Context & core. Geoffrey Moore at Business of Software. Video & transcript.

Geoffrey Moore at Business of Software 2009.

What is context, what is core?

“I have to say if I have, to be in a business during this economy, I would want to be in a software business. A service led software business. Because it’s the most flexible. It’s the most, it can run to value faster than anything else on the planet.”

Business of Software 2011, Boston, MA, October 24-26^th2011http://businessofsoftware.org For people growing sustainable, profitable, software businesses.

If you book by 1st October and use the code, BoSSep, you will save $350 on the full ticket price.

Geoffrey Moore: Ok, well this is a particularly challenging time to be doing your own business. Probably the in the worst economy. Certainly in my lifetime. But I have to say if I have, to be in a business during this economy, I would want to be in a software business. A service led software business. Because it’s the most flexible. It’s the most, it can run to value faster than anything else on the planet.

In a tough economy, you must run to value, so let me just get a sense before I start of kind of the audience here. How many people here are not actually in software companies, but provide services to suffer companies? You see, this is mostly software folks. Okay, good. How many of you are consumer oriented software companies, as opposed to business-to-business software companies? Okay, again, very sparse. So this is a B to B software developer conference. Just as advertised.

Good. Because that’s what this talk is about. I just wanted to make sure that we were on the same page, okay.

So there’s two pieces, I want to talk to you about. And I’m going to type this thing with kind of what I think is going on in the industry right now as we go along.

But the first thing is, as a small company, you depend on innovation and our models of innovation, our conceptual models, particularly for managing information aren’t very good.We’re pretty good as a society, particularly US society, about the process of the innovation about the pace of innovation about how do you recognize it.

We’re not very good at the economics of innovation. So I want to just set a framework that we’ve been using the last four or five years thats been particularly helpful to managers that are making tough resource allocation decisions against innovation in general. In particular, I want to talk about this issue of one of the functions of innovation is to achieve competitive separation. That’s always important, but in a downturn, it’s a matter of life and death, so I really want to set that bit pretty hard. Salome, sir. This understanding innovation thing. When we talk about innovation, there’s always someone that says you cannot dictate innovation, they cannot be driven from the top-down. It has to bubble up from the bottom. And that is true. But the problem is if that is all that you do. If all you do is let 100 flowers bloom. You create what we call the vector math problem, which is huge. Innovate like crazy. It doesn’t add up to much because everybody has a different director of innovation that goes in a different direction. You do not get competitive separation because the sum total is not very hard to match. Differentiation is not very sustainable and you get lots of activity, but not much to show for it.

So you cannot just say I’ll set a culture of innovation will be fine. You’ve got to get those factors aligned against a major vector. They can create real separation.

So when we talk about innovation. there are one of three goals that you should have, and I believe these are mutually exclusive, so any innovation project that you do should have one of these three goals and I’m going to kind of hockey throughout each one works. I think they’re all valid, but you should not try to combine any two of them.

So differentiation is the first one, and it’s the most important one. When in doubt, look different. Remember, in a competitive set. As long as you remember that set your duking it out for every single sale that you get. You want to get outside the set by amplifying a specific sector of innovation. That’s why those vectors have to line up, to something that will get you out of the circle. What that means is, those competitors either cannot or will not copy what you just did. So when you do that you get unbelievable bargaining power, assuming you’ve done it for something customers want, but when customers wanted, and you’re the only one that has it. That’s a very, very good situation to be in and realistically. Every company and startup should be able to achieve that for some target market. Because focus works and if you focus intensely enough and consistently enough, you will do something that your competitor, either cannot or will not do.

In large markets. It happens occasionally and is spectacular. So nobody could match Google, Google cannot own search that we could match Apple Apple see if Google to match Apple with its roaring thing that’s coming up this week, but so far no one’s comes close right? So enormous bargaining power.

What happens if you don’t get this? The interesting thing is, it’s not. Innovate or die. It’s innovate or starve. Right? It’s innovate or just get in line and discount your way to some sort of deal for some amount of money because were hungry. So the importance of getting of focusing on differentiation is really high.

We call that vector of differentiation core and have a very specific definition here, so core are the processes, or the projects, or the features, or the services, or whatever else that you do that enable and amplify your chosen factor of competitive differentiation. The thing that makes separate from the others. That in itself is kind of an interesting word. But what’s really interesting is that means that anything that is not core is context. What you discover as you running a business over time. Most of what you do is context, not core, and the most frustrating thing in your life is that the context gets in the way of the core that your context. Duties get more and more and more and more, but their mission-critical and their urgent, so you can’t just blow them off, so you do them, but you say, “God , I’m not getting to the core.” The whole point. The thing that so much fun of having a company of one or two is that you actually spend quite a lot of time of core, but as you start having success. Ironically, more and more the business becomes things that are not the differentiating part of the business, but become context.

They need attention, and if you don’t establish a really strong core context discipline. If you don’t get up in the morning and say, core before context, you’ll come to the end of the day and find out that your e-mail trail beat you to death.

