Monday, November 16, 2009

Startups & Existing Markets, Part 1: Five Rules for Niche Penetration

Why Pursue an Existing Market
While much has been written about startups developing entirely new markets, comparatively less has been written about startups seeking to penetrate existing markets.  But there are several advantages to pursuing an existing market:
  • The market is defined - There exists real data about products, market size, customers, competition, and sales channels.  More importantly, the market is already framed which minimizes the blank stare factor you get in trying to describe a completely new market.
  • A real problem exists and real money is being spent - There is no question that basic demand exists and that someone will pay for a solution.  The risk of having a "solution looking for a problem" is reduced.  Of course, this is not a guarantee that people will buy your solution.
  • Customer ROI can be calculated - In existing markets, the rules for determining customer payback are often well understood.  This is an invaluable guide in determining how well your solution addresses a need or compares against the competition.  Example:  the cost of ownership model used in the semiconductor industry.
But there are two important disadvantages:
  • Competition exists - And they won't just yield without a fight.  Competitive strategy is the issue with existing markets vs. new markets.  (With the latter, framing a value proposition and promoting awareness to target customers are often the key problems, not competition.)
  • Pain of adoption favors the status quo - To the degree which your offering introduces risk or requires customers to change habits, processes, or relationships, this can be a serious barrier to success.
Five Rules for Penetrating Existing Markets
Startups seeking to penetrate an existing market should pursue a niche dominance or beachhead strategy governed by these five rules:
  1. Competitive entry must be based on superior performance or lower cost. You must demonstrate ROI high enough to overcome the pain of adoption.
  2. Focus, focus, focus and burn the boats.  To establish dominance, you must understand the entire niche ecosystem in depth, not just your product's competitive advantages.  Choose one and only one niche segment.  Don't choose two (unless you can field a completely independent team).  Penetrating an existing niche is hard.  By burning your boats and committing your startup to just one niche, your team will have no choice but to knock down every obstacle that rears its ugly head.  Don't give the team an excuse to dodge when the inevitable "unsolvable" problems arise or they will remain unsolved.
  3. Pick a niche based on speed of dominance over size.  Look for customers with high pain who will be the most motivated to adopt your solution ASAP.  Don't worry if the niche is small; once you're entrenched with a dominant position, you can extend into bigger segments later.
  4. Risk management can be a bigger issue than performance enhancement.  Because existing market customers have some working solution, superior product performance or lower cost is a necessary but insufficient condition of purchase.  You must also address their concerns surrounding any downside risks of change.  These often have nothing to do with your product but are more associated with the supply, deployment, and integration of it.
  5. Work through existing relationships.  One way to minimize the pain of adoption is to work through existing partners, alliances, and channels as much as possible.  While this introduces its own set of challenges, this eliminates a major source of risk.
How will you know when you dominate your niche?  Market share.  While this varies by industry, to be truly niche dominant, your company should have the largest share of all competitors in your chosen niche and typically greater than 30%.  Don't confuse reputation for dominance.  Dominance means share.

Next week's post will discuss the Three Rs for moving beyond the beachhead niche into the mainstream market.

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