“Zvents grew incredibly well,” Stock told me. “We were the largest events site of its kind, providing local listing in hundreds of markets and attracting over 14 million monthly unique visitors.” Zvents had done what so many tech companies dream of doing, they cracked the network effect and built a business that increased in value with each new user. The more event organizers posted to the site, the more useful the site became to people looking for things to do. Both parties loved the site and Stock’s company was in the middle, connecting visitors to events they otherwise wouldn’t find.

“But I learned the network effect isn’t everything. In fact, it became a liability.” Stock’s words confused me. How could being in such an enviable position of creating a valuable marketplace be a bad thing? “Getting paid was a bitch,” Stock said, and he began to unravel how certain marketplace businesses like Zvents can succeed themselves to death.

The Expectation of Completeness

Marketplace businesses exist to connect two or more parties, typically the buyers and the sellers. Investors love these businesses because they tend to grow quickly and spawn winner-take-all companies. A long line of successful Silicon Valley startups have found success providing a place for people to connect and transact. Examples of these kinds of companies include industry titans like eBay and LinkedIn but also include some of today’s web darlings like Uber and AirBnB. “Marketplace businesses are great,” Stock told me. “But there is a fatal flaw in some businesses that can hogtie their ability to make money — the expectation of completeness.”

Stock explained how Zvents had planned to charge event organizers to list on their site. “Once we reached critical mass and it was clear we were becoming the market leader, we expected event organisers would start paying.” Unfortunately, reality fell short of expectations.

Like many marketplace businesses, Zvents was catering to users who expected to find a comprehensive listing of all local happenings. To keep users coming back, Zvents had to ensure it was displaying everyone’s events — an incomplete list would send visitors looking elsewhere.

“When we asked event organisers to pay up, they said ‘what for?’,” Stock said. But threatening to remove a listing was not possible, Zvents needed them all to keep site visitors happy.

So Stock’s team offered event organizers better ways to reach users like sponsored placements, which displayed the listing more prominently on the site. But the attempt to finally get paid largely fell flat. “We certainly created value for them.” Stock said. “We were sending people to their events. We just couldn’t capture very much of that value. I guess it’s the old saying, ‘why buy the cow, when you can get the milk for free?’”

Just Like Google

“Google is similiar if you think about it.” Stock told me. The comment surprised me given the tremendous success of the search giant juxtaposed with the Zvents story. “They also create much more value than they capture.”

He was right. When searching on Google, users also have an expectation of completeness. They come to the site to find all relevant results, every time. If Google decided to only display listings from paying advertisers, we’d all switch to Bing.

When considering the collective value of all the clicks on un-sponsored links, the company does give away the vast majority of the value it creates. Indeed, Google appears to be “giving away the milk for free.” The difference is that Google’s market is not limited to local happenings as was the case for Zvents. Google’s market is much, much bigger. In fact, it’s everything.

By organizing “the world’s information,” Google skims a proportionally tiny amount of value from a tremendously huge marketplace. The absolute number of people who buy a sponsored placement is large enough to keep the company humming, even though it only monetizes a tiny proportion of the value created.

Implications

The Zvents story should give pause to marketplace businesses going after niches. The expectation of completeness, and the resulting inability to monetize, may help explain the challenges faced by companies like Foursquare, RedBeacon, and many industry-specific job listing sites.

One way around the problem of completeness is to facilitate the transaction itself. Companies like oDesk, etsy and Uber, ensure they are in the middle of the money by processing the flow of cash. It’s much easier to justify taking a cut when you hold the gold, particularly when doing so adds convenience and security to the transaction.

Without the ability to collect a share of each transaction, marketplaces serving users who expect completeness face a difficult challenge. Two options remain: either cater to a very large market, a la Google, or monetize a large share of the value created. The network effect alone just isn’t good enough.

TL:DR

- Network effects are great but they don’t ensure a viable business model.

- Though they may prove successful from a growth and engagement perspective, certain marketplaces can be very difficult to monetize.