Once again, you’ve got trapped in the context monster and you didn’t get any or done today and all the same thing with budgeting. When people budget year after year, they tend to budget for context before court, particularly it before large companies. One of the nice things about being in a small company, you can overwrite that just intuitively, the larger the company, the harder that is to do.

Core context discussion is worth having with your colleagues. Luckily, his core? Not what’s mission-critical. What’s core? What really makes us different. That’s the key question. That score. That’s differentiation, core differentiation.

Two other reasons to innovate.

The second one is called neutralization. What happens with neutralization is that the market moves, but you didn’t. Whoops, right? All of a sudden now your offer is not meeting some minimum specification that the market is expecting from you. So you’ve got to get back inside the circle, but this is context, not core. You’re not being different. Here you’re trying to be the same, right? You’re now every cell phone in the world trying to be able to do this. [Sliding motion with hand] something is going to happen other than 80 going forward, right? Now can they have an App Store probably not. But can they have something that looks like an App Store, sure Libby is good? No.

Will it be good enough. That’s the question. This is all about being good enough. Not being better than the other guy you’re regaining market viability to get back into the competitive set. You’ve dropped out. You need to get back in. Rejoining is mission-critical as failure means exclusion from future purchase decisions.

Now the big enterprise software companies are struggling like mad to get software as a service as a viable distribution mechanism. They’ve all declared that they had. Microsoft always claims they’ve had it for at least a decade. It just sucks right? Salesforce.com really set them back. NetSuite’s in that same genre. So again, the game here it is. You’re not going to outperform the person who moved the yellow circle. You just need to get back at the point about this exercise is differentiation is how you make money neutralization is how you stay in the game. There is a world of difference between to the amount of resource that is worth to put into these two because of the way that you get paid back. You cannot put too much money into differentiation. I guess at some point you could, but I rarely see that as a problem among clients.

I’m much more often see that they don’t look quite enough insulin almost get outside the circle, but then they fall back inside, but I see a lot of times when they put too much money into neutralization, because once you’re good enough, that’s good enough.

Between good enough and beyond good. There is a massive amount of investment that you can make and you will not get paid for it.

So the amount that it takes to get back in, you get paid for that. The amount of it takes to get outside, you get paid for that, but between Good enough and almost outside the circle you can spend a fortune and not get paid, because here you’re in the competitive set. The customer says, I love what you did, but by the way, this other guy said this other guy did some things that are not exactly the same, but they’re mostly the same. So whoever whichever one of you can do the best price you get my business.

In fact, the worst thing you can do is to take your innovation budget and get just to the edge of the yellow circle that stone is normally defined as best in class and best in class is a sucker’s bet, because everybody applauds you, but nobody pays you.

So it’s really important to have a very strict sense of them. I’m utilizing or am differentiating and not getting caught in between.

The third place, you have to innovate, has to do with this thing about dealing with Darwin, free-market economies are competitive, free market economies, create price to relation, so competitors can enter and you’re sitting outside the yellow circle, not from the point of view of a feature point of view, but from a cost point of view. Your cost envelope is wrong now. The good news is that the cost of goods of software has not changed in my lifetime. It is zero, it is remains zero. God bless it. Well, you got a license. A few things, but at the margins, zero, but your cost of marketing, your cost of support are not zero. That’s the cost of getting back inside of the thing. Productivity gains are critical to keeping to the market, you must be able to do that in context. Failure to do that means you actually keep your topline. Whatever it was, but you don’t have any, the story at the bottom line is really, really grip you stop paying yourself a full salary. Not a pretty picture. So you must… And this takes innovation.

We don’t normally believe optimization as innovation. Baloney! Optimization requires you to think differently and act differently in interesting ways, and as a small company in even more interesting ways, because at least large companies have a bunch of optimization levers without a lot of innovation, but small companies don’t. So it takes real innovation. So when you look at this return on innovation. I just want you to think I want you to actually use this diagram and have a dialogue with your colleagues about differentiation.

That’s the number one goal. If are not doing that if we don’t get outside the yellow circle. It doesn’t work. That score, so having this discussion about what really is core in our company. You’ll be surprised. I would be shocked if you guys were really aligned on that without having a series of very deep discussions on that. Everybody and their heart has a dream, but part of the way that we get along with each other as we don’t completely share our dreams at each other partially just to protect weak egos, but partially because we don’t think that you’re going to agree and I want to keep my dream.

So if you’re going to run a company that is going to set itself apart from the herd. It’s really, really important that you align with your colleagues around what does that look like. What does that look like. Neutralization. We’ve got to get back in, but this is context. So the danger here is in juniors who work for you are red, blue, colorblind. Once you give them an assignment they cannot tell the difference between red and blue in this chart. They are going to beat. They are going to the best feature that’s ever been done because I’m an engineer with your question. So it’s economically not the right idea. So you have to frame. The good thing is fun about working with engineers is they intuitively understand systems thinking and by the way, most other people don’t. So what’s really fun about it is you must frame the system with a model.

