this? I did it just Prior to the financial crisis. So it was 2007 Hmm David, what was your guess? My guess was 80% knowing that timeframe. I've maybe dial it down a little bit to 70% I think it's low because I'm thinking you know banks oil companies like the largest companies in the world to that point weren't technology companies And I have to imagine that those are more single business line Statics still drafting off their original innovation companies, but Hamilton wouldn't be asking this question if it were a boring answer I don't know if you consider the answer boring, but it turned out to be about 50% Huh, haha so in the tech world which you guys intersect more You know you can think of all the examples we talked about AWS as an example the lead-off example in my book of Intel getting into CPUs. Yeah, that's transforming right there in memories Certainly the lion's share of apples revenue is not great the iPhone They were not in that business before google into android microsoft into operating systems and applications They were originally a language company But as both you said sometimes not He's like a burger to Harvard started right out of a gate with Facebook You know, and so 50% is a big number Yeah half of all corporate profits of the largest companies in America came from something other than their original innovation Right, so that sort of flags you and so it's important as one the second is that it's hard to get right It's a difficult area There are reasons that have to do with motivation and there are reasons that have to do with understanding And Cheny will talk about some of the Common business no-stroms that sort of fall apart in this on the motivation side I'll just mention that from a founder point of view They just founded something that works and so that are accustomed to that success And so sometimes they may not appreciate all the Idiocincratic uncontrolled elements that went into that success and they're very creative and they want to just move forward And so they're inclined to do that and that's a great motive force. I love that That's the lifeblood of an economy But it also means that you can sometimes get into stuff that you really don't know how to do it Especially for first-time founders if it works out of the gate Then you have no idea to what to attribute the success it could be skill It could be luck of course it is some combination of it But you have no idea the percentage that skill and the percentage that lock and you say well it worked I will just repeat the exact same process again And surely I will create success again and that is almost assuredly not the case I have several companies in my mind that thought that and definitely did not happen right And then on the people that often sit on their boards or finance them There's also a dissonance which is that If you think of the VC community the business model and VCs issue find really interesting things to invest in And then hopefully they go up in value And then there's an exit which you profit from that increase in value Which is to this wonderful engine if you think about what drives the US economy You know, it's just phenomenal But in the early stages of how people think about value There isn't yet this track record of persistence because people are often For example spending a lot to acquire customers and so profitability it may not be evident yet And the fundamental economics haven't really asserted themselves And so the only thing left is kind of how the top line is doing You know, so are you growing like crazy And so when you hear VCs some kind of complain that people waited too long to IPO What that message really means is that all the sudden people's perception of the company change from the top line to the bottom line And they miss the window What that says is that that investor community is focused on top line growth as it should be Because it's the best marker available But it doesn't tell you much about power And so it's hard to do and then the third thing which of course you would expect from us is that I actually understanding power Tell us you some interesting stuff about transforming So three things is important. It's hard to get right and power matters All right, well, we want to take this moment to pause and not only thank our sponsor for this episode pitch book But bust out some pretty interesting stats So this season we're diving into pitch book for resources on the companies we're covering And you may know that they've got these amazing Browsable data set on every company, but they've got these research reports too And so I pulled one up that is basically a high level overview of the gaming industry And you're going to love the way that this research report starts In the 1960s a group at the Massachusetts Institute of Technology created space war An early computer game inspired by science fiction novels You like that David? I love it. It's like they listened to our old Atari episode with Nolan I know I was like I like popped it open and I'm like all right Where are all the stats gonna be in here? And I'm like oh my god This is like an amazing way to introduce the gaming industry And it just kind of keeps getting better from there So listeners will link to that whole thing to read in the show notes a couple super interesting stats In 2021 the sector had 16.6 billion dollars in VC funding And in 2022 of course we've had this drawdown. It was still 13.3 billion They've also got this great ecosystem map I also found what I think is a new feature in pitch book when I was looking up Nintendo's page They have a number of patents by filing year Nintendo has been declining from a high of around 130 patents filed in 2013 To just over 50 in 2021 and under 25 in 2022 So it's just another interesting lens into companies to see their patent velocity for getting up to speed on an industry sector It also works really well in tandem with acquired episodes I mean the number of folks who've been texting me DMing me Like I'm a public equity samueless looking at the video game spaces way more than I expected Another great place to look for all that is pitch book will link to the gaming report If you're an entrepreneur thinking about fundraising and wondering who's the right target for me The pitch book is just for everyone at this point and I can tell you from doing the arena show with them last year They are just great people to be in business with So if you want to sign up for pitch book, they will be offering a free week trial that is coming up soon Don't miss out so go to slash acquired to get all the details I think they're also going to link to the research report page there And just tell them that you heard about them from Ben and David at acquired Thanks, pitch book Something else just finally occurred to me. I've never thought about it before but if you are Analytical and can figure out and quantify a company's power Then you can assign it a more accurate multiple of profit than anyone else can because if you can observe Oh a company has a 24% operating margin many many years in a row you can decide okay fine I kind of know what the operating margin is going to be in the future And I can figure out how I want to value this company But if it's a new company and it just settled into some steady state of profitability And you understand the power dynamics you can be better than other investors at predicting The sort of net present value of all the future cash flows of that company rather than a very brute force way of doing it Of just slapping the same multiple on that everybody else does Yeah, so Ben not only is going to supplant me in writing seven powers But he's going to take over a strategy capital I think that job falls to ten you yeah So we're sort of constrained about talking about our investments stuff too much But basically the proposition of strategy capital is if you have a differential understanding of long-term competitive outcomes in places where That's really hard to figure