What Keeps Me Up At Night: an internal dialogue from our founder, Ashley Merrill, as her passion for reading fuels an array of deep and wide-ranging thoughts that can’t help but to get us all thinking…and wanting to learn more.
Today, she's tackling how big to go and when to get out, the hedgehog concept, and the luxury of hindsight.
I am by no means the end-all-be-all authority on business, but as an entrepreneur, investor and someone who has been in the web business a long time, I have been afforded a unique vantage point so I felt like if sharing some musings helped someone, even one person, it would be worth it.
I just read this article on Birchbox and it got me thinking a bit on how to know when you’ve hit on a great idea, how “big” to go and when to get out. Birchbox was a darling of the VC world for ages and really built something interesting and unique for its time. I admire how they recognized two problems; brands needing to acquire new consumers and consumers wanting to try before they buy and offered a unique solution that solved for both.
In many ways landing on a business that can solve both a business and a consumer problem is a holy grail idea. Businesses are complex and solving a problem isn’t a business unto itself; you need a lot of pieces to land together if you are planning to build something with lots of potential. What are those pieces?
The book Good to Great presented a three circle framework that I really like and reference often called the Hedgehog concept. This framework says that you know you have a good idea if you have passion, an economic strategy, and a plan for defensibility/differentiation. Passion is something you will need to keep you from overriding the urge to quit (or drink too much wine) but it’s also something that will help you inspire people to follow and invest in you. Having a sound economic engine is about making money and takes something from being a hobby to being a business. Building a plan towards profitability that doesn’t hinge on billion dollar status (since that happens about .00006% of the time) is a good idea. The last circle is defensibility/differentiation and asking yourself what you can be best in the world at. When people start entering your business niche, is your product/business/Brand offering unique enough that people will still want it?
I see a lot of young companies as investment opportunities and probably a disproportionate number of female-founded businesses. For some reason, with female run companies in particular I see failure to address the economic engine and defensibility. I know I’m generalizing but I’m more worried about the painful success stats (or lack thereof) than I am about generalizing. I want to see more women running successful businesses!
So, getting back to Birchbox. Honestly, a $15M company isn't a bad valuation, but when you have raised $90M to get there it’s definitely not a glowing success story. So with the luxury of hindsight, I thought it would be interesting to use the Hedgehog concept to evaluate Birchbox and see if we could have seen some of these problems.
Economically speaking I think the plan was to make money off their subscribers, the makeup “advertisers,” and hopefully the customer converting on a purchase after sampling it. The subscription part makes sense and is predicated on the value the customer perceives from the product and the makeup brand benefits from lots of exposure. So while these feel like string value proportions, they are probably the smaller part of the pie. Birchbox would have to do something pretty revolutionary to intermediate the Sephora and Amazon purchase loop. One challenge I see for Birchbox is that they attract a lot of young value driven consumers. I say this because everyone who told me about it was young and had not yet established the strong beauty preferences you tend to see from a woman 30+. This means there was a limit to how much money they could really expect from their young deal seeking consumers. The second issue I see with intermediating the consumer loop is the challenge of bringing a value proposition that fits their customer. Sephora and Amazon nail the pricing part of the equation with low prices, convenience, and loyalty programs that only massive scale can really enable. Even if Birchbox couldn’t make it in the conversion loop substantially limits the company’s potential but doesn’t mean it wasn’t still a business with a strong economic model—just maybe not one you raise $90m on.
When we think about defensibility and what Birchbox can be best in the world at, I would say they are the go-to company for sampling beauty products. How defensible is this? Sephora is already a great place to try things, both companies offer returns and both companies could easily launch a sampling kit which they are positioned to make more from because they already own the consumer transaction. I have no doubt that the Birchbox CEO, Katia Beauchamp, was well aware of this threat and was working to build defensibility around her offering, but we can see clearly she had some pretty big challenges from the get go.
Beauchamp had a great run and a strong idea. I think it all comes down to when, how much, and from whom you raise money. When you raise big money, all the press outlets talk about you and its pretty sexy stuff but honestly with lots of VC money comes lots of responsibility. VC’s are looking for 10x return in a short period of time so let’s do the math… if you raise 90M, they are assuming you are building a billion dollar business. With all these inherent market challenges what do you think the probability is of this being a billion dollar business? From a valuation perspective, how much would a potential acquirer be willing to pay to buy Birchbox before deciding to build it themselves?
I'm going to caveat this whole analysis with this: I'm in it and it’s always harder and more complicated than it looks. Beauchamp busted her behind and swung for the fences and I commend her for that. The luxury of hindsight is a real one so I'm not saying I could have done any better and I’m mainly highlighting the usefulness of the Hedgehog concept as a tool for the entrepreneur. It’s is a great way to challenge your own ideas and assumptions so you can hopefully lead a more successful enterprise.