The purpose of a neutralization innovation is to get the maximum output from the minimum input and be good enough. Good enough, it turns out to be a somewhat intriguing concept to try to measure and to try to get a sense of. It’s a little bit like those games where it’s a shuffleboard game where you want to get the template. If you go too far, you’re back in the 07 the tough game to play. If you frame it that way, instead of framing it at your smarter than 450 engineers at Microsoft with your question. If you say no that’s not the object to be 450 engineers are Microsoft, it’s to make their work essentially not that important. That’s the goal.

And then there’s this optimization goal, which is also context. And optimization in a small company requires in a large company optimization is all about stupid stuff. Right? Stupid stuff builds up over time in a large company and the larger it is, the more it gets locked in a processing procedure and how we do things round here and there’s always just a boatload of stupid stuff at large companies, which is largely why you’re not in one and why you’re in this room.

For all the things that are very difficult to do in your company, there’s probably less stupid stuff in your company, then in any Fortune 500 company.

While I know there is than any Fortune 500 company and you’re happier because of that. You’re scared to death. Periodically, but you’re happier than he would be in a big, dumb company somewhere in the belly of the whale wandering around trying to be some digestive enzymes for purposes of some larger thing. [Audience laughs] Whatever.

So when you optimize in your world, you’ve got to optimize around this notion of what parts of the value chain can I transfer from my organization to another organization. Maybe the customer’s organization. Maybe a partner organization can I use Amazon EC2 type stuff is there some sort of, can I use genius.com or sales 2.0 things can I use social networking for customer support, so I can have fewer customers were people because it turns out actually customers are better at dealing with customers for many things for the dumb stuff. For the smart stuff. It’s got to be you, but for the dumb stuff. It doesn’t infect your actually, that at the dumb stuff, so you give the dumb people. Customers are actually smarter than every actually give the dumb stuff to. Social CRM, you’ve got to be really creative about how you optimize in your company, and again, the point is, if you’re not doing those three things, why are we doing? There’s two other things that can happen when you innovate the other thing is, you could just fail and in fact, if you don’t ever failure probably not innovating enough. It’s easy enough to understand that you fail frequently got might be trying to give you a message that you might be better off in another career something like that. The world does that to you periodically. But failed attempts are kind of part of the deal.

What should drive you nuts, particularly in a down economy, particularly in the small company iswaste, waste has a lot of sources around innovation, the chair of the three that I think are the most pernicious and I’ve already mention all three.

One differentiation projects that don’t go far enough. Just shoot me. Just consider, for example, the American automobile industry for say the last 40 years. When did they go far enough, maybe five times. Maybe five, but for 800 cars per 10,000 or however many different cars. They made who cared? Can you really call to mind a picture of the Buick? Or a Pontiac? Or an Oldsmobile? No you can’t. It’s impossible. Even the designers can’t remember. Differentiation projects that don’t go far enough. Why did he not go far enough because somebody thought it was too risky because at some point we went maybe we should just pull our hearts and a little bit. Our fin is as tall as two people made who should bring it down. All give you an example. It’s really painful.

This is painful to the folks at Motorola, two years before Apple announces the iPhone Motorola knows it’s happening worse. Motorola has all of the technology to build iPhone in-house at the time. Now the software is about creaky, or whatever, but they had all a haptic stuff they had that and they could not do it could not get it done. It would be going too far. It would be going too far. So the one of the wonderful things about being in a small company is enough who’s the arbiter of too far question mark you. That would be you. So maybe you have to influence a couple more people, but not 20, not 50. Not a Board of Directors that supply chain, you know? Not carriers like AT&T and Verizon. Just you and the customer.

The thing that’s reckless about Apple and the reason that Apple makes these things happen. This is never been Apple’s problem is because, at the margins, Steve makes the call. Steve is very good at going far enough, leaving out something you can’t possibly leave out – a DVD drive, or whatever the latest thing is that you think be in there that he didn’t put in there.

Second thing is neutralization projects that go too far. That’s actually a management problem, and it’s your fault because he didn’t frame the problem correctly, you frame it as well. These guys have gotten ahead of us with a ketchup. No you don’t. These guys have gotten ahead of us, and you’ve got to get good enough. That’s certainly not catching up and doesn’t imply that we want to get ahead. We do not want to get ahead of them. If we got ahead of them, That meant we spent more resources than we need to, and I’d rather spend that resource on core, not on bragging rights over context. So, really important to get that right.

The third thing online innovation. We are so innovative writer. Everyone is doing something really innovative. It’s really cool, but none of it really likes of then amplifies innovation to be powerful has to get amplified. Which means you’ve got to do other things as you go along to make it even harder and harder to copy. The goal is to do things that your competitors either cannot or will not do you have to get pretty far outside the yellow circle for that to happen. That’s this competitive separation goal. This is what, to me the other stuff is really important. But this issue of getting competitive separation. It’s just got to obsess you day and night, kind of forever. Sorry but that’s kind of where it’s at. When you get it in people and be it. And they come after you.

So, Google has phenomenal competitive separation with search advertising, 70 or 80% market share, it’s game over right? Game over the way say IBM controls the computer industry. In the end. Well I guess that game is actually over. Game Over the way, Sun is the dot in .com right? Whoops! I guess Sun isn’t around either. There is never a game over ever a game over.

In fact, the games last much less long than you would wish.

