Before I jump in, I just created a category for my posts called “Half Baked Ideas.” I usually have a random idea a day while aimlessly surfing the web, I wanted use my blog as a forum to share them. Some will be applications, utilities, plugins, and other might be actual product ideas for new OR existing companies.

Only 1/30 deserves some serious thought. While only 1/1000 (if I’m lucky) deserves to be real businesses/products. I just wanted to share my thoughts and have other people pick holes in the ideas so feel free to tear them apart. Lots of times, someone will probably be doing it already, I’ll be interested to know who too. Lastly, I don’t really believe ideas in of themselves are proprietary, it’s in the execution anyways. In an efficient market (with the amount of smart people in the technology industry, its probably is pretty efficient) no one should know any better than anyone else, as a result, ideas will rarely be unique. (execution and strategy are) So I’m not afraid of someone “stealing” these ideas, if not from me you can steal the same exact idea from someone else I actually encourage readers to take the ball and run with it if they want, I’ll be glad to help out anyway I can so please let me know if you are.

So on to today’s random musings. Since Fred is a Podhead, he got me thinking about the implications of podcasting on the music industry.

He writes,

iTunes is going to include a podcast aggregator in the next version, due out this summer. Then everyone with an iPod is going to be able to get podcasts. That’s a lot of people, probably north of 6 million people by now.

(also read this by John Furrier)

Both bounced around in my ahead a little bit before I decided that,

Podcasting is going to be the “Trojan horse” that changes the music industry economics and business model forever.

With Apple essentially acting as publisher (aggregator) for Podcasts of independent producers, it will not be long before the end users leverages that technology to publish music and circumvent traditional publishers like Sony and BMG. Apple can’t do that with music right now, ie let independent musicians distribute music via iTunes, because they need the major publishers for their catalog of music and the major publisher certainly do not want Apple helping out the little guys. Podcasts, seemlingly innocent to the major labels, will not seem like a threat to labels allowing Apple to furtively revamp iTune’s business model. This will allow iTunes to tweak their infrastructure and payment system (like what brightcove is trying to do with video) for direct distribution and royalty remittance. With any “long-tailed” business model, iTune will have critical mass in the head of the tail to successfully funnel revenue to niche podcasting content and eventually music. In the end, bits are bits/audio is audio, podcasts are mp3 files anyways. Labels wont go way but the long tail of the music industry is about to get fatter and longer, siphoning revenue away from the mainstream.

Furthermore, I believe there will be an opportunity for a startup (Odeo?) or an innovative incumbent (Apple? Feedburner?) to create an audio advertising syndication network for podcasts. Ala adwords/adsense but more like “adAudio” or “adSound.” Radio has shown that listeners are somewhat tolerant of inter-temporal interruptions to their music listening experience by advertising. Music or podcast feed aggregators can splice in audio advertising into the MP3 feeds relatively easily. Like adsense, revenue can be remitted to the independent producers themselves.

So ya, podcast is niche within a niche within a niche. But music is not. Technically the difference between music and sound is zero (all audio). Wasn’t Fred listening to a podcast with music embedded in his post? Podcast is the Trojan horse, the music industry watch out.

First of all, I didn’t know Fred is a fellow Wharton MBA alum. Kinda cool since most of the OLDER Wharton alums end up on Wall Street (buy or sell-side) rather in the trenches. (I think of early stage VC’s as operators, later stage VC’s and buyout guys as bankers). Having graduated from Wharton not too long ago, I know that this is no longer the case. My class was as diverse as it can get (comparatively to HBS or Stanford atleast).

More importantly, Fred’s post:The Five Things I Learned in Business School got me thinking about how little people seem to learn at business school or value their MBA compared to my personal experience. I cannot speak for any other business school since I’m not sure what is taught there, but as for Wharton, it was an incredibly educational and intellectually challenging 2 year. Definitely worth my time (although I’ll have to back to you in about 10 years on the financial ROI on the 150K I spent).