out that you can value things more carefully and so I completely agree And you properly constrained it if there's a long history of financials is already in the price so does Walmart have power sure Right my dog can tell you that Right Right, I'd like to meet your dog sometime So that's why it's important and I'm going to just give you a quick take on what I mean by transforming When I laid this topic out to the two of you I said that if you're thinking about increasing value in a company there's sort of two questions What can I do better and what can I do next and you spend most of your time on as you should on what can I do better So you think of Amazon developing a better search engine when you look for a product You've got to think about that right and that's most of your time But then you also think about okay, well, what can I do next and that's what transforming is And that would be Amazon going into AWS and you can imagine thinking about whether to do AWS is a very different exercise than optimizing the search engine So transforming is sort of a separate topic Fundamental thing and strategy is think all business definition which is What really are the boundaries of your current business? So I think actually in our prior email conversation David you have the question of how do we go about research something like this And typically we start with looking at what others have been talking about this and exactly where we come across A lot of common narratives of where do you find our next level of growth? We've all heard about you know go listen to your customers There's Amazon School of like customer obsession that's fairly popular People will go after 10 expansion you know expense geographically go different segments or you know full or core competence etc And as we look through this, I think one issue we found is they don't seem to be conclusive about the chance of success of these transforming steps So in other words you can't say if you do X you are more likely to succeed right like for example There's this whole school of thought around marketing myopia that says you should define or industry definition widely Right the reason why real-world industry goes into decline is not because people don't have to mend for Transportation that because they can't think of themselves as a broad transportation company They should have moved themselves into cars and trucks and airplanes and even telephone which are new forms of Transportation and I think this is a one of the best sellers of hard-rebusiness review of all time It just speaks to the popularity of it So the question we will ask is does companies that follow marketing myopia all tends to be successful You know does that give us a way to predict success And we can kind of think of examples on either side right like Disney today is not just a theme park company or animation company They seem to be a broad entertainment company They're pretty good at coming up with the next format entertainment that people will love and want to watch On the other side uber at one point was all-in on mobility right it was not just about cars You know if you still remember the scooters scooters buses yeah bikes and there were serious about flying cars at one point right the Daniel Helicopters Oh, that's right. Yeah, right So that didn't seem to end up that well even if it ends up in the same mobility definition So what that means is we can't tell whether Following a certain school of thought is definitely going to be leading success Which means we don't have a theory behind it right so that sort of stays our problem is can we say something that's a bit more definitive, you know a bit more having the predictive power there and As we thought about it the real reason why we have this issue is a lot of these popular narratives kind of tell you about economic value But they don't tell you much about business value State it other words they tell you about value creation, but not value capture and sitting other words We're basically saying problem-archive is not power Yeah coming back to the very first conversation about why we do this in the first place is that The point Chen you just made is the fundamental one which is that creation of economic value is pretty orthogonal to Capturing some of that value for yourself which is to say the creation of company value So creation of economic value and the creation of company value are different animals And both are important and there's a dynamic connection in the sense that if you create economic value It sort of creates the opportunity to think about capture and so on But just a single-slicing time they're very different, but that's a fundamental point about all this Yeah, I think that's a good way to put it which basically means all of the common narratives out there are really useful They're really useful as a degenerators They tell you where to look for the next product market fit out there And we think the understanding of power is the missing link here We have all these ways to come up with options, but How do you assess which one of them is really the best idea and that's what we set out to give a better structure to Yeah, and so I'll just say how power kind of helps you out in a way So I mentioned this sort of a therial concept before business definition So it's rather important So if you think about uber versus netflix Where they go next right uber at first their thought was this was an international business That means that going into China somehow Their strength would be transferable into that effort and they could be successful And netflix thinking about going international Thinking that if they started streaming in Korea That would make a lot of sense And are you considering the international a separate business or you thinking about this as like should we expand the core business and just address a broader market? So that's the question the key thing there is If you have a established business Is the drivers of power in that Extensible to that additional segment you're considering whether geographic or customer or whatever and because if it is The risk reward of doing it the calculation beginning is so much better Because being able to carve out value to yourself is really hard And if you can build on to something that already does that and it works in that environment then oh boy Go there because that's so much easier than doing something really new And so netflix streaming in Korea It built on to saying you can share content across countries right it built in the same fixed cost economics of content development and Work Obers if they have a source of power it has to do with geographical density in a specific area like the Bay Area or something and Going into China if they're head to head with D.D. Or something that they don't have any advantage at all And so it doesn't work right they get to bring their technology platform over so they're amortizing all the engineering design product management cost But they have to go re-acquire both sides of the marketplace in full and create that density Which is actually the expensive part of the business exactly and if it turned out that the engineering part was 75% of the cost structure I mean content and for netflix is 50% thought it was 70% Then it would have been fine, but it's not just as you said and so when you're thinking about business definition In some businesses international is part of the same business Which is to say it's under the same power umbrella and in some businesses it's not And you have to understand that in terms of what you're doing and if you're thinking about what's next if you can go To things that are under your current power umbrella. Oh boy. Is that great? If Porsche wants to sell cars in China as opposed to selling them in the US No brainer right still all the same unbelievably hard engineering problems that went into creating the car you're selling in the US You can find a way to distribute that yeah, and a Chinese