- Marketplaces where either the buyer or seller expects to choose from an exhaustive listing – so-called “complete” marketplaces – typically give-up far more value than they are able to capture.

- Unless they facilitate the transaction itself, these businesses often find themselves in a bind.

- Complete marketplaces must either cater to a very large market, a la Google, or position themselves to monetize a large share of the value they create.

Follow Nir on Twitter @nireyal

Photo Credit: shutterstock

Startups that build a product attached to nascent behaviors have an opportunity to form habits before anyone else. First mover advantage matters. Once a habit is formed, it’s difficult to change and often provides a sustained competitive advantage.

In order to mine for yet untapped opportunities, I began to observe my own behaviors and those of people around me:

How is my daily routine different than last year?

What new behaviors have I seen amongst my social circles (online and off)?

How are “normals” engaging with technology in new ways?

Here are some of the nascent behaviors I’ve observed:

• Gamification of Life – Have you noticed how different teens and pre-teens use social networks? From my observations following my younger cousins and other’s writing on the topic, younger audiences are in constant competition with one another, using Instagram, Facebook, and other platforms as a game. Teens perceive follower counts, likes, and other forms of social currency seriously, directly prompting others to reciprocate.

• Diverse Media Expression – In 2009, the primary form of self-expression online was in text via the “status update”. Today we see a variety of mediums used to express oneself: stylized photos on Instagram, micro-videos on Vine, animated GIFs on Cinemagram, ephemeral pics on Snapchat, anonymous photo-captions on Whisper, doodles on MessageMe, and so on. MessageMe, recent addition to the booming mobile messaging market, has embraced this behavioral shift, enabling users to communicate through photos, video, voice, music, location, and (my personaly favorite) doodles within a single experience. This behavioral shift is emphasized in Mary Meeker’s recent 2013 Internet Trends Report (see slide 16).

• 24/7 Asynchronous Messaging – Mobile messaging apps are blowing up and for some, become the primary form of communication. These experiences are not simply a replacement to traditional SMS, a communication protocol primarily designed for one-to-one messaging. This new breed of apps are designed for one-to-many communication as group chats organically form amongst friends, family, and colleagues. In doing so, a single message is broadcasted to not one, but many people, amplifying spread and instigating further communication more than ever before. These little devices in our pocket become a chatterbox of discussion, connecting us more frequently than ever before.

• Microtransactions – Far from new, the growing adoption of microtransactions in mobile gaming will continue to bleed into other markets. As friction is removed and the behavior becomes routine, new opportunities will emerge. We’re seeing this in content publishing as startups like Flattr and CentUp attempt to benefit from this change.

• Second Screens – Second screen usage is becoming the norm. In a study by Business Insider, more than 80% of 18 to 24-year-olds reported using their phone while watching TV. I see this in my own behavior as well as I context switch back-and-forth between the TV and my phone.

• Lightweight Reciprocation – The “like” has had a tremendous influence on the web and our connectedness between one another. Nearly every social product has some form of lightweight interaction to give users a quick way to acknowledge each other’s contributions with little cognitive overhead. This is becoming increasingly prevalent as we “favorite” a tweet, “heart” an Instagram photo, and “like” a Facebook post. As a result, more signals of reciprocation are triggered, re-engaging users. But do these lightweight interactions lead to less meaningful interactions and thoughtful engagement? Are we conditioning people to interact mindlessly?

I find that I am most creative and insightful when consciously observing human behavior. Observe yourself. Observe others. Seek anomalies. You never know what insights you might uncover.

What nascent behaviors do you see and what business opportunities do you think they create?

Photo credit: Lettuce

NOTE: This guest post was written by Ryan Hoover

I now understand why baseball players are superstitious. During a hitting streak, “hot” players rarely shower. They wear the same clothes and eat the same food. They follow the same routine to an exactness that would make someone with obsessive compulsive disorder proud. They’re trying to keep the magic alive.

But why?

If, as Billy Beane knows, baseball is all about numbers and probabilities, why all the nonsense? There are no “baseball gods” to appease.

