What follows are my notes from an afternoon with Rob Ryan at the MIT Sloan School, June 18, 2002. I think regardless of the business you are in, Rob’s methods are a valuable addition to your strategy toolbox.
Rob’s lecture revolved around his “Sunflower” model which he designed to help think about creating new revenue streams. A company must constantly reinvent itself, seeking out new revenue streams. Using the metaphor of the Sunflower, Products and Markets are represented by Petals, Core Technologies by the Center, and Driving Forces as the Stem. [For those who are fond of latin, the Sunflower is also known as Helianthus Annuus.]
For example, in terms of it’s core competency, Honda is a company that makes engines, and each new petal (product or revenue stream) revolves around providing a new way to package and sell their engines. Rob uses the Sunflower Model to show how he reinvented Ascend several times, taking the company through it’s major phases. To find new revenue steam, you have to analyzing the petals.
If you look at the Ascend Sunflower, they started out developing a ISDN-based product. The problem with this is that the telcos never really delivered on the promise of ISDN. They told a great story, but they never really delivered ISDN broadly. Ascend listened to the internal ISDN fanatics, while 98% of the other employees in the major telcos had no idea what it was. Ascend’s initial customers were Lawrence Livermore and Boeing. Given the slow deployment of ISDN, Rob realized that two customers does not make for a very promising market. He had to regenerate the business. He had to go to the VCs and ask them for another opportunity to try again. Good thing they did.
The next phase of their evolution was as an ISDN and video company. They had spoken to Compression Labs, and their video conference CODEC needed more bandwidth. But for the customers who wanted to use video conferencing and needed more bandwidth, the bandwidth was too expensive. At the time they had to lease T1 lines at a tune of $5,000 to $7,000 a month. Ascend could deliver bandwidth by aggregating smaller chunks of bandwidth up to the 340KB required by the Compression Labs video CODEC.
While the telcos said it could not be done [these are the same guys who said packet switching could not be done back in the 60s] John Tyson, Chairman at Compression Labs, “gave Rob a check” for a box not yet built. Now Rob went back to his VCs with a paying customer for something not built, yet. Ascend built an Inverse Multiplexor, and this yielded 16 million in revenue. While they might have had 60% of high speed video dial-up equipment business, that business was not going anywhere fast. With VCs like KP, NEA, Menlo, etc. they has delivered 16M revenue on a 18M investment. Once again, it was time to reinvent the revenue model.
Once again reinvent the revenue model. Their core strength was dial-up and dealing with all kinds of switches and links. They considered all of the applications that could benefit from their dial-up strength. (1) internet; (2) telecommuting; (3) remote access. They had expertise in WAN and dial-up, but not in these areas. So they decided to add Internet as a new petal in the Ascend sunflower.
Learning from Customers
Rob is a big believer in talking with customers. He does not believe in listening to analysts. [This bias is a healthy one. Customers with problems are the most valuable resource for a company to mine. Forget those expensive IDC and Forrester reports. Go to the source. It’s good learning, business development, market research, and relationship building, all in one. Money well spent. Not that customers are going to tell you everything you need to know, but what’s an analyst report going to tell you?]
So they added “Internet” as a result of doing their homework. There were 200 or so ISPs at a time and the three management folks went down the list, divided it up and went and visited every one in the book. The fact that they had this video inverse multiplex product, a core technology and core competency allowed them to talk with the ISPs. By the time they got to PSI it was evident that the internet was growing. These ISPs had a “back room problem,” with the number of modems and links needed to support, they had a mess on their hands.
PSI basically drew out a solution the needed [customers as product design partners] and it was 1 box, 4 T1 lines, not the 96 modems they were dealing with at the time. Rob ‘s response was “absolutely we can buld this.” Amazing that before Ascend had this conversartion with PSI, no one had come in to talk with them. Rob says “we built it a few months later.”