competitor would have to go through the same calculation You know, so the first point of this conversation is that to properly assess Transforming directions the first thing is Carefully understanding your current base of power and then looking at this new segment Whether as I say it could be customer or geographic technology whatever product and seeing whether it relies on that as well Because then oh boy a world looks rosy, but on the other hand if you think it does And it doesn't it's like Uber and China. I don't know. What did they lose a billion dollars or something? I don't know what it was maybe more once you consider all the divestiture and yeah Yeah, and so they used to be compensated by the shares and do you I don't know what their shares are worth now So anyway, so that's starting point It's interesting right like I'm thinking about we're in the middle of our Nintendo series as we're recording this and this really is an interesting framework to think about it because on the surface It could be pretty far flung. I'm thinking about you know Nintendo made playing cards with the Japanese organized crime is their primary customer And then moving from that to video game consoles is a pretty big leap, but you know what they had Originally that is the same thread through the whole business is they had an absolutely ironclad lock on their distribution networks Especially and then over time through playing cards into toys into video games into toy retailers Right, and that's such an interesting case David because oftentimes It's that kind of subtlety About locking in a distribution channel for example that's sort of kind of invisible But may actually be the very thing that makes that such an I mean if you think of Sony on the other hand when they went into game consoles That was a different business I'd say and brutally hard and it relied on some capabilities So shows why the capability thing doesn't get you there. I mean, yeah, some engineering at the time analog was king There and digital was thought it was a backwater, but it was a very difficult and now it's of course the source of their profitability Right, but it was a long journey for Sony to get there and like all these things there were a few Principle actors a few leaders that had they not been there. It's hard to imagine it ever happening some innovative hard-driving people So Hamilton and Chen you can we ask you what are the most common power types In today's technology driven world where people might find Expansion opportunity inside of their current power umbrella. I think particularly for earlier stage companies the three most common power types that you would find are Scale economies network economies and switching costs Well, it's actually often common that you have counter positioning because that's how you tackle your incumbent in a space But there are a couple other power types that doesn't really come in until sort of the more mature phase of the business And that's laid out in the book like process power or brand power You really need to develop them after years and years of experience, you know Honing in on the core business So for the benefit of the audience today We thought it would be more useful to focus on the three types of power Skill network and switching cost which is probably the most common that we find out there And are you not including counter positioning here because it's hard to find a Second business under a counter positioning umbrella Let me just weigh in or say I agree with her sort of leaving it off because to have power right you have to have it versus all Potential and existing competitors The counter positioning one is typically the type of power that you would have Against incumbents, but it doesn't work against them want to be because they don't have the same problems And so the one that you have to think hardest about is Versus other companies that are doing it just like you And so for bull mar it would be Texas instruments doing calculators And so that's why she left it off the list Yeah, so regardless of what's the core power prospect I'm calling the prospect because it's powers a pretty hard bar To clear but even if you still in the make for you and you think this is going to be the mechanism that protects you from competition and law run The first step is always to get a really clear understanding of what that core business power prospect looks like So back to your example of Uber If the core power prospect of Uber is actually scale economies which says the technology framework of doing the matching automatically is so hard And it costs so much cost to build Then international expansion would have been totally rational right because you're just spreading that fixed cost over more geography And you're getting a head start in every single place you have But the truth is it's not the majority of cost of that business actually lies in acquiring and maintaining their customers Which means if anything the route you should really try to get to is network economies if you have one And the scope of that network defines each market is actually heavily bounded geographically And so every new country even you city you go into as a complete new business and have to start from scratch So that's just an example of getting a definitive answer or Confident answer about where core business power Looks like gives you a very different place to look on where to transform or where to take it to the next step for your business So it's almost like okay, so I'm at here in Seattle if I was operating in Uber like service I have this Power which is all the drivers and all the riders or a high density of that That means nothing where David is in San Francisco So instead of launching Uber in San Francisco Maybe I should try and figure out other things to leverage my network for here in Seattle Because that's the place where I have the durable competitive advantage versus others So Uber eats right right so I think the jurist out whether right sharing and food delivery Belongs to the same business maybe they do but it's more plausible than different geographies It is one of these things where it seems obvious on the surface and then we start to dig in you're like oh wait Maybe it's not as overlapping of a network as I would have thought right that's the question right the drivers for food delivery are a Overlapping but not that overlapping set of drivers for rideshare and the set of consumers is obviously different as well Which you can see in the corporate action they took to ship a separate app called Uber eats rather than bundling into one app So you actually have like two overlapping two-sided networks But not a fully overlapping on either side of the network Then that's such a great example because it speaks to the point that of the complication of the phenotypes That until you peel back the covers It just sounds oh yeah Uber eats and drives it sounds all the same But when you start peeling it back it may not be so what that says is you have to have Quite a lot of nuance in your understanding of whether you have power begin with and of course for Uber gets into the nature of Platforms and exclusiveness of the sets that occupy either side of the platform and whether they overlap and y'all I kind of stuff And so without that nuance you just you miss it Yeah One other network economy is one that I'm curious to get your take on I see in your notes here is Microsoft versus Slack can you sort of walk through the Microsoft decision to enter The market of whatever slacks product is it's quite hard to define async chat work communication With teams why or why not was that an interesting Entrance and use of their power umbrella So the interesting thing here is we can also think about Microsoft as a platform right you operate an operating system Where on the two sides you have users and also you have applications Now the interesting concept here is the users of Microsoft's platform has a really high cost affiliation Right