As mortal humans, it’s hard to accept this. The chances of getting a hit are different for each player and situation, but always contain an element of randomness. We try to create patterns and order out of the chaos. We try to control the uncontrollable. We wear our smelly clothes to keep the hitting streak going.

Venture Capital is No Different

The longer I work in VC, the more I realize that luck or randomness plays a huge part in success. Any VC who tells you she “knew” her investment was going to succeed is fooling herself (and you). Some companies have high chances of success and others have low chances, but nothing is ever guaranteed. Venture capital is a humbling business (oddly filled with individuals who are often far less than humble). The “sure thing” investments rarely pan out. But the companies that start-out as “toys” like Twitter, Facebook, and Square can turn into multi-billion dollar companies. In the end, the gods of randomness smile on some and frown on others. We mortals meanwhile try to figure out the patterns that aren’t there like a hotel full of Las Vegas tourists.

So what is an investor to do? Do we put down our chips on a random number and hope for the best? Hardly!

Venture investing is not roulette. There’s randomness, of course, but the odds are more like baseball, where the batter’s chances depend on his natural ability, work ethic, and decision making. We can improve our odds by practicing and making better choices. In the spirit of getting more hits, here are four things I have learned to improve my odds.

1. Wait for Your Pitch:  There’s an old joke that the best way to become a top-quartile VC in your first year of investing is simple….don’t make any investments! Most startups fail so your performance will be better than most. But despite the odds, there is a huge temptation to swing at anything. As an investor, you don’t feel you’re doing your job unless you’re making investments. The industry tends to celebrate the most active VCs rather than the ones with the best returns.  But like All-Star baseball players, the best VCs are patient. I know that if I see enough pitches, I’ll eventually meet a company that I can’t stop thinking about. It will literally keep me up at night and I’ll have a sick feeling in my stomach hoping I’ll get to work with them. I’m not sure if this is the same feeling a batter gets seeing a juicy fastball on a 3-1 count, but I like to think so.
2. Swing Away:  Venture capital is about slugging percentage, not batting average.  Fred Wilson has a good post on the typical return profile for an early-stage venture capital fund. He writes that you need one investment to return the entire fund, the next 3-4 investments to return it again, and expect the vast majority of your investments to fail completely. The venture industry needs outlier grand-slams like eBay, Google, and Facebook. Bunting is a stupid strategy. Too many VCs (and entrepreneurs) pick inherently small markets, opting for the perceived “safe” 2x rather than swinging away.  It’s ok to fail, as long as when you win, you win big.  If you’re still not convinced, take a look at the number of Hall of Famers who also hold the record for strikeouts.
3. Improve Your Chances: Why do hitters spend countless hours studying the tendencies of the opposing pitcher? Or years in the batting cage simulating at bats? They know that the right mental and physical preparation increases their chances of an eventual hit. Similarly, the best venture investors understand the market and competitive dynamics of an industry before they invest. They learn from their past mistakes and also remain optimistic and open to new possibilities.  In contrast to baseball players, VCs can improve the odds of success after they have swung. Great investors recruit talented executives and partner with them to increase the probability of a win. Like an aggressive base runner, they turn doubles into triples and are constantly pushing their companies to hire the best people and dream bigger.
4. Remember It’s a Game: Finally, like baseball, it’s important to have fun and remember it’s only a game. Venture capital is a lucky profession, where we get paid to listen to incredible people who are changing the world. There will be good days and bad days. Hot streaks and terrible slumps. But, like a ballplayer playing a game of catch on a sunny summer day, you have to find enjoyment in the process.

As a young venture investor, I wish success were guaranteed so that I could keep doing this job for many years to come. Instead, I know there will always be an element of randomness in venture investing. All I can do is work hard and try to get a little better each day…and of course wear my lucky t-shirt!

Jules Maltz is a General Partner at Institutional Venture Partners (IVP), a late-stage venture capital firm based in Menlo Park. 