Prior to Wharton, I wasn’t new to the business world. The “5 Things” Fred had talked about I was already quite familiar with due to the fact that 1) Stanford prepares their students well for the real world regardless of which major he/she ends up with 2) starting my career in banking & raising venture capital helped me scale up the learning curve rapidly. Thus, not being a newbie to business like some of my “PHD in ChemE” classmates, I needed to learn about business above and beyond the common MBA experience to justify my time. Wharton did not disappoint.

My current theory is that given 2 years of freedom to explore their passion (in this case business) in an environment with all the incredible resources (professors, conferences, PHD research, technology licensing office, etc) available to them at any the top MBA programs; ANYONE who say they did not learn anything from their MBA must not have the passion and drive for their chosen profession to go above and beyond the daily requirements of getting by. This is not about pedigree, it is about exploiting opportunities and succeeding, learning, growing regardless what hands we were dealt. MBA is a test of one’s character and ability to search out opportunities to make ourselves better. I might not have learned anything “useful”, but I did learn and grow for the sake of bettering myself.

So the million dollar question: what did I learn. I was surprise to find the Wharton MBA to be quantitatively and statistically as rigorous as my engineering degree. (of course this depended on the classes I took) To me, Wharton gave me an engineering degree in business. I found a way of looking at business decision making as a science rather than as art. (Very comforting for an guy with an engineering undergrad degree) To anyone that read Moneyball, Wharton is Moneyball for business (ironic analogy since Moneyball was about bringing sophisticated finance & management techniques and tools to an inefficient industry) The Wharton MBA attempts to systematically quantify business decision making from past history of business to help rapidly instill discipline in its students that otherwise would requires 30 years of experience to learn holistically.

Throwing out some buzzwords, I know how to use statistical clustering techniques to segment a seemingly homogenous customer base. I know how to use factor analysis to discover latent customer preferences. I know how to use probabilistic models to determine the most profitable customer profiles. I know how to predict profitability of new features and products using logistic regression models. I know how to quantify & model channel marketing decisions. The list goes on and on.

In the end, I recognize that most of these techniques are not applicable for the start-up world where there a little customer history and past results to mine insights from. But I hope one day, when I am running or helping to run a larger company, I can add value above and beyond the person I am before the MBA. At the very least, the Wharton MBA was an intellectually challenging experience; the student in me appreciates learning for the sake of “knowing” and the quest for “truth.”

The Chinese internet industry is going through an interesting phase of expansion circa US 1998 under the backdrop of new applications of web 2.0/3.0 and learnings of the dot-com bubble. With overall Internet penetration rate still low, none of the leading players in the industry have achieved the critical mass neccessary to fend off competitors encroaching into their own industry. Furthermore, with valuation sky high, and user numbers impressive many companies are desperate to find ways to

1. Justify their valuation
2. Expand into new segments
3. Find a viable business model

For sures, the recent success of Taobao against an once seemling entrenched player with critical mass, EachNet, has created the business environment (and maybe hubris?) that nothing sacred. (The economic impact of Taobao vs. Eachnet goes much much beyond their immediate auction industry.) Many of the leadings players in online portal, mobile portal, SMS, IM, MMOG, Auctions, and search have all announced initiatives and encroachment into each other’s application or end user segment. See :

Tencent GS Report
S&P on Shanda

both via billsdue

But really what makes this much more interesting than 1998 is the fact that all this is taking place under the adjacent & bleed-in innovations of Web 2.0 in the US (Search, Blog, RSS, Tag etc) and arguably Web 3.0 in Japan/Korea(Ultra Broadband, IP Ubiquity, Mobile, MMOG, Virtual Commodities,“1st Degree Blogging”). There are a lot more moving parts than there were in the US in 1998.

