Test-driven Business Model Development for Web Startups

Business plans are out and business models are in. The waterfall method is out and agile development is in. Now an entrepreneur will iterate the business model through test-driven approaches using agile software development and customer development.

How would you use test-driven development in building your business model? A good start would be to iteratively identify and test key hypothesis for each component with your business model.

Previously I suggested a mash-up of the Lean Startup/Customer Development methodology and the Business Model Canvas. On the higher level, the “back-end” business model structure aligns with agile development principles, and the “front-end” structure with customer development principles. Causally executing product development alongside customer development would optimally lead to problem-solution fit, followed by product-market fit corresponding to your value proposition.

On the lower level, typical Lean Startup and Customer Development principles are segmented according to each of the nine business model building blocks. These are the techniques and tools that you would take into consideration when testing your business model hypothesis.

As all business model components have their own characteristics they also have their own hypothesis testing schemes. The following is an overview of techniques and tools to be used for testing each and one of your business model components from a Lean Startup and Customer Development perspective.

Customer segment is where you identify with customer prospects a specific problem that they agree upon. You would put the Customer Development methodology in order by getting out the building and mapping out a Customer Problem Presentation. For what questions to ask, the guys at Survey.io provide an excellent starting point.

Value proposition. Here you test to see if your solution fits the customer’s problem. The key is Minimum Viable Product. A Minimum Viable Product has just those features (and no more) that allows the product to be deployed and tested. Especially if you are in the online business you would consider putting up landing pages. Further, A/B testing, split testing and multivariate testing are super techniques for testing hygiene factors. This allows you to test and validate customer demand and positioning. Unbounce provides you with many of these tools.

Distribution channels. Do conversion optimization whether it includes your web page, social media accounts, Google Adwords or partner’s pages. Ask your self what is most cost-effective channel. Eric Ries wrote these awesome posts on how to use search engine marketing and Google Adwords in testing demand and value propositions.

Customer relationship. This one is bit more qualitative in nature than the distribution and product offering schemes. It is more about making an arena for collecting feedback from your early customer segments. You would consider using tools such as wikis, forums and social networks as a basis for collecting data. It may include making a beta testers’ community allowing for feedback, and distributing surveys and newsletters for measuring reach. Survey and form services such as KISSmetrics and WuFoo are useful tools for gathering feedback on-site.

Key activities. “Release early, release often” is a key tenet in agile software development. Question your self – how often you ship product. Do continuous deployment to learn and adjust. Testing should be a key activity itself. Automattic CEO Toni Schneider reported that WordPress.com averages about 16 product releases a day. Beat that!

Key resources. Arrange for the tools that you need in order to test the remainding components. For an example by signing up to Google, you can run Optimizer for split testing, Google Analytics for conversion optimization and Adwords for testing clickthrough on different value propositions. The good news is that this is cheap. Perhaps the most important resource – your co-founders and team members should embrace a learning culture and test-driven environment.

Partners. Here you would consider a similar approach to that of the customer segment. Your partners may also be the ones who provide you with key resources, such as Amazon for hosting or Google for distribution.

Revenue streams/cost structure is about defining the equation of your business model. If you are going for that 1 % of China’s users cliché you are pretty soon on thin ice. Instead, do it bottom-up. For an example, numbers of users times ad revenue per user. The point is to convert your assumptions into metrics that are actionable. Sooner you would be a low-burn startup. By removing what is broken, test-driven business model development enable you to do so.

The bottom line: In systemizing hypothesis by the business model components you will simplify testing methods and reduce risk in building a lean business model.

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How to craft a lean & mean Value Proposition for your Startup

Mark Twain said “I didn’t have time to write a short letter, so I wrote a long one instead.” Nonetheless, every business model needs a clear value proposition – a description of the value or benefit that your product creates for a specific customer. However, crafting that 1-line pitch that makes a customer turn to your company over another might be a challenging task. Here I describe the VAD technique for crafting high-level value propositions for your startup.