Photo Credit: JD Hancock via Compfightcc

Perhaps no other phenomenon demonstrates our brain’s ability to make believe better than the placebo effect. Long known for its ability to improve a patient’s health, the practice of giving people an inert treatment they believe will make them better has been proven to be highly effective. In fact, in recent studies, researchers have found the placebo effect may be much more potent than previously thought. So strong is the expectation that a pill will provide relief, that even patients who are told beforehand that the medication is a placebo and has no medicinal properties, still show significant signs of improvement. When it comes to fooling ourselves, the brain can’t help itself.

How a sugar pill could be as effective as an FDA-approved drug, backed by millions of dollars in research, is a central mystery of the placebo effect. But the brain’s predilection to fool itself is not only evident in the medical field. The cognitive trick is a central trait of how the products we use every day become part of our lives.

Making Connections

As I discussed in a previous post, products alleviate pain. But finding the pain is only part of the challenge. Once the source of temptation is found, be it hunger, fear, boredom, or any number of other triggers, a connection must be formed in the customer’s mind between the craving and the company’s offering.

An association is a memory that informs the way the world appears. If a company can form a connection between the trigger and its product, it can create a habit. Associations crowd out rational thought, enabling the “doing without thinking” characteristic of habits. But are associations and the memories they are based on really powerful enough to prevent us from thinking?

Consider the image to the right.

Take a guess at which surface is darker, the top square or the bottom? Assuming you’ve seen any number of similar optical illusions, you likely anticipate that there is a trick, and you’d be right. With your finger, cover up the line that separates the two squares. Doing so reveals the two squares are the exact same color. Why does this happen?

The answer is your brain has learned an indelible association, that surfaces on top should be lighter than shaded surfaces below. Your brain can’t register this image any other way unless you stop seeing the line in the middle which, when removed makes the two squares look like a solid object, not two stacked squares.

Associations are powerful and long lasting, indicating that they might have served an important evolutionary purpose. One hypothesis is that these associations help us make faster decisions my jumping to conclusions we’ve seen play out before. These associations are critical to what makes brands valuable and how we make automatic decisions about what we buy.

Creating Preference

Consider the famous Pepsi Challenge, which researchers have recreated in the lab on several occasions. Studies reveal that when people are asked to do a blind taste test of Coke versus Pepsi they split equally, showing little measurable preference. However, if people are asked to evaluate the drinks knowing the brand name, they disproportionately prefer Coke.

But here’s where the research gets interesting. When a study compared preference for Coke to an unidentified cola, Coke was overwhelmingly chosen. However, unbeknownst to the taster, sometimes the other cola was not just some drink, it too was Coke. Despite tasting two identical drinks, the Coke brand affected the flavor of the sample. MRI scans of the testers brains confirmed they had actually experienced the two drinks differently.

Similar effects have been observed with other factors, which should not objectively affect taste. For example, wine you believe is expensive really does taste better. After all, isn’t expensive wine supposed to taste better? It better if you just shelled out an ungodly sum on a bottle. Here again, the brain’s ability to perceive the world the way it expects it to be kicks into high gear.

Just as the expectation of a placebo’s effect informs how we perceive physical symptoms, associations create connections between things, which may or may not be related. Marketers create these associations to ensure consumers choose their products out of habit, as well as enjoy them more once they do.

Image credit: tywkiwdbi and opensourceway

Temptation is more than just the promise of reward. Recent advances in neuroscience allow us to peer into the brain, providing a greater understanding of what makes us want.

In 2011, Sriram Chellappan, an assistant professor of computer science at Missouri University of Science and Technology, gained unheard of access to sensitive information about the way undergraduates were using the Internet. His study tracked students on campus as they browsed the web. Chellappan was looking for patterns, which not only revealed what students were doing online, but provided clues about who they were.

“We believe that your pattern of Internet use says something about you,” Chellappan wrote in the New York Times. “Specifically, our research suggests it can offer clues to your mental well-being.” Chellappan concluded that there was, in fact, predictive power in the data. He found students with early signs of clinical depression used the Internet differently and he could identify students most likely to face mental health issues simply by looking at how they clicked.

“We identified several features of Internet usage that correlated with depression,” wrote Chellappan. “For example, participants with depressive symptoms tended to engage in very high e-mail usage.”