PSI had problems with the first box, Ascend did not know much about routing and Internet, but PSI helped them debug it and the ended up getting a 1/5 million dollar order. [and it a beautiful example of Viral marketing] in the words of Rob “PSI told all of his friends” (the other ISPs). Ascend helped “eliminate pain an suffering in the back room,” and not a moment too soon, as there was a major Feeding Frenzy going on and the ISPs needed more and more POPs. Ascend became the the main supplier of all those boxes and thus wend from from 16 million to 1.3 Billion on that revenue recognition model.
Ascend continued in the video business (60 million) but as the Internet had “blown up into a a monster, why not do it again?” So they looked at remote access, the domain of Cisco. Another petal.
ISPs were not thrilled buying large router boxes that did much more than they needed. Ascend built a small box selling for $890. with support for all the WAN interfaces, they launched a tiny company against the major gorilla in the market. They got 29% market share helping ISPs avoid spending too much per box, a very elegant solution. With a proven track record in the internet business, rock solid references, this revenue stream climbed from 2 to 3 to 5 million.
There was one more petal to add, the telecommunting market. For this they created a variation on their remote access products, but these puppies were only $599.
The Ascend story is not just about technological recreation, each time they had to invent a whole new distribution, sales and marketing capabilities. Video products were sold through video VARs. Internet ISPs were sold to through data VARs. Remote access yet another distribution channel. So in all of this the added another core competency: SALES. They built up major sales channels, one of the best in industry. This core competency added alot of value. For example, they took a small Simi Valley company with 6 or 7 engineers with $100,000. in revenue and simply by putting the product through their sales channel, and adding an ascend face plate the product brought in $80M/year. They had built a barrier to entry in the sales area as well.
Your Core Competency, what is it? It is not your product, it is not a marketing jingle, it is not your sales pitch. It IS what you do better than anyone, an expertise, an algorithm, a special service, your know-how in the form of patents, algorithms, process patents, someone that has a barrier of entry, preferably 1+ year.
To use the Ascend example, What made them unique? Their dialing software and hardware. How did they do it? They write 1 million lines of code, plus got certification from the telcos. What are the barriers to entry? Their code, telephone certifications, and few practitioners in the field. What’s the Product Differentiation? Offering any to any connectivity instead of picking “their favorite standards to support. And what about extendibility? Each new standard was something they cound react to and support faster than anyone else. By building interfaces for “all of the above” and making them work for customers they became the “noah’s arc of communication” this they were unique. While competitors would choose particular communications standards to support Ascend listened to customers and talked with all of the interfaces clients needed them to support. Telcos like confusion, new standards new services another opportunity to do another interface, new barrier of entry, this made it harder for competitors.
Rob talked about how he Rank Orders the petals using the following criteria:
1 2 3
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Value Proposition ? ? ?
High Growth Rate ? ? ?
Leverages 66% of Core ? ? ?
Market Visibility ? ? ?
Strategic ? ? ?
Competition ? ? ?
Get check from Client ? ? ?
For example, Ascend’s product offered spectacular ROI. An ISP would have to spend $96,000 to support 96 Modems. In contrast, the Ascend box would work with 4 T1 lines and cost $58,000. That’s a savings of $38,000, not including the space, power, and support issues. Customers would get their investment back in less that a year, often in six months. These boxes they sold for $58,000 cost Ascend $2,200 to build, so they had a very high Gross Margins, in excess of 70%.
These high Gross margins got Rob “in trouble” when they went public, the numbers were public so customers saw the Gross Margins which were unheard of for a hardware company. Rob told the story that an executive from Sprint called him up and said “you have gross margins in the 70s, we have to renegotiate the contract,” and Rob ‘s response was “they are called gross there supposed to be gross,” the phone dropped, then Rob heard, “I’m going to kill you next time we renegotiate.” The Internet was invisible, Rockwell and Cisco had equipment in each POP, selling through channels, but they had never gone out and asked what the customers needed. Cisco learned from this and later became a “pain in the ass” to compete with given their large sales force.
Is the purchase of your product “incredibly important” to the customer? Video conferencing is not strategic, a wart, but communication is strategic. Not a B-School competition matrix, but what is the real differentiation?