So it’s not just achieving competitive separation once it’s been doing it consistently in investing that keeps you ahead of the game and the next generation of competition with the iPhone is not going to be the device that keeps Apple outside the circle. It’s going to the App Store and it will be the relationships going forward. But then those will get copied and you have to go to the next place, and the next place. Dell state ahead of the PC industry for 10 years on process innovation. But now he got caught. Right? So don’t underestimate what this is requiring. So when you think, but this challenge of differentiation. It plays out differently depending on where you are in the lifecycle of the software that you’re building.

Joel was suggesting that I not talk about all my books, but the good thing is that they’re all on one side, all five right here.

One slide inward, up. Very cheap.

What this model says is that the left-hand side, there’s something called the technology adoption lifecycle, that was one of the two. So in book 1, we talked about, and Jewell referred to them. We called them the early market the early adopters. They’re people like you. They understand you are technically interested, drop sucks. They’re interested in experimenting in finding out what possible and it’s very exciting They don’t make much of a sustainable market.

Third, then there’s the thing that we call the chasm which is a space that separates it from the mainstream market, which is the rest of that gray stuff, and early on that. On the other side of that chasm. There’s an area of niche markets called the bowling alley, where you can win a market dominance in a niche and become available company, you can become one that customers wanted to see in business next year and in your after, and the year after. When you win a niche market, you become very, very persistent as a company. Even companies that don’t go beyond the first niche are in existence, 10 or 15 or 20 years later, because that one niche, by the way, if you think about advertising and graphic artists. That’s what kept Apple around at a time when, frankly, they had a 3% market share, and it was an impossible position for it to be in, but it kept them in the game long enough that they could reinvent the game around a consumer business. This bowling alley in our isn’t streaming important partner to come back to that in a minute.

Then there’s this thing that we called a tornado that’s when all of a sudden the market does go horizontal and everyone wants him. Everybody needs a 3G phone. Everyone needs to Twitter or be on Facebook, or to have websites, or to have social networking, CRM, or whatever the heck it is. All of a sudden were all in and it’s a great time to be in that category. At that time because everybody in that category gets a big pop in their business.

It’s very exciting adventure capital. If you think about it. How me people here have never taken money from a venture capitalist? You look like sound people you’re right, there’s only about five of you good. Good. [Audience laughs] The point about when you take money from a venture capitalist, they bought an option on a future tornado that’s why they give you the money. The only way you make money in venture capital is if the companies you invest in go into the tornado you make a gazillion dollars, only if you pick the winner in the tornado market. It’s a little bit, it’s a whole lot of a crapshoot. That’s why they call it venture capital tornadoes.

Then the market goes on Main Street. And when it goes on the main street. It just means that people are buying their second or third, third, or their fourth and there are no longer things say hey I have a phone and it does need a wire. It’s like yeah Jeff, I’ve got it. But the market is still growing. So this is a very cool time. So if you ever do decide to leave her company and join a large company, be sure to join it as a manager when they’re in the Main Street phase because then you can say things like yeah I took Oracle from 100 million to 1 billion. “Yeah, that was on my watch.”

Well, fine. If you just stood there, it was going to go from 100 million to 1 billion right? [Audience laughs]

So, on the other hand, if you do, be careful of this phase. This is actually been the big challenge of this decade for enterprise software and systems. We have become a mature industry, it doesn’t mean we don’t have new stuff at the front of this, which will talk about the minute. But if you look at center of gravity of our industry. It is moved from the front half of this curve to the middle there’s a couple of trillion dollars of sunk costs here and the world can saying I’m not just going to replace it. Because of the next Intel chip or the next exercise operating system. Which we did do for quite a while for the most of the 90’s. We essentially swapped out our infrastructure over and over in the 60s and 70s. They were mainframes in the 80s they were many computers and workstations. Then we went to PCs and claim servers. Then we went to internet-enabled then we had the.com bust and when we came out of that. It was like stop. Just stop. When not doing this again. So all of a sudden I were working in a very different world which is a lot more like an industrial world than a Moore’s Law driven magical flying kites, world. But we’ll talk about that in a minute. Then there’s declined and our friends at Sun got acquired by Oracle because they were in a declining market. Our friends at Kodak discovered the falling line. A Kodak moment. Ack! You know? My entire life. I made money from film our friends at AT&T long-distance long-distance. That’s time and distance on the Internet except the Internet is not sensitive to either time or distance.Oops billing models a little bit off. Skype? Ack! So the thing is fault lines in complete and total obsolescence. So what’s important about this model is to ask yourself where are we as a category, not as a company, as you may be late or early, where is the category in this lifecycle. Because the category rewards different kinds of performance at different points and the easy way to get this.

I think, is to think about the three kind of classic reasons people choose one product over another. Because, as got better price performance, because it’s got cooler because I like it better because the person or the company is selling it to me, is one I prefer to other people or other companies, or if it’s a company to company. It’s usually called a brand preference. If it’s a person-to-person, it’s usually a relationship presence.