Chellappan developed the technology in hopes of creating an early-warning system to identify struggling students. But his study raised another question, why do people with depression check email more?

Alleviating Pain

The answer may provide clues about why all of us use the products and services we do in our everyday lives. Psychologists believe people with depression feel negative emotions, like anxiety, more frequently than other people do. There is evidence that the depressed students in Chellappan’s study were using the Internet more because they experience negative mental states more often. To try and feel better, they turned to the web to boost their mood.

Finding ways to make ourselves feel better is not something only depressives do. We all seek relief from feeling bad and the brain is primed to help us learn where we can find escape. Just as we might take a Tylenol to relieve a headache, we turn to products to relieve emotional pain. In fact, these two biological processes are so closely linked that taking a Tylenol has been shown to ease both physical and emotional pain. The drug is effective in treating headache and heartache.

Having a pain to cure is a necessary prerequisite to using products. Recent neuroscience reveals the brain even adds pain to things that were previously pleasurable to push us to get what our bodies want. When temptation is activated in the brain, it induces a biological process that not only turns on the pleasure response, but also the body’s physiological stress response.

Consider a 2005 study which looked at the physiological response of women exposed to images of chocolate. Researchers observed that the women experienced a subconscious reaction of alarm similar to seeing a threatening animal in the wild. The women, who had identified themselves as “chocolate cravers,” described feeling not only pleasure at the thought of consuming the chocolate, but also agitation, angst, and a feeling of a loss of control in the face of their desire. For these women’s brains, temptation was stressful.

Since the 1950s, researchers have explored how the brain’s reward system compels behavior. Our understanding of the complex circuitry shows that pleasure and pain work together. Once the brain learns something good is about to happen, it induces a craving we feel as stress. The fastest relief from this discomfort is to get what we want.

Exaggeration and Fear

Companies, of course, are masters of temptation. If marketing is defined as, “the process of communicating the value of a product or service to customers,” then implicit in this practice is accentuating the positive aspects of what being sold. This technique is used not only in hawking goods, but is also found in nature. Animals have been tricking each other by accentuating desirable traits for millennia. The process is called “super-normal stimuli” and it is a key to enticing action by creating the stress of desire.

Another way products induce intense desire is through a certain kind of fear, particularly our innate need to have as much as the next person. The phenomenon is exhibited with a simple experiment conducted by Frans de Waal, a primatologist at Emory University.

In the study, de Waal rewarded two capuchin monkeys with a cucumber when they completed a simple task, in this case, handing a rock to the researcher. When both monkeys were given the same reward, they completed the task as prescribed.

But when the researcher gave one monkey a grape while offering the other the standard cucumber, the results were very different. The stiffed monkey, who was perfectly content just seconds before with his cucumber, began shrieking, baring his teeth, thrashing in his cage, and pounding on the table to show his anger. Known in the vernacular as FOMO, or “fear of missing out”, marketers utilize this inborn trigger to incite pain akin to what the capuchin monkey felt in de Waals cage.

Marketers tasked with increasing consumption of their company’s products have a difficult job; they are often charged with manufacturing desire. To do that, they need to find the customer’s problem, their pain, in order to alleviate it. Without the biological basis spurring our desire, there would be no sales. So marketers must at least accentuate, if not induce, a level of discomfort to make us crave their wares.

Like in the undergraduates in Chellappan’s study exhibiting signs of depression, we all seek to escape feeling bad. The products and services that provide immediate relief are those we come to depend upon most.

Photo Credit: Orofacial

The world has become harder to resist. Products are getting better at giving people what they want and – for the most part – that has been good thing. Yet, the historical trend-line shows products are also becoming more habit-forming.

All products alleviate customers’ pain. Even products used to gain pleasure must first generate desire, a unique form of discomfort, which the customer will pay to satiate.

Manufacturing Desire

The engine driving the evolution of marketing and advertising for the past 125 years has been the increasing speed with which companies adapt products to better meet customer needs.