Given the increased complexity I’m not certain that all players will eventually find the business model or the growth they are looking for. With no players gaining critical mass given the hyper competition, very few players will be able to gain scale (critical in the tech world) to amortize their R&D investments to become highly profitable businesses. Furthermore, many unique structural innovations require some sort of platform gorilla company company with highly profitable businsses to jump start (Web 2.0 would not have happened without Google’s adsense/adword AND eBay’s distributed business model learnings: the long tail). I am certainly not convinced this landgrab in China is healthy and rational behavior but I have no way of knowing. Competition in most cases is good, but as I have learned in the dot-com days, many times, competition can be very destructive. Perhaps a similar crash will take place and clean out the “weeds” allowing surviving companies to scale and new innovations to take place. Like I have learned from the dot-bomb days, in the end, the crash wasnt such a bad thing after all.

This is a primer on the generally accepted “academic” definition of the word STRATEGY. I intend to write a few company specific posts in the coming days so I want build a foundation first. To anyone with a MBA or studied Michael Porter this is probably elementary, but for other hopefully its somewhat enlightening.

While Porter’s five forces are generally considered his most well-known contribution to the field; much more important, in my opinion, is his thesis that:

1. Strategy = tradeoffs. Its about making CHOICES when you are FORCED by the market/customer/competition to make. It’s a deliberate decision that makes your company different from everyone one else

2.Operational Efficiency (OE) /= strategy. OE decisions are things that companies do that they dont have to make choices on. It whats good for EVERYONE that everyone SHOULD be doing.

3.OE /= sustainable competitive advantage. Because the rapid diffusion of most innovations and processes, OE is not sustainable and only connotes temporal advantages while OE is waiting to be diffused. Porter often uses Japan’s auto industry’s focus on OE innovations such as JIT, Kaiban, and the likes as a case in point of the fact that OE provides temporary competitive advantages but in the long-run, competitors catches up and renders those advantages null.

4.OE + Strategy = Fit = Sustainable competitive advantage. Lots of people think that Porter belittles OE, but the truth is that he believes OE is the pre-requisite while strategy is the differentiator for creating competitive advantage. They are equally important, just that strategy requires more thought & choice. Furthermore, individual decision on OE must fit with the overall strategy to re-enforce and create barriers to imitation. (Porter calls them “activity systems”)

5.Failure to make tradeoff = straddling penalty. To quote Porter, “Companies that try to be all things to all customers risk confusion in the trenches…Positioning trade-offs are pervasive in competition and essential to strategy. They create the need for choice and purposefully limit what a company offers. They deter straddling or repositioning, because competitors that engage in those approaches undermine their strategies and degrade the value of their existing activities.”

Taking a page from the finance field using a variation of Markowitz’s efficient frontier, Porter synthesizes his theories using the same concept.

The “efficiency frontier” is the collection of best practices, processes and technologies that allow a company to operate at maximum profitability. Porter states that all companies must operate on this frontier in order to merely be competitive in their industries. The frontier is defined in 2 ways.

1. For a given cost to serve a customer (COGS + SG&A) what is the highest amount the buyers are willing to pay for a product or service.

– OR –

2. For a given price customers are willing to pay what is the lowest cost to serve that particular set of customers

As you can see, both company A and company C resides on the efficiency frontier. They have consciously made the decision to serve different end of the customer base (different willingness to pay) and create the most efficient cost structure for their business given the requirements of their different segments.

Company B is straddling. Given the willingness to pay of its customers, its cost structure is way too high compared to C. On the other hand, given its cost structure, C should be able to produce products and services that targets A’s customer base who are willing to pay more, but C is not.

In short

Deciding where on the efficiency curve to be on is STRATEGY

Getting from inside of the curve ON TO the curve is OPERATIONAL EFFICIENCY

Lastly, and most importantly for the technology industry, innovation in new processes and new products pushes out the efficiency frontier. In such a scenario company A, B, and C are no longer capturing as much profit as they should have. This creates opportunities for new companies (or existing companies) to leverage this new innovation to move to ANY part of the efficiency frontier and garner disproportionate amount of profit compared to its inefficient competitors. If this situation persists (A,B &C don’t re-position themselves) A,B&C will eventually go out of business.