Most of you have relationship power with a set of customers that you know or I’m a volume buyer. I don’t really care about the offer that much. I just want to get the most value. Which is often the lowest cost. If you look at those buyers over the life of this category maturity lifecycle at the beginning. It’s really dominated by performance buyers. The offer is not yet gotten the scale, frankly, to be attractive to a value buyer. It’s liable to require actually a lot of investment to work and not stored value buyers like they wanted just to work like a refrigerator. You open it up, you get a beer. What’s your question. Great product, right? That’s not here. There’s also early. Should buyer and often those relationships are with people whom they’ve known from other technical experiences. They like to die from you. They buy from you. You’re their trusted advisor. So you can get relationship matters. Performance is really the key thing in the beginning. Again, this wonderful growth thing where things grow.

Still performance is still your best play. Now will be more price-performance than just pure performance. It’s I’m getting better and better and better deals. This is really cool. My flat-panel screen is getting bigger and bigger, and the price is going lower and lower, but I want to buy the best one that’s with the guys are saying the Red guys are saying no, I want to have a Sony. I don’t know whether Sony is the best one, or not, but I trust Sony or Panasonic or whomever this, or I want to buy it from Harry at Good Guys because Harry and Good Guys. Fry’s has always sold me the good stuff and I trust Harry. If Harry points me to something else. I’ll buy whatever Harry pointed me to.

The value guys are coming in because there is this business of for hitting new price points. We’ve got it under $1000. We’ve got it under a $800. Whatever the value persons click in comes at, they’re coming into the market. Yyou get to the middle of the market and now value buying is the play, so if you’re going to play in the middle marketing, and you’re not playing a value game, then you have to be very very careful to pick your spots because the market as a whole is going to a position of good enough is good enough. So don’t keep on asking me for more money. The whole maintenance discussion between companies and enterprise software licensing is all about, you know, guys, this 18%, 20% maintenance charge that you’re charging me. I don’t get it. I don’t think I’m getting that kind of value. Particularly in a recession. So all of a sudden your business model. If you’re not careful whatever your business model is can get set back in a mature market, so one of the things you have to be thinking about is, do I need to do some business model innovation, customer Look at what’s happening to Microsoft or Autodesk or any of the big C into it and always guys. They’ve got to find a way to revise their business model and make it more online oriented because people don’t want to just keep on selling these things over and over again and bring in yet another license, and by the way, if I pay off the person I still have to pay for the license. Blah blah blah.

Performance is not much less relationship is actually bigger because in the merger market. The other thing that people do they pay a premium is. I just want you to make this go away. Whatever you tell me to do. Don’t judge me. But I’ll pay you some premium because I don’t think about this is context for me. Not core. It’s your core not mine. Take care of it. I trust you, Lets go. But then as you get further and further back . That gets harder and harder to sustain because, frankly, well, I’m sorry, it’s just a label I mean you give me great service, but really it’s just a label so we can change it ourselves at that point.

So the question here is what game are you playing, and when you look at that from the point of view of work that was done in the early 90s by some guys name Mike Treese and Fred Wursima. A book called the Value Disciplines Of Market Leaders. What they said was companies who get outside the circle usually get outside and one of these three areas, and they map to the three areas we just looked at the product leadership. If you think of yourself as a product leadership company you’re going after performance buyers, you better ask yourselves how many performance buyers are there in my market yourself in the customer in and see this on you matter be going after relationship buyers, how many relationship buyers are there in my market.

Where are we in the lifecycle? If I’m a value player. Same thing. Value player should not play earlier in the lifecycle. Performance player should not play late in the lifecycle relationship plays you can play all along. But you’ve always can be very careful with the relationship play because, at the margin. You’re just one relationship, changeable way for being compared to a value guy. If your customer that trusts you, leaves and a new person comes in, it’s very, very difficult. With this in mind, which sodas are sweet spot. This was our approach to innovation coming into this decade we were working with this and what we realized was particularly with larger companies, it’s even, maybe more true with smaller companies. Not a bad idea, but not granular enough . So this book Dealing with Darwin is about how can we make the system more granular so we can get more precise about that factor that’s going to take us outside the circle so product leadership zones ended up saying well I’m kind of going north-ish, but am I going North, Northeast, Northwest, what am I doing? Where am I going?

So we did a kind of survey of companies that we thought had been very successful at one point or another in the history getting outside the circle in a sustainable way. Not for the system, but he stays outside forever but for a good long run.

Here some examples.

Our friends, at Google really have totally disrupted the advertising industry in the digital medium world. As a result, they have a whole new category, as they jumped on top of it and writing that sucker and it’s created enormous wealth.

Solution innovation. That’s where you pick a particular vertical or particular class or consumer or whoever you’re going after any double down until people go. I’m tired of fighting these guys. They invest everything they can in this case, Inc. architects, engineers, construction people give them all the contractors, I’m going somewhere else. That’s called solution innovation. Product innovation, we just do it better. It’s more fun cooler. It’s faster what ever product innovation Platform innovation, we can take all whole lot of legacy stuff technology, and we can put one layer over the whole thing and then the next generation of innovation can be built on top of us and we will take just a boatload context of the system.