The Age of Scarcity (prehistory – 1930s):  For the majority of human history, the basic necessities of life were expensive and rare. Human populations growth was mediated by the limitation of resources. Keynes formulation of Say’s law[1] was that “supply creates its own demand” and in a time of scarcity, goods sold quickly to those who could afford them. Though commercial communication traces back thousands of years, the term “marketing” only made its debut in 1884. Prior to the industrial revolution, products attracted consumers mostly by being available. The limited supply meant high prices and only the well-off had any discretionary spending power.

The Age of Capacity – (1930’s – 2000):  Starting just before the Great Depression, manufacturing production began exceeding demand. This was a massive problem for companies who feared making goods no one would buy. Industry called upon men like Edward Bernays, Sigmund Freud’s nephew, to create demand through “public relations,” a term he coined as a substitute for the word propaganda, which had negative connotations after its use by the Germans in WWII.

Bernays spawned the rise of modern Madison Avenue advertising through mass communication channels like radio. Copying Bernays’ successful tactics, companies sought to identify and connect consumer’s hidden psychological needs to commodity goods like tobacco, soap, and cereal. During the golden age of branding, companies found they could create demand and increase consumption by giving their goods unique identities and for the first time, create associations in the consumer’s mind. Though their product remained largely unchanged and indistinguishable from one another, companies found altering their packaging, coupled with repetitious messaging, was enough to influence purchasing behaviors.

During the later half of the 20th century, the falling cost of creating new products in smaller batches meant companies could alter goods slightly to appeal to previously underserved niches. Marketers also learned to segment consumers through various demographic and psychographic characteristics, with various degrees of success and scientific rigor. The focus group helped brands build new offerings to satisfy what consumers could tell them they wanted.

The Age of Contingency – (2000 – present):  Prior to the widespread use of the Internet, marketing had been dominated by products, which changed relatively little. Companies generally repackaged and rebranded products as “line extensions” of the main brand. However, with the explosion of interactive technologies, companies could tailor products to each and every user. For the first time, products could alleviate the customer’s pain in a uniquely personalized way.

Perfect Contingency

Vast amounts of individualized data, transferred at unprecedented speeds to readily accessible, always-on devices, define the age of how we interact with the products that define our lives. Technology products today adapt to the user, constructing themselves in real-time. For example, no one’s Twitter stream or Facebook timeline is like anyone else’s.

But in the Age of Contingency, it is not only the product that adapts to the user. The user also adapts to the product by forming new behavioral and usage habits.

Two parties, the product and the user, change together towards “perfect contingency,” a state of nearly instantaneous adaptation to one another. The more the user habituates to using the product, the more useful and pleasurable the product becomes. This is why the world is becoming a more addictive place.

Nir’s Note: Let me know what you think in the comments section below or send me an email. Do you have any supporting stories to share? Do you know of any relevant studies or examples? Read any good books on the topic? Please let me know. 

What do motorized vehicles, broadband internet, and smartphones have in common? These technologies all introduced new forms of user interface, transforming its user’s daily lives and behaviors.

I’ve been studying Nir Eyal’s work and recently read his article on the power of interface changes. As stated in his post, interface changes have the potential to radically change user behavior, disrupt incumbents, and enable new opportunities only imagined in film and sci-fi novels.

If you’re building a new startup or operating an existing business, look out for interface changes. Interface changes have the power to catapult your startup to success or kill it on arrival.

So if interface changes are such a big deal, what opportunities or threats can we anticipate? Here are a few examples:

Wearable Computing - smart watches (e.g. Pebble, Apple’s rumored “iWatch”), Google Glass, Myo, and other wearable technologies will enable new interactions and become strong drivers of habit-formation as our ability to interact with technology increases.

Quantified Self - Nike Fuelband, Fitbit, Jawbone Up, and other biometric monitoring devices have seen traction with early adopters. I anticipate greater adoption as new use cases arise as this technology increases in fidelity and connectedness.

Connected Vehicles - Ford, a company founded more than a century ago, is innovating with its Sync technology. Their internet connected platform brings apps to the driving experience. Skitcher and Pandora have already integrated to take advantage of this new interface.