Author of Crossing the Chasm, Geoff Moore, suggested a great template for making and baking your elevator test. Yet as I needed an even more high-level pitch, I had a look at the value propositions of promising web startups. Luckily I didn’t have to go far. Guy Kawasaki is a true master of crafting value propositions and mantras, as he prefer over [corporate-ish] mission statements. On his blog I found some killer examples:

• Alltop: Stay on top of all the topics.
• CoTweet: Manage Twitter with a CRM service.
• Garage Technology Ventures: Raise venture capital for your tech company.
• JaJah: Make VOIP calls easily and cheaply.
• Posterous: Create and write blogs via email.
• Slideshare: Share PowerPoint and Keynote slides including audio.
• Tweetmeme: ReTweet good stuff.
• uStream: Stream video live.

I like these. They are short, simple, playful and to-the-point. Guy is not afraid of polarizing people. Its premise is that you will rather take a “sniper approach” than using a shotgun in aiming value propositions at your customers. Generally Guy seems to put a verb or call-to-action first, followed by the application and a differentiator. That is [verb; application; differentiator], or VAD if you like.

Another interesting value proposition is that of Xobni. By highlighting “Drowning in Email?”, Xobni immediately makes you aware of your problem and invokes some kind of thank-god-I’m-not-alone-feeling. Instead of being everything to everyone, Xobni makes it clear that it offers you an Outlook sidebar plug-in. Following, Xobni highlights it main features and user perceived values – “searching your inbox and finding information about your contacts fast and easy”.

Now consider EasyPeasy. Its current value propostions are:

• EasyPeasy: an open source cloud OS for netbooks.
• EasyPeasy: Linux for the rest of us.

When using the VAD technique we came up with the following high-level pitches:

• EasyPeasy: Rediscover your netbook.
• EasyPeasy: Make your netbook a lean, mean surfing machine.
• EasyPeasy: Run any web app inside the operating system

I admit being scared of polarizing main audiences within open source and Linux. Yet, VAD helped us drill down customer segments and perceived user value. From a positioning point of view these value propositions polarize new netbook users, and focus on solving the problem of current netbook users that feel pain with their pre-installed OS.

There sure is more to it. If you would like a more in-depth approach to value propositions and business models, I recommend reading chapter 2 in Business Model Generation by Alexander Osterwalder and Yves Pigneur.

Now, feel free to slaughter or embrace the high-level EasyPeasy pitch, or throw away the shotgun, load your rifle and craft your own VAD-style value proposition.

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6 Essential Startup Decks

Among the great many startup 101s’ that are out there, it can be hard to separate the wheat from the chaff. Here is an overview of the most essential startup decks that I have taken notes of. The list is merely a snapshot of hands-on startup methods and tools but a complete list of entrepreneurship literature.

Mint.com Pre-Launch Pitch Deck makes a great example of a startup pitch. For more on pitching  it is definitively worth looking into Pitching Hacks: How to pitch investors from Nivi and Naval at VentureHacks (PDF and free sample) to be used in companion with Dave McClure’s Startup Viagra: How to Pitch a VC.

Mint Founder Institute Accounting, this time by Mint founder Aaron Patzer, is a must read on how to draw your business case together and getting the numbers right.

Startup Metrics for Pirates by Dave McClure is the nuts and bolts of how to formalize traction and accountable metrics for your startup, including methods from the Lean Startup.

No One Cares About Your Stupid Little Startup by Xobni founder Matt Brezina takes us through its phases and tactics for building critical mass.

The Lean Startup methodology by Eric Ries combines the best from the agile development paradigm with Steven Blank’s Customer Development methodology (which might as well have been included) into a low-burn startup methodology.

Drop the business plan?! The Business Model Canvas by Alex Osterwalder, is an one-slide template and systematic approach to analyze, brainstorm and sketch out your business model. If you are not familiar with the framework you might want to start with the Business Model Generation book, the lean startup business model pattern and Steve Blank’s post on how to process it.

There sure are several interesting startup decks, and no such list goes without mentioning Guy Kawasaki’s The Art of the Start and Garage‘s Perfecting your Pitch. I will read SEO Moz’s Venture Capital Process again. Not to forget Getting Real and Rework – the business, design, programming, and marketing philosophies of 37signals’ (see aslo Eric Santos’ summary). Neverthless, keep up to date with Lean Startup news.

Do you know of other essential startup decks, we would love to know about them.

