The Innovation Paradox
Earlier this week I caught up with the Founders of one of our companies that sold to a big money center bank a few years ago. It was nice to hear that the integration has been successful and the core thesis behind the acquisition has proven to be correct.
But it was sad to hear about their inability to advance an agenda that included new, cutting-edge functionality into the product suite. Very few words were needed to express their frustrations. They were innovators and builders at heart which meant that they wanted to live in the world of tomorrow vs. the world of yesterday.
They understood why their new master wasn’t comfortable with their agenda, but at the same time they wish it did because its distribution and brand advantages paired with innovative products would have eviscerated the competition.
This is a common pattern: The largest, most resource rich companies are rarely the ones pushing the boundaries of innovation. They eventually come around, but not before startups have free reign to be first in market. I talk to Founders all the time that big companies want to be “first to be third” which is a simple way of explaining the fundamental tension between being a market leader and being a technological pioneer.
The reasons behind this behavior pattern are simple. Just consider what these companies stand to lose:
Brand Reputation
Years, often decades, of carefully cultivated trust can be eroded by a single failed technology rollout. When you serve millions of customers, a 99.9% success rate still generates thousands of negative experiences.
Customer Trust
Big companies have little/no tolerance for downtime or functionality issues that often accompany cutting-edge technologies.
Shareholder Value
Public companies are measured based on their quarterly results. High-risk technological bets that might take years to pay off are difficult to justify to shareholders who expect consistent returns.
The “First to be Third” Strategy
This reality leads to what can be thought of as the “two reference client rule”: Large incumbents typically want to see at least two peer organizations of a similar size successfully implement a new technology before they’ll consider adoption.
This approach makes sense because it allows them to learn from others’ implementation mistakes, ensure the technology has achieved stability and avoid being on the frontier of what Regulators and the “court of public opinion” deem acceptable.
The Startup Advantage
This dynamic creates a natural opening for Startups that can turn their apparent disadvantages into strategic advantages:
Risk Tolerance
With nothing to lose, Startups can afford to experiment with unproven technologies.
Rapid Iteration
Smaller customer bases allow for faster feedback loops and more aggressive iteration cycles.
Specialized Focus
Startups can build deeply specialized solutions that larger companies would find too niche to pursue.
Technological Differentiation
By embracing cutting-edge technology, Startups can offer capabilities that established players can’t match.
Stepping Out On The Risk Curve Is What Startups Do!
The inability of most large companies to pioneer cutting-edge technology isn’t a bug – it’s a feature of their success. Their role is typically to perfect and scale innovations, not to invent them.
This creates a perpetual opportunity for startups to lead technological innovation, despite their disadvantages in scale and distribution. The key is recognizing that these limitations aren’t weaknesses but rather the very characteristics that enable them to push boundaries that many larger companies cannot.
There are exceptions to this rule that we’re seeing play out right now in the AI space, but even then there are limits to the risk tolerance that many large companies have in the space.
The key is to internalize that there will always be room to step out on the risk curve because it’s where the big companies WON’T be.