“To get a check is one of my favorite ones” says Rob , he continues “we asked for orders before we got a product, a conditional purchase order, that is important, they had to go through PO process, non trivial, often at the CFO level.” Something hot here, this concept became part of Ascend, If you had an idea, Rob ‘s response would be “where are the conditional purchase order.” He said that there was chance of engineering resources being put into product development without the conditional purchase order. Now this is not enough of a gating factor, they would go out and check this was not just a one off. Look for potential avalanche. A gating item.
PatientKeeper (a hospital billing company) tackled the problem that Doctors keep track of billing on 3×5 cards and about every two weeks they end up in data entry for batch processing. Here the petals of the sunflower are “Charge, Capture.” Doctors lose 5-7% of the cards, another ?% lost in typing into mainframe, Steve Howe took a Palm Pilot and all the billing using the PalmPilot, then put into a wire base (before wireless Palm) and “upchuck the data to the mainframe.”
Rob challenges would be entrepreneurs to to Build a Prototype. Get a customer. Most people he does not see again. 3% he sees them again. Steve “I did everything” got back together, he came to the ranch, had Mass General testing it. Rob quips, “he thinks the VC process is one phone call” he did a lot of work in 9 months, and that made it easy for him to raise lots of money.
Petal 1: Charge Capture, this is a revenue model, but not the best revenue model too many Palm Pilots, too many different applications no Palm for each one, had to change thinking. Petal 2: Infrastructure Company for any PDA. Larger market helping hospitals move hospitals applications onto PDAs, different revenue model and techolnology, this opened a Pandoras box of Applications. They spoke with major heath application technologies and OEMs. Petal 3: Prescriptions Petal 4: Lab Management, Petal 5: Patient Records. Had to do all the petals. [where are they now?]
RightNow is based on solving the problem that people send email to companies to ask questions. This is a serious Customer service issue because on the average [who’s statistics?] 50% of the time not even being answered, 25% of time reply in 48 hours, 25% of the time it takes two weeks to get a reply. RightNow grafts on a Q&A database to the corporate web-site. RightNow sold it over the phone originally for $5K for two year lease of SW. Responding to email can cost anywhere from $6 to $7 per email to process. At first board meeting Rob changed cost of the SW to 50K, customers did not balk, how it sells for over $100,000.
What are the differentiators and barriers to entry? It turns out that they have sophisticated software to intelligently route email using learning algorithms. Opportunity to “take it Horizontal.” Not just a CRM solution with large competitors, but also applicable to, Marketing, HR, Investor Relations etc Horizontal-new category, learning like technology penetrate entire company, not just customer service department. Another differentiator is this package is easy to use (maintainability and configurability), became an ASP, this was smart because it eliminated most software installation and maintenance problems. By moving to ASP they had customers running in 48 hours. Good sales activity for them was realization that first 90 days it was important to ask how things are going and listen to suggestions for improvements, this resulted in a high level of renewal for their software.
Rank ordering of Petals for RightNow has slightly different categories: Core Competency Ability to get Leadership Growth Market Use existing Distribution and Marketing Newness of Market Value Proposition.What about COMPETITION? Rob suggests it’s “better to think of competition in terms of “Differentiation” and “Barrier to Entry.”
Important Questions
1. What are Underlying assumptions the business is based on?
2. If those assumptions are false, then you fail 3. Applications? Usage? Needs?
Five Steps: Rob discussed Five Steps for getting at the Driving Forces: (1) Use Customers. Ignore analyst reports. Rod said, “when I see them in business plans I rip them out and don’t read it.” You really don’t know what you are getting, he continues, he “would never build a business on what they think.” (2) Ask Why. (3) What’s the Driving Forces’s Driving Force? For example, data bits can’t be distinguished from voice, therefore ISDN tariffs were similar to POTS, the underlying structure and politics, prevented this from changing. (4) Watch Out for Politics. Initially they spoke to the ISDN advocates at the telcos and not the 98% rest of comp that did not care, never really launched ISDN. (5) Relevancy.