Oracle, did it with relational databases. Microsoft did it with the client and client server. This is what allowed this to platforms like the client/server platform to proliferate the TC IP platform in that. The Internet, etc., etc.

Performance product leadership performance. These are good for growth markets. They are not good for mature markets performance because there’s not enough performance buyers in mature markets, customer intimacy and extension is the beginning of saying I’m going to make a standard product fit for a particular class of application, and I’m going to do it kind of mass customized way that I can reach out. It’s frankly easy to see this in a consumer, I try to make sure all the examples here were for business-to-business. For a consumer to think like Barbie or American girl. Anyone here have a daughter that buys American girl dolls? Two, three, four. Okay, this is not an America Girl crowd, I must confess. [Audience laughs]

This is a doll where they read the book, they get that all the White House. They have to get the furniture. You could spend about $1000 per American girl. You could actually mortgage her house in order to keep your daughter in American girl. It was a line extension play and it keeps working. Line extensions work. Like with HP printing. They did the laser. The inkjet. The is a very is a unit is is is is is is is is. Portable printer, fax ,inkjet, printer, The copier, and the all the all-in-one, etc. etc.

Design innovation. The field here from Don Norman later today. We can talk a lot of things I don’t even know he’s in a talk about that. He wrote a wonderful book called the Design of Everyday Things. This whole issue about design innovation can fundamentally set and otherwise commoditized offer completely apart from the rest. Very exciting.

Marketing innovation, you know, we think about more the glitzy consumer marketing, but IBM’s competitors always like to say it stands for inferior, but marketable. The point about that was the envy in that phrase was marketable because IBM would lock up relationships with these huge enterprises through a series of marketing activities that would just kind of semi-exclusive, and everyone else was on the outside looking in. They maintained it through very, very tough times in the 90s and continues to sustain it today.

Experiential innovation just creating an experience like while I never knew that my sixth grade body is now a hang glider in Santa Cruz or whatever. Facebook has kind of change the experience. I always thought I wanted to get my e-mail from an e-mail product. I always thought that if I got e-mail, I wanted to answer it. The answers. Those are no, no I don’t. It’s kind of curious to see what they’re doing. I’m not going to get back in touch with that person. In fact, if I got in touch with that person. I would just drink but it’s kind of funny to see what he’s doing.

Value engineering, TSME that’s the Taiwan semiconductor Manufacturing Corporation fundamentally change the semiconductor industry.

Integration innovation, these are all great for value. So the first one is just take the costs of the immediate system integration innovation is kind of platform play. I will pull evident together, so I’ll take total cost of ownership lay down.

Process innovation is I’m going to work across the value chain and business model is for actually spending the wrong money in the wrong place and the wrong way. So you have Mark Benioff with no software. That might make some of you here little nervous, but he’s not attacking you, and you’re probably more of an ally to him than a competitor. But the point about this exercise is lots of circles.

So the first thing that you say is, well, okay, I can’t really say “I don’t have many choices to get outside yellow circle.”

You do have large choices.

The choice would be, which one would you bet on the interesting thing about this particular conference is for 90% of you. There is one and only one of these 12 circles make sense. I do about the other 10%, but 90% of you. My claim is that the only circle it make sense. [Slide highlights solution innovations]

Because what it allows you to do to target a set of customers that is as big as you can handle, who have a problem which, is as unique which you needed to be. So that you can be their one and only. That’s the game, and that’s the game.

This form of innovation takes companies from zero million to 10 million from 10 million with multiple target markets to 100 million. You can actually get it with some horizontallation to about 300 million.

After about 300 million. It’s hard. It’s very hard. So you would probably have to figure out at that point is anyone like in danger of having a $300 million year this year? Okay. I’m going to stay with solution anyway. My company, same thing, by the way, are my customers being pikers? I don’t know what it is. There are six of us, so 300 million, that would be what 50 million a person? That would be good.

So the solution innovation, what’s this all about? The first thing solution innovation is about is picking solution innovation is all about being a big fish in a small pond. So this issue of fish to pond ratio is something you want to think about very, very carefully, because you do not want to be a minnow in the notion you’re in order to that point, you want to be the biggest thing in your pond. So how do you do that? We have these three criteria are big enough to matter. Small enough to lead and a good fit with our crown jewels. You can can see the details on that. This is a great exercise to take you and your stakeholders through because what you want… Whenever someone picks a target market. Somebody else says “Oh no, I had this other market in mind.” Or, “Oh, gosh, it’s too small and were putting all our eggs in one basket?”, Or “I don’t know. What, are you sure ? have you done enough research?” There is a bazillion reasons not to commit, right?

The issue is not committing is more dangerous than commitment. So even picking the wrong target market is safer than taking no target for spreading your pets across two or more markets at a time where you don’t have enough resource to become number one in any of them. You’ve now spread your bets to thin. So the game you want to play, is I’m going to pick one place where I’m going to be no excuses. We are going to dominate their and then everything else is context from the point of view of a market.

This is core. Everything else is context.

By the way, you’ll discover most of the revenue doesn’t come from your core market, that’s okay. It’s all right. It’s called a purchase order, you’ve got to bus people in. In terms of building power, building reference base, becoming the go to company in that niche. A sale inside your target market is worth much more to your company, then the exact same number of dollars purchased outside your target market. Because it amplifies your factor of innovation.

