The Cold Start Problem – by Andrew Chen
Date read: 4/19/22. Recommendation: 8/10.
One of the best summaries of what the often mythical ‘network effect’ actually is. Chen level sets by providing a clear definition and description of how to tell if your product actually has network effects. Then he breaks down how to harness the power of network effects in your business. I found his concept of an atomic network, tips on attracting the hard side, and breakdown of network effects as three underlying forces—the acquisition effect, the engagement effect, and the economic effect—to be particularly useful. Well worth the read for those building networked products.
See my notes below or Amazon for details and reviews.
My Notes:
Definition of Network Effects:
Classic: “A network effect describes what happens when products get more valuable as more people use them.” AC
“A telephone without a connection at the other end of the line is not even a toy or a scientific instrument. It is one of the most useless things in the world. Its value depends on the connection with the other telephone and increases with the number of connections.” Theodore Vail, AT&T President, annual report in 1900
The ‘network’ is defined by people who use the product to interact with each other. The ‘effect’ part of the network effect describes how value increases as more people start using the product.
How do you tell if a product has a network effect?
“First, does the product have a network? Does it connect people with each other, whether for commerce, collaboration, communication, or something else at the core of the experience?” AC
“And second, does the ability to attract new users, or to become stickier, or to monetize, become even stronger as its network grows larger?” AC
“Networked products are fundamentally different from the typical product experience—they facilitate experiences that users have with each other, whereas traditional products emphasize how users interact with the software itself. They grow and succeed by adding more users, which create network effects, whereas traditional products grow by building better features and supporting more use cases.” AC
“The richness and complexity of the experience depends on who’s on the network rather than the feature set.” AC
Cold Start Framework:
The Cold Start Problem
Tipping Point
Escape Velocity
Hitting the Ceiling
The Moat
The Cold Start Problem:
Simplicity: “The most successful network effects-driven apps are also sometimes dead simple. They eschew a long list of features and instead emphasize the interactions among people using the app. Zoom is just such an example.” AC
“When the Cold Start Problem is solved, a product is able to consistently created ‘Magic Moments.’ Users open the product and find a network that is built out, meaning they can generally find whoever and whatever they’re looking for. The network effects kick in, and the market hits its Tipping Point as users start coming to you.” AC
Atomic network:
“Atomic network” = smallest possible network that is stable and can grow on its own.
Atomic network: “The solution to the Cold Start Problem starts by understanding how to add a small group of the right people, at the same time, using the product in the right way. Getting this initial network off the ground is the key, and the key is the ‘atomic network’—the smallest, stable network from which all other networks can be built.”
Slack works with 2 people, but it takes 3 to make it really work. There are long-running 3 person groups that are stable—that’s minimum to be called a customer. Engagement also matters, Slack found that after 2,000 messages, 93% of customers stick around.
Facebook’s growth maxim, “10 friends in 7 days,” is a similar expression.
Airbnb’s equivalent is 300 listings with 100 reviewed listings, to see growth take off in a market.
“How many users does your network need before the product experience becomes good?” AC
Limit your surface area: “In the end, cherry-picking is an enormously powerful move because it exposes the fundamental asymmetry between the David and Goliath dynamic of networks. A new product can decide where to compete, focus on a single point, and build an atomic network—whereas a larger one finds it tough to defend every inch of its product experience.”
The Hard Side:
“There is a minority of users that create disproportionate value and as a result, have disproportionate power.” Much harder to acquire and retain. For app stores = developers. For ride sharing = drivers. For marketplaces = sellers.
Attracting the hard side: Build a product that solves an important need for the hard side and the other side will follow.
Come for the tool, stay for the network:
‘“Come for the tool, stay for the network’ is one of the most famous strategies for launching and scaling networks. Start with a great ‘tool’—a product experience that is useful even for one user as a utility. Then, over time, pivot the users into a series of use cases that tap into a ‘network’—the part where you collaborate, share, communicate or otherwise interact with other users.” AC
“A popular strategy for bootstrapping networks is what I like to call ‘come for the tool, stay for the network.’ The idea is to initially attract users with a single-player tool and then, over time, get them to participate in a network. The tool helps get to initial critical mass. The network creates the long term value for users, and defensibility for the company.” Chris Dixon
Examples: Instagram as photo filter app, transitioning into social network. Google Suite with standalone tools for docs, spreadsheets, presentations with added network features around collaborative editing and comments.
Escape Velocity:
Network effect is actually three distinct underlying forces: “Acquisition effect which lets products tap into the network to drive low-cost, highly efficient user acquisition via viral growth. Engagement effect, which increases interaction between user as networks fill in. Economic effect, which improves monetization levels and conversion rates as the network grows.” AC
Acquisition effect: ability for a product to tap into its network to acquire new customers. Keeps customer acquisition costs low over time (CAC).
Engagement effect: Denser network creates higher stickiness and usage from its users, ‘the more users that join the network, the more useful it gets.’
Economic effect: Ability for a networked product to accelerate its monetization, reduce its costs, and otherwise improve its business model, as its network grows.
Network Effects as a Moat:
“The key to investing is not assessing how much an industry is going to affect society, or how much it will grow, but rather determining the competitive advantage of any given company and, above all, the durability of that advantage. The products or services that have wide, sustainable moats around them are the ones that deliver rewards to investors.” Warren Buffett