What does it take for a business to succeed? When you distil it down to its most simple form, it needs to sustain a competitive advantage long enough to extract profit from a market.
A competitive advantage can come in several forms. Broadly there are two categories of competitive advantage: you can either do something cheaper than your competitors, or you can do it better.
In many markets doing something cheaper is extremely difficult for a new start-up, particularly if the market already has some large and dominant players. Big competitors are able to achieve economies through the scale of operations; the bigger the company, the lower the unit cost. Consider department store retailers who offer to beat their competitors by X percentage. It’s virtually impossible for a new entrant to enter the market and compete in these circumstances. It would normally take a large amount of capital investment for a new entrant to scale up and compete with the existing players. Often this still isn’t a winning strategy because the existing competitors have a lot of the market share, distribution channels.
Instead most start-ups will focus on doing something better. While it’s hard to cut costs to compete with big players, products and services can usually be innovated to be better.
Developing a Competitive Advantage
What do we mean by better? For the most part, better is simply a proxy for ‘different’. Different because ‘better’ means different things to different customers. Take the fashion industry for example: prices are still a factor, but some people are willing to pay a premium on more expensive items because they perceive them to be of a higher quality, or they like the brand, style etc. The product doesn’t even have to be objectively better, just better to the subset of customers they’re trying to appeal to.
Most new start-ups in established industries will be trying to launch a product or service that focusses on this differentiation. The more intense the competition (which is dictated by: quantity of players, size of players and their attitude towards new entrants) the more difficult it will be for a new player to appeal to a subset of the existing market.
Finding a niche in an existing market is essentially dividing the total market into a smaller market with a customer base that has certain preferences that match your offering. The problem with finding a market like this is that you can essentially be limiting yourself to a very small part of the market. Sometimes a niche can exist, but the number of customers in the niche isn’t enough to sustain a business. Research of your proposed niche is critical before you decide to move ahead with any investment.
The key questions you need to ask when starting a new business in an existing industry are:
1.) How intense is the competition in the market I am trying to enter?
2.) What is my niche? How big is it and is it capable of supporting a business?
As you can well determine, entering an existing market is possible, however it comes with constraints depending on the total level of competition already present in the market. How is it then that extraordinary companies are created? The Googles, Apples and Ubers of the world that rise out of obscurity and garages to become monolithic giants and household names?
In the next post, we will explore just how these companies avoided all of the market constraints mentioned above and grew at a phenomenal rate.