Some of the cool Ajax or Ajax-like (its really a design/interface philosophy than it is a set of technologies as some components are interchangable) applications include

Oddpost
Outlook Webmail
(no coincidence that email applications kicked of webapp 1.0 and now will be kicking off webapp 2.0)
Google Maps
Feedlounge
(Gotta try this, it’ll blow you away)

So Whats Next

- Actually the future of UI design is going to get a lot better and a lot worse at the same time. One of the good thing about traditional web controls was that because the available interface elements was so constraining, it was in fact keeping the UI’s from getting too bad (and too good). Now that product managers and UI designer have almost unlimited tool box to play with, expect the Bell Curve to flatten: a lot of over designed and badly designed web app. (Think Windows applications before Visual Basic) End users are used to dropdowns, radial buttons etc . . . now they have mryiad of “clickable” controls they’ve never seen before. On average, it will probably get worse before it get really really good.

- I’m waiting for someone to produce a definitive book on UI design for WebApp 2.0. It will be a seminal work that create some order out of the chaos that will follow while allowing room for creativity.

- Flash due to its lack of transparency (think XML versus binary formats) will retreat back to multimedia related uses while enterprise and workflow heavy applications will move to AJAX.

- Maybe a couple webapp/WAN acceleration layer 4-7 switch makers will be born to create specific algorithms to optimize the delivery and use of AJAX applications

- Web applications will begin to rival and exceed the functionality of their client/server or desktop cousins. Expect the next webmail version of Outlook to have more functionality, richer experience, more dynamic, and maybe easier to use than the Windows version. I wouldnt be surprised if MSFT tried to charge more for it.

- Ajax will drive innovation in the browser wars. Expect whoever creats a faster rendering browser for AJAX (Firefox?) to gain marketshare because much of the speed/response bottlenecks will no longer reside on the network but on the browser. Perhaps Google will create one and get into the enterprise software industry by getting browsers (or “web application delivery client” ) bundled with major ERP deployments.

Ever since my Yahoo!Sports Boxscore learned to update itself I thought I had sensed the future of web application development. While it took some time for the trickle of innovation to finally coalesce itself into a major movement. I knew even back then that it could one day be much more than just “cool use of javascript.” 4 years later its finally here and its called AJAX.

I discovered AJAX, the acronym, about 6 month back (I know, I’m not exactly on the bleeding edge), as I was impressed with the mariad of dynamic application released onto the web and wanted to understand the technology required to build these applications. In February, an article by Jesse James Garrett on the topic officially kicked off the revolution. You can find it here: Ajax: A New Approach to Web Applications and here. While the individual technologies nor its applications are revolutionary (like I said, its 4 years in the making, atleast) the coherent framework, the “naming,” programing support, and UI designer adoption all points to the fact that we have reached a tipping point. Like many innovative technologies, its the fact that it reached the inflection point purely on word of mouth that signals a major change.

Even back in 1999 people knew that web-based applications were decidedly inferior from an user experience stand point. Its slow, its mechanical, and it forces the user to adopt to its paradigm rather than the other way around. At the time I was designing web-based applications for the construction industry and some of the most common complaints was that it was slow, (click & wait), it doesnt anticipate the user’s responces, and that it doesnt take advantage of the entire keyboard: forcing the end user to rely heavily on the mouse. (The industry could care less that the web was “hot” and that everyone else was doing it, hell, it was still in love with AS/400 the amber colored prompt - and rightly so) As anyone who has worked at a job heavily dependent on using the computer, the mouse is one of the slowest input devices for the expert user. Many companies balked at paying/subscribing our web application for that reason despite the many advantages of a web-hosted application (accessibility, compatibility, platform independance, lack IT dependency, cost of ownership, etc). They knew that in the end, the end user must LIKE using the software.