it's not just on the hardware side you buy a physical machine But also it's typically an enterprise-wide adoption. There's a procurement process attached to it There's the distribution channels that you know similar to have the Nintendo one worked and because of that Microsoft's networks go basically extends to whatever Demand my user side would have without incurring more cost on their end without it Don't have to do another procurement cycle maybe or did not have to buy another hardware for so that naturally extends to Basically, maybe all of productivity software and that's how you see Microsoft teams create at least a competitive hassle for Slack I think we all have to experience that slack is a really really good product But good products don't always win because when there is competitive advantage from an incumbent in the case of Microsoft They basically have a network that can extend into the product slack is operating on They create issues, you know competitively So we're we're heading in this conversation as we're saying Transforming is a worthwhile topic and then we're saying that a starting point is understanding that power of your current business Because if you can build off of that it creates a wildly preferable risk return Prospect for something you're getting into and so that then takes us to the next topic which is What if you can't build on your current thing and you need to get into something that doesn't build in your current source of power And the two of you with all your interviews actually have so much You know you know just wealth of information about what goes into people's minds doing that but If you think about that What are you into? You're basically you're starting a new business right? Congratulations. You don't have to file as a Delaware C corp And you probably have some people you've already hired that can work on it But what other assets are you repurposing right exactly and so remember that thing I said about the S&P A 100 if you look at what they went into that generated a lot of value and ask the question Could you generalize at all about that? I'll create some definitions here a little bit sort of three categories If you think of does it satisfy the same needs or does it use the same skills? Those are the two dimensions right because I have a consulting background and the whole world is always two-dimensional right? ah And if it has neither of the same skills nor the same need I just call that pure diversification and Rarely does that work that's a very high-risk proposition You're basically creating new business something you don't know how to do at all and when you say skills and need That's the skills of my company and the need of my customers the skills of your company So what your engineers know how to do what your sales people know how to do? All those sorts of things so like in that case, you'd be better off either having people who are entrepreneurial within your company, like leave and start a new company and spin it off or invest your treasury in other companies. And as a big company, you have all the agency problems of trying to get something off the ground with a lot of bureaucracy and everything else. Right. There's some advantages, but there's more disadvantages. Right. There's probably more disadvantages and advantages. And data supports that, that unrelated diversification is typically not a great thing to do. So the lower left of this, two by two matrix is I neither have the team that is great at creating this next new thing, nor do I have the customers that want this next new thing currently. You got it. Right. And then if you look at the upper left, which is it's the same need, but different set of skills, you can call that reinvention. And sometimes you're forced to do that. But the opportunity set isn't that great. Really, it's not like you're opening up the whole world opportunities. And so those are pretty rare. It does happen. I mean, Netflix into streaming is reinvention. It can happen. It's hard to do. You're usually counterposition because you've got a whole group of people that wants to do it the old way. Right. And they have a lot of power in a company typically because they've got the PNL. It requires sort of the founder sponsor to go pursue it. Yep. That's very insightful. That's exactly right. Otherwise, you guys want by agency problems. And so the different needs, skills sharing, same skills are not same, but shared skills. You can call that category co-action. And that's where all the action is. Yeah. That's AWS for sure. Exactly. AWS. Right. Wait, so this is the lower right? This is kind of the lower middle. It's a bunch of not perfectly shared skills, but you know quite a bit about the stuff you need to do to get in there. But it's a different need. And that accounts. I don't have the numbers in front of me, but I think it's 90% of the value in the S&P 100 of the new stuff came from co-action. That's saying something that's pretty straightforward. And I guess there is no top right because that is your current product. Same team, same needs. Right. God, you're too fast. That's right. Same business. And then they extra credit on this will be why are these axes not quite orthogonal, but I'll leave that to another discussion. So if you think of Sony going into PlayStation, that was not the same as Sony going into cars. It was a different business, but they did have, you know, a lot of stuff. And so that basically says that you want to constrain yourself to areas that sort of meet with your current capabilities. Now occasionally there are companies that have capabilities that are so proprietary that actually that aligns with power automatically, but that's very rare. I mean, I'd say like Corning and Glass Technology, for example, it's such a weird material science so they could do glass stuff that other people couldn't do. Is 3M a good example of this sort of lower right where they know how to make all kinds of interesting stuff, but for completely different customer bases, completely different use cases? So my view of 3M is that they're basically a material science company. And material science is weird. It's not fully or at least it used to be. I'm not so current on it so much, but I'm not fully developed theoretically. They're all kinds of nitchy idiosyncratic aspects to it. And so they were able to invent stuff. So if you think of Post-It Notes, right, that was a not-so-sticky glue, right? And then they didn't know what the hell to do with it. And it went on for years. There is a champion in the thing that just said, no, there's something great here. And they almost missed it. It came down to a final marketing trial where they almost didn't follow up on it. Wow. It is great. I never really thought about that. I know it's a famous story, but objectively it was a really crappy product that they made. And then they turned that crapiness into a feature. Well, I'd care for myself to never not say it was a very interesting technology with no product. It's kind of like Web 3. It's like a computer. It's like way slower. That too soon. Right. Right. I love that. Maybe we'll find the sticky note, right? Maybe the fact that it's really slow is irrelevant given it's decentralized. Right. Yeah, it's funny. I guess we share a view in that. I don't find myself very popular in that view, but I agree with you. There's all this hand-awaiting about the wonders of decentralization and the world will be a great place and everything. And I'm waiting for that. We need the sticky note. We need the sticky note. Right. Anyway, so I think that is just a simple observation, which is that the stuff that's most likely will get you there is a different need, but using some of the skills that you have. Nothing very complicated about it, but I think data bears that out. I would say a lot of tech companies today have the same set of capabilities. So is it about where you have differential capability versus other companies or just, hey, you