It reinforces your power base in your target market. So that’s what the stuff is about here. I want to encourage you to use this as a tool, as you kind of engaging with your folks. Then, this strategy thumbnail, you have to fill out with your colleagues to specify what exactly is our solution innovation target market strategy, and it goes like this.

We are in the bowling alley, remember that model where we had the bowling alley? This is a niche market. We are not after enthusiasts and visionaries. We want people who are practiced, the reason why I can kiss at the end of the day.

Choose the product that their other activists chose. They don’t actually like to evaluate the product themselves because they feel like they’re going to make a mistake. So they kind of wait. They say, “what did you get? What did you get?” Oh, okay. So you got an iPhone, iPhone, iPhone, iPhone. So I must need to get an iPhone, right? Okay, good. And they get an iPhone too. Oh, you did go, you got a jury, Droid, Droid, Droid. Oh shit, it’s a Droid. IPhone, Droid, iPhone, Droid, iPhone Droid. I’m going to wait.

Pragmatists do with other pragmatists do, which is why if you stay and finish, and you get enough practice in the niche all the other pragmatists will do what you want. That’s the kind customer you’re going after. So they’re pragmatic. They listen to their friends. They don’t get all excited about your features. What did they talk about? They talk about the compelling reason to buy anything pragmatic people are not like thinking, “Gosh, I wonder if I could get get up this morning and buy some software. Yes, that’s what I want to do.” No! So, the reason they do it is “I can’t live another day with this problem, It’s writing me nuts. There must be an answer to it. And if you tell me it’s software, I’ll scratch up my face and say, Okay well what software.”

So the pragmatists fix things visionaries do things either for fun or for adventure or for competitive advantage. This don’t do that activists say, “If I want to have fun. I will wait for the weekend. I’m at work. I just need to fix things. That’s all he do is I just fix things. I have a list of things this 20 long and I’m going to get to five. If you’re in the top five. I want to talk to you. Otherwise, I don’t want to talk to you.” So you’ve got to make sure that the problem you fix in that niche is a top five or a top three problem, then you have to solve. Not just you ship a product that really helped no, that doesn’t cut it. You have to solve it end to end. You say,” will end to end means that they have to get an RFID reader, or they have to get a support contract from HP or whatever.” So t’s not literally you that has to solve it. There must be an end-to-end solution that you personally will warrant works.

Which means you have to orchestrate that. You have to make sure that the HP support contract fits the RFID reader, which fits whatever you got. You’ve got to make sure, you’ve got to test it. In another words, instead of just testing the product. You’ve got to test the whole product only in that niche only for that application. Everywhere else, you’re just a product and they’re using your product. It’s their responsibility to get returns. Inside the niche. It’s your response will be to make sure that they get returns. Because you know what happens if they don’t? They don’t send back the product they don’t stiff you. Usually, they usually pay their bill, but they’ll tell their friends,” yeah, I tried it but it doesn’t actually work. It sort of works, but it doesn’t really work.” To pragmatists that is death.

That is,” I will never touch that product ever again.” So you must have create successful experiences a searchable product is about. Which means you have to have partners and allies as few as possible, because partners and allies are inherently unreliable and the need to make money and so that means they got make a piece of the pie. Initially, it’s even more poor that they make money can you make money because if they make money, they’ll stay in the game, and if they stay in the game the whole product work. Eventually you’ll make the money. These things are sold directly now. They made be directly over the web these days as opposed to directly sales 2.0 motion or over the web, sales order to show up directly and meet with you, but they’re sold directly because it requires specialized knowledge of a niche problem and the way you sell is you start with the problem, not with your product.

We have a rule in sales called butchers hands behind your back and turn off your computer. No PowerPoint allowed on the first sales call you must listen, you must diagnose, and you must ask great questions.

What sells the customer is they go, “God, you’re asking all the right questions. How do you know this? ”

The answer is because we do this every day. Right? Okay. Good. “So great, so I can trust you.” Direct sales. Pricing, value-based, nobody in this room can afford anything but a value-based pricing. The problem is, once a category becomes good enough value-based becomes competition based. Once there’s enough ‘good enough’ choices in the market. The reference price is no longer set by the market leader. It set by the commodity and so markets at some point at the beginning of a market they’re priced from the leader down.

So either you get the leader, or you get some discounted version. You either get the iPod or some Zune for like 75% off. At some point, it actually gets priced up from the commodity choice, like a laptop is getting priced out from Acer or up from a book or whatever the heck it is. You just say, “yes, all premium but I’m pricing up.” Nobody in this room can afford to be in that situation, unless you have a really unique price. Normally there cannot be a commodity alternative to have that.

So how do you avoid commodity competition? You stay and work on problems that do not lend themselves to or is otherwise offers. Competition is horizontal competition and you’re different because of your niche market focus, not outside your niche. Outside your niche it’s Mano e Mano and you win some and you lose some and you discount.

Inside the niche you don’t.