Web was born out of a stateless “pull” archicture while traditional client server is both pull and push. What resulted was that web based application MUST be synchronous and dependent on the user to let the server know the status and change of its various states. In the beginning days of the hype surrounding web services, several startups were founded based on the idea of bring web app user interface and messaging architecture out of the dark ages to the equivalence of the client/server world. These startups sold a combination of application servers and browser plugins (sometime w/o the browser component ) to accomplish what essentially AJAX does. Kanamea was one of the most hyped companies doing this. They were all too early and too dependent on a closed architecture.

Ajax Rising: WebApp 2.0 Contd
ajax

More comments from A_VC blog (yes I am an avid reader). And referenced by Fractals of Change

Fixing Venture Capital

Venture Capital – An Entrepreneur’s View

The problem with liquidation preference is not its existence but its magnitude. If the liquidation preference is only “designed to protect the VCs from having the company sold by the entrepreneur at a price that gets the entrepreneur a good return, but results in the VC losing money” (and not for any other reasons), then the highest liquidation preference that a VC should be able to JUSTIFY is 1X (and nonparticipating preferred).

Most reasonable entrepreneurs would agree that VC’s should be protected from situations in which an entrepreneur raises a round with a pre-money $5M valuation with $4.9M investment ($9.9M post), and immediately sells his company for $9M, thus pocketing ~$4.5M (~50% of stock) while the VC loses ~400K (4.9M-4.5M) immediately. In situations where VC’s own more the 50% of the company and control of the board, I’m not even sure if common stock holders can sell the company w/o board or VC approval. (someone can enlighten me on this).

Kevin Laws has a great post on this . .

Snidely Whiplash And The Liquidation Preference

Given that liquidation preference in the valley ranges from 2-3, I’m not sure how the “protection from entrepreneur” argument holds. The truth is that VC’s are using the liquidation preference as a financial engineering tool to guarantee themselves some baseline level of IRR or simply to increase their IRR. Don’t get me wrong, there is nothing inherently insidious with liquidation preferences if VC’s simply call it for what it is.

Entrepreneurs needs to realize that similar to warrants and options, the liquidation preference term in a term sheet has “value” and is a source of dilution to his or her equity stake. (I wonder if there is any academic research on how to “price” this type of “security”)

Furthermore, I call for fellow entrepreneurs to also realize the true potential and valuation of his/her business and what is the preferred exit strategy. If the entrepreneur is looking to sell his/her company, be extremely cautious of typical VC advice of “never turn down any money” and “raise as much money as someone will give you.” With a high liquidation preference and volatile market conditions (causing volatile valuations for your venture) it is highly likely that you are digging your and employees’ common stock a huge hole to climb out of. Simply put, you could be holding “extremely out-of-money options” and not even know it. Of course, the decision must be evaluated on a case by case. In the end, stick to the fundamentals (and clichés, also doled out by VC’s ). . . treat VC’s money as your own, don’t waste money, make every penny count. . . for many ventures, $10M should get you to profitability or even a IPO. In which case, you wont have layers and layers of liquidation preference to worry about.

Below are comments I posted on A_VC a while back in regards to Fixing Venture Capital.

Not terribly current but I’m trying 1) archive some of my longer comments 2) learn to use wordpress. So pardon me as I ramp up on the application.

Also for those that dont know, carveouts are additional cash or equity given to employees (most likely just CEO and a few VP) of a company when the company gets sold OUTSIDE of their stock options and employment agreement. Its like a “job well done” bonus for making the VC’s money. A lot of times the employees are required to sign an employment agreement with the acquiring firm as part of the carveout package.

great post Danny, many people (from previous comments) assume that the market is efficient and that any negotiated term by definition is “fair.” I believe this is only the case where there is no information asymmetry. The market was inefficient in the past, because sellers of equity did not have all the information required to properly “price” the value of their equity and terms in the financing. Today, blogs like this one are reducing the information friction between entrepreneurs and VCs, which will help created more “fair” financings EVEN IF the terms stay exactly the same. (simply stated, know what you get yourself into)

While on my soap box A previous comment from part I of the article mentioned that “carve outs” compensates the management team in the case that the liquidation hurdle is not met in an acquisition. The key here for entrepreneurs to understand is that the “CURRENT” management team is essentially cut into the deal in order to convince them to stay through the transition processes. In most cases, those entrepreneurs that are no longer active part of the management team will not get a penny. There is a lot going on here than what meets the eye.