can repurpose a bunch of your engineers to do something interesting and sure everyone else can kind of do it too. So a really interesting question. I mean, way back when before the idea of core competencies, there's a writer that wrote about the thing, they use the term distinctive competencies, which is exactly what you're getting at. And I would say that that was probably true of quarrying and glass technology, but it's rare. And I agree with you that a lot of tech companies have a lot of similar sort of stuff. And if you had a distinctive capability and that that had an application in an area, so let do the product, then oh boy, that's great, but it's hard. That's not common. And so if you're in this place where you can't build in your current power, you just have to realize, it says you were saying before, and you're back in invent space. And yeah, you can build on current capabilities, but that sort of table stakes, you know, you're into that level of risk. And like all those things, it's adaptive. You sort of dry stuff and move forward in a positive way. And so my little mental waterfall so far from everything that you've shared with us is step one, identify the power in your current business and be brutally honest about it. Right. Burtley honest and very granular. Yes. Step two, figure out if there is a new business to launch or expand into under that particular power umbrella. If so, great, do that. If not, you have to go start a new business and where you should look for the most fertile ground for that new business is using your existing set of capabilities. But for a different job to be done for customers, look there. And especially, this is almost step four, if you have differential capability versus other companies who could also pursue that same opportunity. I love it. Yeah. Should write that down, Cheney. I can reach for sure. Remember all that. Yeah. I mean, venture is just a help us produce theory. Right. Right. Yeah. No, I think you nailed it. Yeah. There's one point I want to make. There's a reason why it's sequence that way. And there may be obvious but still worth iterating, which is invention is risky. If you have something underneath your existing power umbrella, and that's what Amazon did, they had this distribution logistics. They started with we all know books and then CDs and then electronics, etc. It's a natural extension that not just leverage, but also intensifies your existing power. That's way less risky. You know, you start somewhere new, but with a head start compared to anyone. That's a competitor. But the movement into Amazon Web Services is invention. And I loved your guy's story on how there's the four different sources of starting point of Amazon. People would love to think it's based on some existing competitive advantage of the business, but it's really not as invention. They figured out a new thing that the market wants. But as successful as they are in AWS, they also flopped, you know, a fire phone. If you still remember that, they also lost billions and billions on Alexa. There's really no track record of a business who can continuously come up with successful invention. And that's the riskiness of that, which is why it's only the point number three and number four on the list. Because if you don't have to go there, don't, but if you do have to go there, a coaxialist, the most possible place for success. Thank God these things are power a lot distributed. Otherwise, to your point, because no one has ever successfully been able to do hit after hit after hit like this, it would be net unprofitable to pursue innovation. Right. I just want to underline what Chinese rightfully kind of pull that out as kind of a key point here is that the risk level of doing something that's under your current power umbrella or not. The difference is gigantic. So that should be your starting point because it is absolutely gigantic. And I think since we're back into invention and I am a huge fan of Amazon, the fact that they've been able to do what they do, I would argue that they couldn't have done it if they weren't willing to take the risks and have some failures, right. Absolutely. And so one Chinese and I talked to companies will often when we hear it, if they have been successful at transforming and we talk about future transforming, the narrative that makes us think, oh boy, this is really really got a problem is, oh, we have a really defined process for innovation here. And there is a 17 step process and we know exactly who to assign to it and blah, blah, blah, that's the red flag of all red flags, right. And then there are other in company things. You worry about sort of screening criteria. For example, some companies when they're thinking of doing new stuff say, well, I won't do it unless it will move the needle corporally, which means the market has to be certain size. This was Microsoft. I mean, it was like, oh, unless you're going to go create a billion dollar revenue product, I'm not green letting your document. Right. And usually if it's already a billion dollar market is too late. But this is just a highlight that inventions really hard. It's hard for a large company to do it. It's hard for individuals to do it. And corporate strategy is asking a question on the transforming side, at least, of if you do it, are there cases in which your current platformer significant benefit to you? Where would you put the iPhone in this framework? Oh, iPhone is and the iPod are straight up collection similar capabilities. But I mean, they are computers in sort of a generic sense, right? But the iPhone in a functional way, it does compete a little bit with the desktop. Yeah, right. More so than they realized it would. They're kind of like maybe as high up as you can go towards the top right of their sort of like the existing products of the company, but different on some key dimensions. Yeah, I mean, I would say that one of the things when you're trying to do business definition, there's the theoretical side is the power shared. And then there's the empirical side is to look at the composition of competitors and see if they're different. And that suggestive that they're sort of different. And so the competitors for the iPhone are different largely than the competitors for the MacBook Pro. The good litmus test. You know, again, it's not perfect, but because sometimes that doesn't develop in exactly economic ways, but it's a pretty good way to look at it. All right, listeners, we are back with great friends of the show Vouch, the insurance of tech. In this season, we've decided to share some real examples of startups who are buying insurance with Vouch. Today, we're going to talk about Vui Search, which is one of Vouch's customers. It's Vui like a play on GUI. Vui is an AI-powered product search solution for e-commerce. They just raised a series A. They're about 18 months into the journey. Their insurance story starts when the founder Phil Frank was closing their largest enterprise contract. Yet it was a multi-million-dollar deal that would basically triple their revenue and transform the company. The customers legal team redlined their contract with a bunch of insurance requirements. Banana. Better get insurance fast. This is totally normal and customers do this to ensure that if something goes wrong, there's money set aside to make it right. Suddenly not having the right insurance was blocking something super important. In this case, millions of dollars of revenue insurance went from a maybe someday problem to literally one of the most important and urgent things. So they asked their banking partners for a recommendation and they said, you should go talk to Vouch. Yeah, the process from there works exactly like you would expect from a modern tech company. Phil went to Vouch's website, answered some questions on the company and was presented with a menu of coverages that he could customize. I know because I've gone through this myself. He had a question, so he hopped