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How to design your Business Model as a Lean Startup

If you spend time exploring innovation methodologies and models, you know that configuration of such frameworks largely apply new ideas, assembly and build upon previous work (hat off to science). I have come to explore conformity of two emerging frameworks; the Business Model Ontology by Alex Osterwalder and the Lean Startup methodology by Eric Ries. The result, the Lean Startup and Business Model Canvas mashup is illustrated below.

With the Business Model Ontology Osterwalder proposes a single reference model based on the similarities of a wide range of business model configurations. With the business model canvas (used as basis for the illustration above) Osterwalder describes nine building blocks that form a meta-business model.

On methodology, Eric Ries coins the Lean Startup, a practical approach for creating and managing startups using principles of Steven Blank‘s Customer Development  methodology alongside Agile Development methodologies.

The Lean Startup Business Model Pattern adopts principles of the Lean Startup (i.e. agile development and customer development) with the building blocks of the Business Model Canvas. In his recent book, Business Model Generation, Osterwalder uses the notion of Design Patters alongside the ideas of Christopher Alexander and Tim O’Reilly among others, to describe common configurations of business model components. Hence, it could be considered a Lean Startup Business Model Pattern.

The Lean Startup Business Model Pattern aligns with three main pillars that constitutes the Lean Startup methodology; Customer Development, Agile Software Development and Technology Commoditization.

Illustrated above the template using arrows, one key tenet with the Lean Startup methodology is the understanding of Product-Market fit, which optimally results from Agile Product Development, the solution offered, to match with Customer Development, the problem that is solved for a customer.

The Customer Offering or Value Proposition component of the template can be understood with the Minimum Viable Product concept used with Lean Startup method (see also whole product or doughnut diagram in Crossing the Chasm). The Customer Segments in which the Minimum Viable Product is offered, typically is characterized by early adopters or lead users in the social system.

With the Technology Commodity Stack, one of the main principles with the Lean Startup, Eric Ries speaks of how free and open source software (FOSS) availability and user generated content reduce startup costs. This is typically recognized with the Key Resources component. That is, knowledge of and access to open source software is a key resource to a Lean Startup. Similarly, open web hosting services are recognized with the Partner Network component, and convenient search engine marketing with the Distributions Channels component. Social media could as an example be a aligned with the Customer Relationship component enabling user generated content and interaction with customers.

Data-driven approaches based on customer-centric metrics applies to Distribution Channels, but may be considered a key activity as well. Among the Key Activities of the pattern are Agile Software Fevelopment methods and techniques, and the use of Metrics (e.g. Dave McClure‘s AARRR, Startup Metrics) for a startup to measure performance and adjust its directions accordingly. Although “listening to customers” would be recognized as a technique with the Agile Development methodologies, this is central not only to the Customer Development, Agile Development and the Lean Startup methodologies – it is also central to the Business Model Generation (Emphatic Design), Disruptive Innovation (Jobs-to-be-done), Lead User innovation and Voice of the Customer among other customer-centric innovation frameworks.

The conformity of the frameworks is not straightforward though. One such problem is that the level of abstraction differs. Think numerator and denominator. How do we distinguish between tactics, process, strategy and concepts herein? According to Steven Blank’s Customer Development methodology (slide #29 in this presentation), Product Development and Customer Development can be viewed through the tactical lens, while the business model view could be viewed through the strategic lens. Osterwalder understands business models as a facilitator between business processes and strategy. Myself, I would start from the premise that strategy or goals often comes as consequence of continuous learning in early stage ventures where resources are scarce and uncertainty is extreme.

One challenge to consider is how the pattern might express iterative development and internal feedback loops that are fundamental to Lean Startup methodology. It is in my understanding that when working with models and methodologies there is a general challenge in uniting behavior (process) and structure. That is, to what extent are the two frameworks integratable in terms of methodologies and notations. Borrowing from areas such as software engineering and system dynamics, future work would envision a tool that aid in entrepreneurial learning and aggregates key metrics in order mitigate risk in new-product introductions.

For starters a fruitful discussion would consider what are the principles with the Lean Startup methodology that should be included in the Business Model Pattern and where they belong. Later, I will address how a startup would use the pattern to validate their business model as a part of their lean methodology. Stay tuned.

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