1) Selling below liquidation preference means that the company at one point probably did not perform to expectation, as a result, founders are most likely out of the company
2) The existing management team is most likely recruited by the VC and are experienced veterans in the industry. Thus, VC’s have an inherent interest to keep a good long term relationship with “powerful” executives in the industry, AND owes them a “favor” for promising riches when first recruiting the management team.

So what does this mean for the entrepreneur?

1) Don’t count on the carve out when negotiating the termsheet
2) When the VC’s ask you to step aside, if you don’t have confidence in the new management team, don’t walk away quietly especially when the company is doing well, stay involved in an operating role

Because the financial interests of the entrepreneur and VC are not aligned, conflicts often rise in a startup. This is the reason why you see entrepreneurs fighting with VC’s to stay on with the company. While VC’s claim that more experienced management team is needed to take the “company to the next level,” (completely valid argument!) founders have the financial incentive to fight to stay on because there is a probability that the new management team will make some money while he or her will not make a penny. I’m not making judgments on whether a management team changes is good (it’s a case by cases thing), but just that the entrepreneurs need to realize the full economic impact of the events that are taking place. Of course, there are plenty of startups where founders deserve NOT to make any money and deserve to be force out of a startup.

Why

After spending way too much time reading and commenting on other people’s blogs, I finally succumbed to blog envy and launched my own. Ironically, having a “digital presence” was something I outgrew back before college. Little do I know, everything comes in cycles; just bigger, cheaper, and better. Back in the days, before the web but not the ‘net, I was a co-sysop of an BBS that was “co-located” out of a buddy’s room. He was lucky enough to have 4 gigs of storage, a couple of USRobotics Dual 14.4 modems, spare phone lines, and ultra cool parents. I tagged along because I though it was cool to run a “elite” BBS. It was essentially a cross between a message board, blog, napster, and AOL (or more appropriate, Prodigy). This was back in 1991.

Now finally, I have an informal place to gather my comments, archive my thoughts, bookmark my favorite posts, and generally vent on/about anyone and anything I feel like. Please dont take this blog or life too seriously, enjoy the sunshine.

What

This blog is about the birth place and epicenter of the digital revolution, a tiny piece of land on the Bay Area penninsula I call “650.” Previously ingenuous but now iconastic companies were born here: Yahoo!, Google, Sun, and HP etc. No need for history lessons Sometimes, they grow up and move to 408 or 415 where they take on the world. Always, they retained the spirit and the heart of a very unique place I call home.

So what will I write about?

Like everyone else
- The business of technology
- Venture capital
- Entrepreneurship
- Start-ups

Hopefully unlike everyone else
- Product management/marketing
- Academic research and its application to high tech marketing & strategy
- China and Taiwan’s tech industry
- Useful tibits for the anyone that rolls up their sleeves and do the dirty work neccessary to make this place hum

What not to expect
- correct grammar
- correct spelling
- chronological & logical reasoning

Who

A little about me. My name is Will Hsu. I grew up between Taipei and the Bay Area. Got my engineering degree at Stanford and MBA at Wharton. Spent my previous lives as an investment banking analyst, a product manager, and an entrepreneur (I dont like this word, too self important) - all in 650. I’m a jack of all trades who lived through the times of Apple IIgs, B2B, to social networking. Like many of us, I rode up dot-com boom down the dot-bomb bust. After two year in Philadelphia, I’m now back, because I am and forever will be irrationally exuberant.

I’m currently getting my paycheck from the product marketing department of eBay.