on a Zoom call with a Vouch insurance advisor that same day. The Vouch team reviewed Phil's insurance requirements, double-check the limits and helped him push back on one of the client's contractual requirements to save some money. Now, as you would expect, this is not at all normal for the insurance industry. Vui actually did compare Vouch with their previous traditional broker. That option ended up being more expensive than Vouch and the timeline significantly longer since the broker had to shop between carriers and fill out a bunch of manual applications. I think a lot of you have probably done this in the past. The coverage is, of course, not even apples to apples because Vouch has 10 exclusive policies that are designed from the ground up for tech companies. Phil took a few days to negotiate with the customer and sink with his board. He hopped back into Vouch for his online account to activate the coverage. The customer signed the contract and now Vui is in the next chapter of growth. So pretty awesome. When it's time for you to get insurance, save 10% on your first policy with Vouch at slash acquired or click the link in the show notes. Thanks, Vouch. Thank you, Vouch. So here's an interesting, you can tell me if it's interesting, an observation on Apple. It's basically always been co-action when they come up with a new multi-billion dollar product line. You've got the iPod, you know, absent, going and getting the new type of hard drive. They kind of knew how to build everything about the iPod already. And once they had the tiny hard drive, then great. All of our engineers know how to build something like this. iPhone, same thing, iPad, same thing. These are new jobs to be done for customers, but they have all the right talent to build them. AirPods, same thing. What? Maybe this ARVR device, same thing. We'll have to see if it launches here in the next few months. But interestingly, a thing where they didn't have a large amount of the talent in-house is cars. And so they had to go build completely new skills within the company to try to, you know, they've got what, several thousand people working on this car now still hasn't launched, changed strategy five times. They have no confidence. This is going to be a commercial success. It's a new requirement for customers that requires a whole bunch of people that they did not have and capability they did not have. And that kind of speaks to where I think you're going with this framework that that product has not been successful or even launched. That's closer to pure diversification, right? Yeah. So if you think of that horizontal axis, that thing I was talking about, that's a spectrum from zero to 100%. If you're in the car business, if you go from green cars to red cars, you have almost, you know, 95% shared skill. Go from luxury cars to compacts. A high sharing. So Toyota can do it. Go from cars to tanks. Pretty different. Porsche did it under coercion by the Nazis. Right. Right. It's not impossible, but quite different. And then if you go from cars to refrigerators, it's really different. So yeah, no, I agree with that analysis. But remember to not to forget the importance of the entrepreneur in this because they are the locusts of inventiveness. And it doesn't happen without them. And this isn't an automatic process or something mechanical. There's individual human creativity involved. And it's especially evident at Apple, but it's really true everywhere for all entrepreneurs. And so that's why Chenine, I have to be fairly modest about what we're doing because what we're really trying to do is to provide pattern recognition for those people. But it doesn't substitute for them. It's just a tool. This is a good lead up actually to what I wanted to ask you as we wrap on internal transforming and new business development. Does this framework apply to thinking about acquisitions as well for companies? Because I would imagine companies that are starting to think about transforming are also at a stage where they could be contemplating fairly larger transformative M&A. Is that different? Or should you think about that with the same rubric? Well, it's very related. If you're acquiring a company, the primary question you have to ask yourself is why is this worth more to me than to the seller? Because there will always be an information asymmetry. The seller will always know more about the asset than you will. There's a ton of financial analysis work on this. And you know, you can't get it perfectly, but basically they look at the stock price before and after acquisition and all this stuff. And if you distill all that, what it basically says is the acquires break even or whatever and the seller does very well. And the fact that they figured that out for a large segment of business was genius. And so that then question of what do you bring? You can imagine how that touches on the subject of business definition and so on. And that's why Eddie Trust Authority has got so upset about it. If you horizontally acquire in something with scale economies, that just makes you manage that much more. And so people get upset about it. And people would love to do it. But you know, Hart Scott Rodino wallets you get away with it, right? And rightfully so. But you have to be very, very disciplined because often what happens if you're inside a large company and facing these decisions and I've been involved in many of them, what happens is the argument that's often made to advance that is oh, well, we don't have to have the same number of accountants or we can kind of reduce their sort of these cost reduction personnel overlap thing. Never works because they're disacconemies of being in a large organization as well as economies. And they're sort of a wash is a good assumption about it. And how much money are you really going to save? Right. And so that analysis doesn't get you there. You need something more fundamental and usually it's related to power or something like that. One of David and my learnings from doing our episode acquired top 10, the best acquisitions of all time was there are exceptions. But most of the time something is a wildly successful acquisition is because you're able to find more revenue rather than find cost savings because cost savings are capped. Whereas new revenue has unlimited upside. Well, I'll add something to that, which is the cost of that revenue is favorable. Right. So think of Disney. So think of getting Lucas and Cameron stuff and Marvel. Wow, Marvel's incredible. Yeah, I've created a huge amount of corporate value by doing those things and Pixar. And that had to do with him taking franchises like LVMH was taking powerful brands that weren't fully exploited and figuring out how to economically exploit them, right? And Disney was taking branded entertainment that was powerful and being able to fully exploit it. And so it answered the question, why is this worth more to me? So you could take Star Wars stuff, which you sort of had the feeling George Lucas kind of wasn't so interesting to sort of exploit it. He just got up a creative genius, right? And yet Disney could take it and run with it. And so I think that wasn't that you bought revenue that already existed was that you were able to exploit that. I'm curious if you have any thoughts on or if there's more nuance to what I always think of as kind of like the highest likelihood of success acquisitions are enterprise software acquisitions where a product is bought by one of the top enterprise software, you know, sales forces call it Microsoft Oracle or Salesforce or the like. And then they plug it into the sales force. Is that similar to what we're talking about here? Like it seems very clear to me why XYZ good product that is sold in the same manner that sales force sells all of their products would be way more valuable to sales force than to its current owners. And David, real quick, I'll caveat that with like maybe highest likelihood to succeed, but not highest magnitude