And then if you win that niche and you get the 10 or 20 or 30 or $40 million, well that God bless vacation homes are in and this is good. But if you want to go further or if you get acquired by company that wants to go further you go into additional niche markets. When you have enough resources to do that. So creating definitive separation. What does it take?

The first thing, and probably the hardest thing is pick your core unite around court and be just laser focused on what that is. And not just you, because anybody can do it in their head. Do it socially, so that everybody is on that page, or they’re not in the company. At some point going to become that serious.

Drive offer and program investments be on reason. If you’re making a reasonable investment, it’s not enough. Because you know what your competitor can also make a reasonable investment. What they cannot do is make an unreasonable investment. So go way too far.

Furthermore, take every other part of your company and do what we call tilt for core, which is every other function in your company. Try to somehow redesign it like 5° sorting of tilting towards whatever. If it’s solution core make sure that if I was Autodesk make sure that everyone in the company know something about the architectural industry, even if they’re in finance. Even if they’re in HR just go the extra mile to tilt towards core.

Then be absolutely ruthless with context if it ain’t core, then I want to optimize it. If it’s mission-critical. I have to be careful. You can’t just like decimated. But if it’s not core, I want at the margin to take resources out of that function, every single year, or monthly or whatever it is. That means I may try to transfer that tasks a partner may try to transfer to another software. I might try and transfer to the customer base. I may try to assign the task out, but I’ve got to do something. I can’t just let it sit there and accumulate resource requirements.

So, just close on this and will have a few minutes for questions understanding innovation.

I wanted to install this model of return on innovation. This issue of differentiation, utilization. and optimization, pick one.

And this whole issue of core versus context. Nimbleness and agility is your number one contender disadvantages affirm your size. You waste that nimbleness and agility of anything that’s not core. It’s just so expensive and it defeats, and undermines your number one competitive advantage. And achieving competitive separation, so the value discipline kind of give. Yet some and which buyer types to go against performance versus relationship or whatever. And I think for most of us in this room solution. Innovation is the default strategy for B to B companies . It’s just historically been so.

So without first all I want to say thank you very much. It’s been a joy to have you guys this time. I’ve got a red carpet here that says 5:00 Counting down and so I’ll take a couple of questions or three questions or whatever is possible before we go to break.

Yes, back there just shouted out. [Pointing to the back of the audience] [unheard question from the audience] Okay, right. This can happen to anybody. We call that the business model that you are in. We call picking up times in front of a steamroller, it’s free money until a steamroller gets you. You’ve got to stay ahead of the steamroller, you have to. The good news is they signal it, and a given. The larger the company, the less likely they can actually make a bitch response in effect. Okay? But you’ve got to be careful.

Other questions?

Somebody from over here. This isn’t just the only intelligent side of the audience that must be somebody’s crap detector went off. Yes, right there. [unheard question from the audience]

Yeah, okay, fair enough. This chasm thing or tornado thing. How do you know what’s going on? It is growth rate, or that middle part, some 10%, probably even a percent below that’s what characterizes the big middle of the industrial model. Anything over about 12-15%. That’s a net growth. But what’s important for us is that technology adoption lifecycle and the thing that we look for for crossing the chasm is, is there any market. I don’t care how small the niche is where this category of product that we make is a standard purchase that everybody makes? So is there a leader that submerged? In that niche market as you like that to be you. And tell let it happen. There’s too conditioned that happened, and you’ll know by the way, as a vendor, because all of a sudden you’ll get incoming marketing calls, or as before, you were only getting responses to outgoing marketing calls. All of a sudden, people start calling you because they say I understand. I know I’m supposed to get the stuff. Okay, so that’s how you know .that the tornado thing is what starts happening there is all of a sudden a product comes into the market and is identified as a killer app, and for whatever reason, it just takes off. It is the one at the right time in the right place and all of a sudden, Facebook has 300 million users. Facebook still hasn’t crossed the monetization chasm, but it has crossed the tornado going forward.

Maybe one more question. If there’s one, and I’m going to turn the podium back over ok go ahead Yes, please. [unheard question from the audience]

End-to-end solution, but you’re a 1.0. I still believe in the philosophy that we champion in the 90s go ugly early you want to get into the market quickly. So what you do is you get in the market with a project, not a product. So get a customer as soon as possible, that would not be too soon, but if it’s now it’s like you’re going to help us codesign this product together. And that’s what’s cool about B to B software. If you can typically find that. Then, as if he falls from project to solution you’re trying to design out as much of the service component and go from custom to customize and maybe eventually to configure. That’s sort of the place you go. But people would pay a lot of money for a project, so if you’re a small enough company, you can actually make that this this model work for you. Going forward, as opposed putting up a bare naked product that is actually wearing a hospital gown. So as long as its stanging this way were okay. [he stands facing forward] One of those. [audience laughs]

Okay, I’m going to turn it back over to Neil. Take care. Thanks, Neil. Thank you. [Audience claps]

Business of Software 2011, Boston, MA, October 24-26^th2011http://businessofsoftware.org For people growing sustainable, profitable, software businesses. If you book by 1st October and use the code, BoSSep, you will save $350 on the full ticket price.