Global Crisis/Innovation Blog

Three Stories: Startups an Inch from Failure And a Centimeter from Huge Success

By Shlomo Maital

 It is the nature of  startups to be close to unbelievable success, enjoying meteoric growth, and at the same time at the edge of total failure.  Here are three examples.

1.  Groupon:   Web-ify a humdrum product

    Andrew Mason





Background:   “Groupon (“group coupon”) is a deal-of-the-day website that features discounted gift certificates usable at local or national companies.  Groupon was launched in November 2008,  by now-CEO and Pittsburgh native Andrew Mason.  The idea subsequently gained the attention of his former employer, Eric Lefkofsky, who provided $1 million in “seed money” to develop the idea.  

According to Reuters,   “Groupon Inc raised $700 million after increasing the size of its initial public offering, becoming the largest IPO by a U.S. Internet company since Google Inc raised $1.7 billion in 2004. The global leader in “daily deals” is now valued at almost $13 billion after saying it increased the offering by 5 million shares to 35 million in total and pricing them at $20 each, above an initial range of $16 to $18.”

   Groupon is generating four times as much revenue as Google was, at this stage (three years after its first sale).  It already employs 10,418 people, as many as Google had in its year eight. 

   Groupon is a classic Web business which is both close to utter collapse and close to gigantic jackpot earnings, at the same time.  It has negative working capital, according to Richard Waters, who writes a Technology column for the Financial Times (Nov. 3).  It owes far more to merchants (for the coupons) than it has cash on hand.  It has 143 m. email addresses in its databases, but only one of them in five has ever bought a coupon.  It is growing at 72 per cent a quarter,  but the amount of money it retains per coupon has collapsed, by 5 percentage points, to 37 per cent.  So, either the novelty value of coupons has collapsed, and with it Groupon, or, Groupon is showing it has a solid business by slashing its spending on subscriber acquisitions and is ‘cruising’. 

    Waters perceptively notes Groupon’s (and Mason’s) problem.  Groupon has to do what Jeff Bezos did at Amazon – turn a one-product Internet business into a broader “solutions” business.  Waters says doing this, on the ‘fly’, is like changing tires on a racing car while the car is doing 200 mph on an F1 track.  If he can pull it off, Waters say, Mason will have earned his place among the handful of lasting dotcom winners.

    2.  Dropbox:  Become What You Need

  Drew Houston

    Dropbox is a digital storage service that has surged to 50 million users.  Steve Jobs tried to acquire it – and was turned down flat. 

    Founder Drew Houston  tinkered with an IBM PC Junior at age 5, and was programming at age 14.  He had startups in high school already.  Dropbox is his sixth!  After reading Daniel Goleman’s Emotional Intelligence at MIT, he realized that “smarts aren’t enough”.  He started reading business books.   Houston was once riding a bus to New York. He planned to work during the 4-hour ride from Boston to NYC but forgot his USB memory stick.  Frustrated, he started building technology to synch files over the Web. Four months later, he flew to San Francisco to pitch his startup idea to an incubator.  The incubator head rightly said he had to have a partner. So he found someone named Ferdowsi, who studied computer science at MIT.  With just 6 months to go, Ferdowsi dropped out of school to work on the startup Dropbox with Drew.  They got a $15k grant from the incubator, and went to work, eager to make Dropbox work on EVERY computer, including the closed-system Mac.  Drew spent 20 hours a day trying to reverse-engineer “the guts of the Mac”.  Dropbox solves a need  among people who have multiple devices – PC’s laptops mobiles, etc. – and have multiple files and photos stuck everywhere.  “Devices are getting smatter – your TV, your phone, your car – and that means more data spread around,” says Houston. “You need a fabric that connects all those devices. That’s what we do”.   And it started with something that Drew himself wished he had.  Dropbox has become what Drew himself needed. 

   Like many Web-based businesses, it is an inch from success and a centimeter from failure.   At his final keynote speech Steve Jobs announced iCloud, which does basically what Dropbox does.   Drew’s response:  he fired an email to his staff, “we are one of the fastest-growing companies in the world”, he wrote, and then added a list of other one-time meteors that fell to earth:  MySpace, Netscape, Palm, Yahoo…..