Fast, Ubiquitous, Uncapped Internet - this has already started taking shape with LTE, enabling higher-fidelity media to be consumed and shared on the go (e.g. Vine, HBO Go). Faster speeds and unmetered bandwidth may also (finally) make cloud gaming a reality through PS4’s Cloud Gaming service, OnLive, or other competing technologies.

Microtransactions - microtransactions and free-to-play model have revolutionized the gaming industry, disrupting traditional game studios. Frictionless payments will continue to spread into other verticals and platforms such as console gaming (e.g. Xbox, PS4, WiiU), TV’s (e.g. Google TV, Apple TV, Samsung), labor services (e.g. Taskrabbit, Exec), and others.

Ambient Apps - Highlight, Circle, and Google Now monitor user behavior and context, surfacing relevant information at just the right time. To a large extent, the interface becomes invisible as these services push to the user rather than pull information from the user as with traditional interfaces.

And… - self-driving cars, affordable virtual reality (Oculus Rift), alternative currencies (BitCoins), lucid dreaming (Remee), burger making robots (Momentum Machines), and many more interfaces changes are in our future.

Not all these interfaces will succeed and even those that do will often be dismissed as a toy in the beginning.

What new interfaces do you see shaping the future?

NOTE: This guest post was written by Ryan Hoover

Habits are good for business. In fact, many industries could not survive without them. The incentive systems and business models of the companies that make habit-forming products require someone gets hooked. Without consumer habits, these enterprises would go bust.

While most of us think of cigarettes or gambling as habit-forming products, the fact is, a much wider swath of industries rely on consumer’s using their products without thought or deliberation.

These companies have no secret agenda or nefarious ambitions. They are in business to give people what they want, even if at times, what the consumer wants isn’t necessarily good for them.

But like every other company, habit-forming businesses are run by well-intentioned people. Hard-working folks with families and dreams of their own. So how then can these two realities coexist? How can companies seek to hook their customers, while also being run by decent people who have just as visceral of an aversion to manipulation as the rest of us?

The Habit Business

The answer lies in the business imperative. An enterprises’ worth is the sum of the future profits it will generate. MBAs are taught to calculate the value of an enterprise this way and it is the benchmark investors use to determine the fair price of a company’s shares.

CEOs and their management teams are evaluated by their ability to increase the value of their stock. Their job is to implement strategies to grow future cash flow by some combination of increasing revenues and decreasing expenses.

Creating consumer habits is an effective way to drive share price by increasing what companies call “customer lifetime value.” CLTV is the amount of money made from a customer before they switch to a competitor, stop using the product, or die.

Some products have a very high CLTV. Credit card customers for example, tend to stay loyal for a very long time and are worth a bundle.

Someone Must Get Hooked

Acquiring customers is expensive and time consuming. Ensuring customers are habituated to using a product decreases these expenses, thereby increasing enterprise value.

It’s worth noting that a surprising number of businesses follow a negative binomial distribution, also known as a Pareto concentration. Typically thought of as the 80/20 rule, the phenomenon occurs wherever a few buyers account for the vast majority of revenue. However, at times that split can be much more skewed than one might think.

While for most consumer goods, the concentration tends to be 60/20, for online gaming companies like Zynga, 100% of the revenue comes from just 2% of players.

In most consumer-facing businesses the Pareto Law applies. These customers are obviously very important to the company because without them, the enterprise could not survive, their profit margins simply would not allow it.

The combination of a business imperative to drive shareholder value by increasing CLTV along with the identification of the most loyal customers, means companies spend significant resources competing for a small set of “heavy users.” Companies are therefore highly motivated to hook customers – and keep them using their products for as long as possible.

Nir’s Note: Let me know what you think in the comments section below or send me an email. Do you have any supporting stories to share? Do you know of any relevant studies or examples? Read any good books on the topic? Please let me know. 

