Note: A version of this post first appeared on steveblank.com.
The art of entrepreneurship and the science of Customer Development is not just getting out of the building and listening to prospective customers. It’s understanding who to listen to and why.
I got a call from Satish, one of my ex-students last week. He got my attention when he said, "Following your customer development stuff is making my company fail." The rest of the conversation sounded too confusing for me to figure out over the phone, so I invited him out to the ranch to chat.
When he arrived, Satish sounded like he had five cups of coffee. Normally when I have students over, we sit in the house and look at the fields to try to catch a glimpse of a bobcat hunting.
But in this case I suggested we take a hike.
We did everything customers asked for
As we walked, Satish kept up a running dialog catching me up on six years of family, classmates, and how he started his consumer Web company.
"We did every thing you said," Satish told me. "We got out of the building and talked to potential customers. We surveyed a ton of them online, ran A/B tests, brought a segment of those who used the product in-house for face-to-face meetings." Yep, sounds good.
"Next, we built a minimum viable product." Ok, still sounds good.
"And then we built everything our prospective customers asked for."
That took me aback. Everything? "Yes, we added all their feature requests and we priced the product just like they requested," he said. "We had a ton of people come to our website and a healthy number actually activated." That’s great I said, "But what’s your pricing model?" "Freemium," came the reply.
Uh oh. I knew the answer to the next question but I asked it anyway. "So, what’s the problem?"
"Well, everyone uses the product for a while, but no one is upgrading to our paid product. We spent all this time building what customers asked for. And now most of the early users have stopped coming back."
What’s your business model?
I looked at hard at Satish trying to remember where he had sat in my class. Then I asked, "Satish, what’s your business model?"
"Business model?" he asked. "I guess I was just trying to get as many people to my site as I could and make them happy. Then I thought I could charge them for something later and sell advertising based on the users I had."
I pushed a bit harder.
"Your strategy counted on a freemium-to-paid upgrade path. What experiments did you run that convinced you that this was the right pricing tactic? Your attrition numbers mean users weren’t engaged with the product. What did you do about it? Did you think you were trying to get large networks of engaged users that can disrupt big markets? Large is usually measured in millions of users. What experiments did you run that convinced you could get to that scale?"
I realized by the look in his eyes that none of this was making sense. "Well I got out of the building and listened to customers," he said.
I offered that it sounded like he had done a great job listening to customers. And better, he had translated what he had heard into experiments and tests to acquire more users and get a higher percentage of those to activate.
But he was missing the bigger picture. The idea of the tests he ran wasn’t just to get data—it was to get insight. All of those activities—talking to customers, A/B testing, etc. needed to fit into his business model—how his company will find a repeatable and scalable business model and ultimately make money. And this is the step he had missed.
The pursuit of customer understanding
Part of Customer Development is understanding which customers make sense for your business. The goal of listening to customers is not please every one of them. It’s to figure out which customer segment serve your needs—both short and long term. And giving your product away, as he was discovering, is often a going-out-of-business strategy.
The work he had done acquiring and activating customers was just one part of the entire business model.
As we started the long climb back, I suggested his fix might be simpler than he thinks: He needed to start thinking about what a repeatable and scalable business model would look like.
Acquiring users and then making money by finding payers assumes a multi-sided market (users/payers). But a freemium model assumes a single-sided market—one where the users became the payers.
He needed to think through his revenue model (the strategy his company uses to generate cash from each customer segment). And how was he going to use pricing to achieve that revenue model? Freemium is just one of many tactics. Single- or multi-sided market? And which customers did he want to help him get there?
My guess is that he is going to end up firing a bunch of his customers—and that is OK.
For more lessons learned, check out my new book: The Startup Owners Manual