One of the toughest and yet most important questions you will be asked by savvy potential startup investors is “What is your sustainable competitive advantage?” Yet many entrepreneurs, maybe in their passion for their new product, gloss over this one, or even announce that they have no competition.
Think about each of the three words for the full meaning of the phrase. “Sustainable” means over the longer term – not just today. First to market, for example, is not sustainable. It may buy you a few months, but if you show traction, competitors with deep pockets will catch up and bypass you quickly, jeopardizing all your investments.
“Competitive” should be taken broadly to include alternative ways that people might solve the problem you are addressing. Don’t define your scope so narrowly that you would not consider airplanes to be competitive with your new train, or you will suffer their fate. The competition is transportation, not slow machines on tracks.
“Advantage” needs to be measurable and significant. Many entrepreneurs lead with fuzzy terms like “improved usability” and “lower cost.” Experienced business people realize that unless you are dealing with a commodity, or customers are extremely unhappy, they won’t switch to a new alternative unless the savings are well above 20%.
So what are the business elements that investors look for to conclude that you may indeed have a sustainable competitive advantage? Here are the key ones:
- Real intellectual property. We can all argue the shortcomings and non-defensibility of patents, but these are still your best competitive protection, sustainable for twenty years. Others of lesser value include trademarks, trade secrets, unique domain names, long-term contracts, and copyrights.
- A dynamic product line, rather than a single product. If your product or service looks like one-of-a-kind, with no planned follow-up, you have a weak position. The best position is some innovative technology, with a great initial product, and a big list of follow-on products that can be commercialized to keep ahead of competitors.
- Dramatic cost improvement for cause. What we are looking for here is a breakthrough in technology (patented), manufacturing process, or new revenue model, that results in an order-of-magnitude cost reduction. Saying that you will work harder and more efficiently than competitors to keep costs down is not convincing.
- Proven team with inside relationships. Great people are always a real competitive advantage. Many markets, like government contracts, are especially costly and time consuming to penetrate, but if your team already has these connections, you have an immediate head start, and past leadership success suggests you can sustain the lead.
- Lock on the market or customer base. If you already have a brand with a large customer base that is relevant to this new business, that’s a tremendous advantage, and it’s sustainable if you can maintain the momentum through complementary products. Investors will look at turnover rates, cost of acquisition, and revenue streams.
- Strong focus and differentiation. A new social networking product that proclaims to combine the best of Facebook, MySpace, LinkedIn, and Twitter has too broad a focus and will likely not compete in the long run with existing offerings. Combining functions is not a good differentiator.
Overall, a sustainable competitive advantage requires value-creating products, processes, and services that cannot be matched by competitors now, and plan content to maintain that position as you scale. Of course all of this assumes you are in a big growing market, with adequate resources, marketing, and great people to deliver. No one said it would be easy!