    Drew has solved the “freemium” riddle.  96 % of his users pay nothing.  He has only 70 staffers, mostly engineers, and grosses enormous revenue per employee.  The revenue comes from those 4% who pay.  He offers free 2 gigabytes, plus upgrades to 50 gigs for $10 a month or 100 gigs for $20.  Growth is built in to the business model.  As clients store more and more data, they need more and more space, so even without new clients, Dropbox revenues will grow rapidly.  Dropbox has strong VC backing, including Sequoia, Index Ventures, Greylock, Benchmark, and even Goldman, Sachs.  It’s close to huge success, and perhaps about to fail. 

2.  Largan Precision:  Find a Sweet Spot in the Profit Pool

  Largan’s founders are Largan Group Chair Scott Lin and Largan Precision Chair Tony Chen

Global smartphone sales this year will total 468 million units, and 652 million units in 2012, according to Gartner!  This comprises a huge ‘profit pool’ – and not all the profit is being made by the phone innovators themselves.  A lot of it is made by those who supply key components.  One of those is a little-known quiet company called Largan Precision.  The founders Lin and Chen, bet on camera phone lenses – and invested a fortune to become the leading supplier of this key component.  They designed them for manufacturability, rapid production, because mobile-device makers need just-in-time parts very quickly to ramp up output and meet soaring demand.

    Largan is a Taiwanese company.  It is the 2nd most profitable, out of 1,000, manufacturer in Taiwan.   Largan ha sspent $50 m. in capital yearly.  The two founders are very quiet and manage a low profile.  Why?  They want to avoid upsetting major clients like Apple and they want to keep company secrets from competitors, who are dying to know how they do it.   The mobile-phone lens industry is huge. It will produce 1.7 billion units this year, at an average price of $2 each for smartphones, and $1 each for simpler handsets.  This is why Largan’s bet on smartphones was so wise.  Largan’s lens accuracy is 80 %,  far higher than the industry average of only 50%.  The next challenge for Largan is to generate 3D lenses, easy to fit and easy to make.  Largan likes to say it is very nimble, able to handle rush orders. And in the smartphone business, ALL orders seem to be ‘rush’. 

   A key breakthrough for Largan Optronic was the insight that you could switch from glass lenses to plastic, which is cheaper and far easier to mass produce. It was a gamble, but the investment in plastic lens technology paid off.   It was how Largan differentiated itself from competitors.    Another key to its competitive advantage is its hiring policy. Largan pays more than other Taiwanese employers, and makes sure it pays overtime, rather than demand free extra hours.  It trains its junior staffers intensely, so those who join Largan know they are going to learn a lot.  In return, they must offer intense dedication.  The turnover rate is very low, despite the high-pressure job. 

   Apparently, Apple makes up a third of Largan’s business.  The rest comes from HTC, HP, Lenovo and Nokia.  Each new phone raises the bar for the lenses. 

    Long ago, Microsoft and Intel (the “Wintel” model) found that it was they who could make high gross margins in the PC business by supplying the microprocessors and operating system (DOS and Windows), a business IBM scorned at the time.  Since then many wise entrepreneurs have found a ‘sweet spot’ in the profit pool of a new and growing industry.  If you can make a component for a product that is hot and in demand, you can build a powerful business.  You don’t need to make and design the whole smartphone, for instance, in order to profit from the smartphone industry, as Largan founders Lin and Chen have discovered.

    As an OEM, dependent on the companies to whom it supplies lenses, Largan is always on the knife-edge.  It has to anticipate its clients’ needs, and be ready to meet them when they demand components.  Like most such businesses, Largan is just one product away from failure.  But so far, it has found a key sweet spot in the sweet smartphone industry and has maintained its competitive edge there.  And it has kept out of the limelight, to avoid drawing attention to the fact that major companies like Apple rely heavily on component makers for their innovative success.

 These case studies are based in part on articles in Forbes Asia, Nov. 2011.