of success. Right. Yes. I think that's what's interesting about it. Right. So examples like that they plug completely into the power structure of the current business. So, and you know, high switching costs stuff, right? And so that they can deploy it to all their customers and get the same economics of I switching costs. I'm sure you do want to add to that. Yeah, it actually occurs to me that there might be exactly a tight dissuishing cost. There might be another rationale for buying, which is building takes longer than buying and timing matters, particularly for companies with switching costs. Now, the interesting about switching costs going back to the power itself is it's non-exclusive, right? So your competitors, if they are functional equivalent, can also have switching cost. Now, if you go down this logic line, it creates the possibility of companies having switching costs but no profits. And the way it happens is if a competitor was able to build the same product, roughly the same product, and they fully realize this is the lifetime value of the customer. Should I acquire them? Then it's rational to invest up to all of those value in the acquisition phase, you know, be it discounting partner incentives, marketing campaigns, whatever it is, it's rational to spend up to all of that lifetime value to try to win that customer. And then what you end up with is companies with switching costs but no profits. Right. And so that's why if you have switching costs, the key strategic challenge is to acquire customers when the cost of a customer does not fully arbitrage out the profit stream that you would expect from them. Right. Which is so funny. I think we talked about earlier of slack and Salesforce and Microsoft and Teams right now. I haven't studied either of the businesses, but I would expect that despite all the value who about all of it neither slacks for Salesforce nor, well, maybe teams from Microsoft is but are not like huge transformative incremental drivers of profits for those two parent companies. So I think sort of a non-obvious point of all this is that if you're thinking of doing something new, getting into stuff that understanding business stuff notion is critical, which is to say into what areas does your current power umbrella extent. You don't understand that. Then the next one is the point that Cheny made, which is that expansion into areas where that umbrella extends is radically more attractive than starting something utterly new. And now add to that that is not a good to have. If you understand a power umbrella, it's bigger than what you currently offer and ignore it. You actually are creating competitive openings for somebody else to take on. Oh, that's a really important point. Absolutely. You're failing if you don't exploit it. Right. Because you can assume that eventually somebody else will and that may completely ruin your competitive position. For example, if it's based on scale. So point one, go to business definition. Think very hard about where your power umbrella is to that if it does extend into an area you're considering to go there because it's really attractive. And then the third one is that if you don't have anything there and you still want to do something new, co-actions the name of the game, but understand that you're now into invention of a new business and with all the air things around at risk adaptation, you know, everything and entrepreneurs matter. So Jenny, that was such an important point about how if you miss a business definition, I'm going to ask you for an example. Can you think of a good example of companies that didn't understand the full extent of their business and got taken out as a result of it? Well, I'll throw something out. It's tough because you will tend to have to buy a ship by us. You only remember those companies that made it. Right. Right. Yeah. Who was that? Baltimore never heard of it right? Or the handful of very few colossal failures that were so unbelievable that, you know, they're stuck in all of our psyche. For example, blockbuster, it could be the case that blockbuster failed where they had the distribution network and the customer relationships. So there was a source of power there and they failed to exploit it in using that to launch their on streaming service, which mostly is because of boardroom blunders, but I'll fail you nonetheless. Might take a blockbuster as if they'd done a red envelope business a year earlier, Netflix wouldn't have survived. Maybe another example is the credit card industry and how it involved. Oh, I love that. Right. It started basically as branded charge cards for particular retail store or gas station and then turned into diners club, which is a card for many restaurants and then very quickly it turned into a reversal card. It's all cards for basically everything. They were basically extending your credit, right? They were saying this works here and we'll give you some credit at our store and then over time they would start saying, well, yeah, we'll spot you for that restaurant too. We have a relationship with that restaurant. Right. So to either of you have diners club's cards. I do not. No. Right. And so they missed it. Yep. I mean, it's a great example. They didn't understand that it was. You're actually a platform where you want to cover as many purchases as possible and it shouldn't be constrained. And so they missed the business definition and he says one of the highest margin businesses in the world right now, right? Yeah. Visa's 50% margin is astonishing. Wow. Wow. We got to do visa at some point. I can't believe visa didn't IPO until like the 2000s. That is nice and natural. Were they owned by banks? I think it was a B of A. Yes. Founded in 1958 by Bank of America as Bank AmeriCard. Yeah. It was a consortium of banks and that's right. I remember all this now. The IPO happened right in the middle of the great financial crisis. It was March 2008. It was a talk about bad timing but didn't matter. Probably a good time to buy the stock. Yeah. Seriously. All right. Hamilton and Chen you. Well, we have you here. We got to ask you something that David and I were debating on our Nintendo episode specifically in the 1980s. So you've got a console maker, Nintendo. They have a whole bunch of customers that are the people who are buying the consoles and playing the games on them. And they have a mix of first and third party titles. So they make Mario as a first party title and they have some third party developers making games for them. Final fantasy and Dragon Quest and Castlevania. And of course, the reason that those third party publishers are making the games for them is because they have 95% market share of people buying video game consoles. And David and I were really going back and forth and we were like, is it a scale economy because they can amortize the cost of game creation across so many consumers or is it a classic two-sided network effect or a network economy power? I was thinking about this this morning. It's fun. So I think it's both. And the reason why it's both is because you can think of Nintendo as a platform that vertically integrated into the production site. Basically, all the first party content is a vertical integration and that's why they would exhibit economic structure that you would typically find in producers, which is a kind of scale. But at the same time, the third party transactions are a nature of network economies. Now, some question when we have to analyze there is this platform really stable, which means it's their really high cost of being attached to this platform. Can you multi-home, etc? We have to go into that. Well, in the 80s, there were no other viable platforms. Right. So maybe they're just the one. So that's why you would observe economic structure of both scale economies and network economies. Now, there's a deeper question there, which I don't have an answer to is, is one of them the cost and the other the effect or are both of