Putting the sunflower into action, implementation steps: (1) Conspiracy (you often have to put this process in action in opposition to “the flow” (2) Discovery (what is going on?), and (3) Action, “new revenue model,” take small number of people off current projects and put them to work on the new Petal. Rob ‘s experience was that the engineers were eager to join in, “some go off and create new revenue,” while “my heros” keep the current revenue flow coming in.
Resistance
What Happened when Rob initially tried to add new revenue stream at Ascend? (1) People thought he was crazy, 16% and all of marketing quit when he announced the new direction, the marketing organization became him and one other guy; (2) Confusion; (3) Resistance; (4) Eager to get on with it; (5) A skeptical board, by the time he told board they were well underway, board gave him one year to do this.
Listening to Analysts vs. Customers
Analyst Speak: Size, Growth, Segmentation by Industry Sunflower Speak: Core, Petal, Stem
Analyst Speak: What is the best NPV pathway to maximize value? Sunflower Speak: What are you really good at?
Analyst Tools: Reports, charts, Sunflower Tools: Architecture, Core competency
Analyst Tools: talking with customers as little as possible Sunflower Tools: talking with customers
What really motivated Rob?
Rob says “what motivated me is I wanted to kick Cisco’s butt, they were the Microsoft of the communications business.” He adds, “and absolutely they were our role model.” Rob interviewed all ten of the early Cisco founders as they all wanted board seats on Ascend. Ascend had lots of luck and execution. A former Cisco sales person in the audience said, “it was hard to compete against you guys,” adding, “you focused on what they needed at the time, we missed that piece of the market.” Ascend, a little “David” became the topic of Product Planning meetings at Goliath Cisco. One Cisco employee once told Rob , the two of you were the topic of a product planning meeting, you’re on the radar screen.” Every single account was constested after this point. They had Cisco there with their sales people. John Chambers was flying in. Virtual nightmare. Cisco won their share of the accounts.
The best advertising is sometimes a free product
Rob had no advertising budget, so he improvised. They gave free units to the sales force, one of the customers was UUNet, for 6-9 months, “you don’t have to pay us” when they were bought 10% by Microsoft, UUnet convinced Microsoft to buy Ascend products and then Worldcom started buying Ascend. UUNet was a large account on their own. They did things different, in Rob ‘s words, they “learned from the best, Cisco, study the best in the industry, know what they are doing well, if you can do it 100 times better then you are doing well.’ Stock market decided Ascend was “the next Cisco.”
Reinventing Revenue Models
Overall patterns in business models: each time (he’s a logician by training) he tries to clear his head and start with “basic principles” it’s got to be “technology” for a new company.
Many great companies founded in recessions. “these are the best times to start a company right now.” Lots of money out there but it’s very selective, the deals that it is doing will be good companies, incredibly selective, higher probability of success, mature adults, invest in a team first, second, third, then market and product. understand good companies have to regenerate new business models and new products over time.
How Rob got started
In 1987 Rob came home and told his wife “how stupid marketing people were” and “they could not sell hot tea to an Eskimo.” His wife replied, if you think you are so smart, do it yourself. She encouraged him to “quit today and write a business plan.” His first business was Softcom which was sold to Hayes. He had the bug at the time, the second one was a lot easier, he was tired of working for Hayes, used to keep Packing Boxes in his office, he would say, “if you piss me off, I’m going to pack up all the boxes.” One day he decided to quit. At the same time some engineers offered “we’re going to do it with you.” This was the first ISDN business plan. They raised some money and rest straightened itself out over time.
Rob’s talk was be followed by an informal reception.
Rob Ryan founded Ascend Communications in 1989 serving as President, CEO, and Chairman. Under his leadership, Ascend became the leading provider of Point of Presence boxes (POPs) for Internet providers. In January of 1999 Ascend was sold to Lucent for $20 billion. Since 1995 Rob has been focusing his energy on Entrepreneur America, which mentors promising technology entrepreneurs, helping them focus on product ideas, writing business plans, and raising venture capital. Rob has helped dozens of companies, including MIT $50K Entrepreneurship Competition alumni PatientKeeper, Silicon Spice, Actuality Systems, and Virtual Ink.