Dear Startup Investor,
Buck Jordan here to tell you that competition shouldn’t always scare you. In fact, looking at the competition is actually one of the most powerful ways to understand if a startup is onto something and if you should invest.
Now, don’t get me wrong, sometimes when your competition is Amazon or Google – you should be worried! But that doesn’t happen that often. So why should studying the competition be an important step in your investing process and what can it teach you?
Let’s dig in.
Does This Really Matter?
The beauty of startups is that they almost always create products that are new or novel in important ways. However, not every new and novel product is something that people actually want – or what most people call product-market fit.
When a startup has a lot of competition, that’s a sign that the problem they are all trying to solve really matters to people and customers. If 5 different startup teams all have the same idea for a product at about the same time, that is a sign that the problem they are trying to solve is painful enough to motivate all 5 of these teams to startup a company.
Having multiple competitors can also indicate that the problem that a startup is trying to solve is acutely painful, so painful that multiple people who probably don’t know each other are trying to solve it.
Having lots of competition is a great shortcut to figuring out if the problem a startup is trying to solve really matters.
Who is the Competition?
The type of competitors a startup has is a treasure trove of information on the market they are in. If a market only has startups in it, then it is a sign that this is probably a completely new market / new product being built from the ground up. Think about cryptocurrency exchanges – every single exchange in the space is a startup and almost all of them are less than a decade old.
Now, there are some markets where a startup’s competitors are only large corporates. What does this potentially tell you? Well, if a startup’s competitors are pretty much only corporates, it is a sign that the category is probably not new but an established market. The good news is that when your competitors are all corporates, it is a sign that there has not been a lot of innovation in that market for a long time (corporates are painfully slow at innovating).
This lack of historical innovation in the market hints at the fact that customers are probably desperate for new, modern tools and solutions. Plus, because corporates are so slow at innovating it is a sign that the startup is unlikely to face intense direct competition and instead will have the breathing room to really innovate.
Now, there are some markets where a startups competitors include other startups as well as corporates. And these markets are the most interesting of them all. If a market is attracting both startups and corporates, it is a sign that it is a very large market with plenty of problems to solve. A market has to be big and rich with opportunity to attract the attention of both corporates and startups. The market for business credit cards is a great example of this.
Startups like Brex and Ramp launched in recent years offering easy-to-use corporate credit cards with a host of benefits. They are competing in a market that includes huge corporates like American Express, JP Morgan, Silicon Valley Bank and numerous others. Both corporates and startups are battling for a share of this market.
The US Credit Card issuing market is a $150 billion dollar market and the corporate card segment of that market is about $14 billion. Those are huge markets, no wonder they have attracted both corporates and startups.
Who are the Customers?
The good news for a startup is that large markets have multiple different types of customers in them. These different “customer segments” have vastly different needs, budgets, cultures, etc. For example, in the restaurant space – where you know I spend a lot of time investing – you have mom-and-pop restaurants, franchises, vertically-integrated brands like Sweetgreen, boutique high-end restaurants and more. Each of these different types of restaurants are a different customer segment with vastly different needs.
In a market with multiple competitors, it’s typical for different competitors to target different customers. So, it is worth spending the time analyzing what type of customers a startup’s competitors are targeting. Are they better customers (bigger budgets, better brands, etc.)? Are they easier customers to acquire? Are they the segment of early adopters in the industry?
Then ask yourself why the startup you are looking at is focusing on the customers they are. Do they have good reasons to do so? Or are they missing out on the best possible customer segment to target in their industry?
Who’s Got the Edge?
As I said in the beginning of this piece – looking at the competition is a rich source of information when evaluating a startup opportunity. It can tell you that a problem really matters, shed light on what kind of competition a startup faces and provide insight on the different types of customers in a market.
The last thing to ask yourself is do any of the competitors have an advantage or edge over the startup you are evaluating? There are lots of different types of edge such as:
- Raising more money
- Producing the same product for cheaper
- Strategic partnerships
- A better business model
- A more recognizable brand
These are just a few of a long list of advantages a business can have over its competition. Do the competitors have an edge? Or does your startup have an edge? For the customers they are targeting, does their edge matter? Is this edge hard to replicate? These are all the questions worth asking yourself.
Like I said, don’t be scared of the competition. Instead, analyze the competition, and use this information to build your investment case for or against investing in a startup.