them causes for power? Right. I love the answer. And I think she's right. I mean, when we look at platform things, there is the business of running the platform. So think of, for example, the fixed cost and over of their modeling and all that kind of stuff. And then there's the network economy aspects of a two-sided platform with people, you know, and so on. And you could have power on either one of those. But if it turns out that the cost structure is not, there isn't a huge lump of fixed cost on it doesn't matter much. But I think Jenny got it right. Okay. Well, we feel vindicated because that's kind of the conclusion we came to in the episode two of its both and they're deeply intertwined. I'll give you an example of intertwined real life, which is we all know Amazon in retail has gigantic scale advantage in the infrastructure, right? Just all the warehouse and distribution centers they've built. But at the same time, you observe, you know, what you will call flywheels on the retail, right? The more buyers, more sellers, and the loop goes on. And this is what I call the mixing of reality between calls and effect. Because without a really strong distribution infrastructure, which gives them the cost advantage and faster delivery and prime and all of those benefits, there really isn't anything that makes their marketplace sticky among either side. So the so-called network effect you observe is actually an effect of the power in scale of the infrastructure underneath. But you would just observe economic structure of both because platform just kind of mixed them all together. Yeah. And this isn't a sort of a pointy headed kind of issue because it gets back to if you find the thing that's caused rather than effect, that's the thing that you got to defend, right? And my intuition about this, and I don't know if it's right, is that you have to introduce time as a variable in this to correctly understand the problem. But I think Jenny and I are involved in this deep debate right now about sort of the boundaries and relationship between scale economies and network economies. If you want to get even more confused, just remember that scale economy typically is defined as a situation which is scale increases cost-free and it goes down. That's often true of network economies, right? But the structural economic conditions that create it are quite different and understanding those if your business operator is really important because then you're less likely to be get taken out better. Well, I think this is a great place to leave it. Hamilton, Cheny, thank you so much for part three. Can't wait for part four in a few years. I don't know, is this going to be a book? Is transforming, are you guys going to publish this? Well, what we're talking about right now is there are a variety of topics that are extremely difficult phenotypes, if you will, to tease out and delay. And we seem to have enough of those that actually we probably could write a book about it. And so it's a topic of conversation. Great. At a minimum, you also have a newsletter. There should be a strategy capital newsletter. You'd break up there with Bentopson. Even if it's only like quarterly or something. Yeah, yeah. We've thought about certain flight papers in this and that. So I'm pretty lazy, Cheny, you probably could do it. Well, this is the problem. You need a bundle of skills to be like a Bentopson is you need to be both a great strategy thinker, which you both are. And you need to be a great writer, which you are. Seven powers is really excellently written. And you need to love writing and want to do it every day or every period, which I'm not sure that you do. That's the part where David and I fall down to people keep saying, oh, you should turn a choir into a book or you should turn these into blog posts. And David and I look at each other and we're like, it takes us hours to write. That sounds like hell. I'd say my passion that I think probably Cheny's sort of aligns for this too is getting the theory right. It's very satisfying and extremely hard to sort of go through and figure out, you know, how this kind of all fits together. And of course, that's how you get to simple, but not simplistic. That's the only way you get to simple, but not simplistic. And so that's kind of the satisfying part, but I don't know the idea of writing other book scares the hell out of me. Yeah, it doesn't help when the theories never done. You know, like it's funny. I think David, you mentioned last time we talked about platforms, it doesn't feel completed. Like the truth is, it will never be completed and it's always in the work. I think nowadays we got a lot clearer about it than a year ago, but it's always in the make. We'll think about something else and it comes back to a platform like, oh, that's the missing piece. And realize it's actually vertical integration. We were confused about the whole skill of the record for a very long time. And that like, oh, that's what's missing. And the communication strategy is always a difficult piece as well. A bet that two of you spend a lot of time on each company that you do an episode on and it's things like that. And when everyone on doing an example, you're like, is this really true? Then they have to go dig it all back and be like, am I just misperceiving what this really is about? Yeah, how did you delay or AWS? That one we actually talked to a lot of people who were around it at the moment of conception or theoretical conception over a variety of years. And there has been sort of canonical sources. So, you know, we read Brad's Stone's book and we know Brad. So we asked him, you know, who did you talk to to kind of piece this together? And we had our own folks that we knew. So there was a little bit of like actual first party knowledge there. But David and I had this a little bit of an aha moment, a little bit of a sigh of relief when we were like, oh, we're not going to figure out what the one story was. So we actually can create an episode out of there's a bunch of stories. And like, we leave it to you, listener. And that that's probably the right answer is there is no one story. It's being a third party observer to the extent that our version of what we told is true or closer to the truth than others. No person who was personally vested and interested would be able to have that perspective. Yeah. So and channeling Kurosawa, right? Yes, exactly. Yes. All right. Well, that's a great place to leave it. Hamilton, Cheny, thank you so much. Thank you both. Great. Okay. Our pleasure. Thank you. All right, listeners. Thank you. Thanks to Hamilton and Cheny for joining us. Very clarifying discussion. I felt, David. Totally. I mean, they really are too modest to say on the episode. But they are the very best people to do what they do because they sit at the intersection of academia, corporate strategy, Hamilton worked for Bayon and strategy consulting for many years and active investing. And they're working with founders every day, getting their hands dirty. They truly are the best. Well, listeners, we'd love to go deeper with you. You can become an acquired LP to come back into the acquired kitchen. David, you like in that language. I've been, I think of Steph Curry every time you say that, cooking in the kitchen. Good, good. Well, listeners, we have bi monthly Zoom calls with our LPs and we just announced that we are asking LPs to help us pick future episodes. So LPs watch your email for that and listeners, you can join at slash LP. You should subscribe to our second show, ACQ2, in any podcast player for expert interviews with founders and investors. Come join the Slack. There's now over 15,000 smart, thoughtful members of the acquired community who have joined at slash Slack. And for the other 95% of you who listen to this show and haven't joined, we would love to chat with you. All right, listeners. We will see you next time. Who got the truth? Is it you? Is it you? Is it you? Who got the truth now?