Photo Credit: som3rsault via Compfight cc

Clearly, everyone wants growth. To someone creating a new technology, nothing feels better than people actually using what you’ve built and telling their friends. Growth feels validating. It tells everyone the company is doing things right. At least that’s what we want to believe.

Good Growth, Bad Growth

Sometimes viral loops drive growth, because the product is truly awesome, while in other cases growth occurs for, well, different reasons. As an example of good growth, it’s hard to top PayPal’s viral success in the late 90s. PayPal knew that once users started sending money to each other, mostly for stuff bought on eBay, they would infect one another. The allure that someone just “sent you money” was a huge incentive to register.

PayPal nailed virality. Both sides of the transaction benefited from utilizing the platform and a classic network-effects business was born. In order for users to get what they wanted, they had to open an account and the product spread because it was useful and viral.

However, sometimes viral loops are less about the customer’s interests and more about short-term greed. When the product maker intentionally tricks users into inviting friends or blasting social networks, they may see growth, but it comes at the expense of goodwill and trust. When people discover they’ve been tricked, they vent their hatred and stop using the product. Unfortunately, we’ve all encountered the ways companies drive growth in deceptive ways known as “dark patterns.”

Viral Oops

Good and bad growth is relatively easy to identify. What is harder to decipher is the gray zone in between. A “viral oops” occurs when users unintentionally invite others, but when they look back on what happened, they blame themselves, not the app.

When MessageMe pre-selects everyone in my contact list as a default, I’m likely to think that only those who are un-checked will be invited. However, the opposite is true. With two taps, my list of hundreds of contacts gets swamped with a notification email personalized from my email account.

Could users really make such a mistake? After all, the send button is clearly labeled with the number of people who will be invited. I am also well aware of the convention that a check mark means the contact is selected and not the other way around.

However, say I was not in UX businesses? What if I were a tech novice living outside our little Silicon Valley bubble? What if I were slightly far-sighted? Or perhaps if English were not my first language (it isn’t)? Or maybe if I were attempting to make a quick decision while outdoors and couldn’t clearly see my dim screen? In any one of these scenarios, I could have easily triggered a viral oops.

The surprising math of viral growth reveals it doesn’t take many users to make this kind of mistake. Only 5 percent of users screwing up can get an app to a million downloads in two weeks, assuming the average user has 200 people in their contact list. The assumptions are for illustrative purposes (see note at bottom) but the point here is to show how powerful exponential growth can be, whether or not it is intentional.

Who Really Gets Tricked?

Admittedly, a careful review of the interface would reveal the user’s mistake. It’s hard to fault MessageMe. Though my requests for an interview were not returned, I assume their intent was not to trick anyone.

However, the example illustrates what makes the viral oops so troublesome. It is impossible to look into the minds of customers while they use an app. For all I know, MessageMe users intend to send the app to every single one of their contacts. But how would the app maker know if it was done in error? They wouldn’t.

A viral oops not only deceives the user, it fools the developer.

Unlike an intentionally deceptive technique, where the user gets angry and stops using the product or uninstalls the app, with a viral oops, users blame themselves. They’ll most likely keep the app and move on with life. With no metric indicating the user’s unintended mistake, the app maker is none the wiser.

A viral oops not only deceives the user, it fools the developer. There is no way to know if the invite was sent in error. Without an understanding of why users share the app, developers are liable to gloss over significant shortcomings that must be addressed for the app to achieve long-term success. Given how easy it is for us fallible humans to believe convenient truths, it is too enticing to interpret growth as validation instead of a mirage.

MessageMe just happens to be the latest hyper-growth app making headlines; I could have picked any number of other cases. In researching this article, I discovered multiple examples of the viral oops in companies large and small, and I’m sure the comments section will uncover others.

Developers should make sure they know why people are sending invitations to others and not be guided by growth for its own sake. App makers would be wise to be particularly careful in encouraging people to invite others before users really know how the app works. For example, prompting invites at first login is a remarkably common and potentially specious practice.

For creative people working on exciting new technologies, growth feels great. But we should be cautious of using techniques that have a high likelihood of being viral oops instead of viral loops.

–

Note: The virality math assumes a starting base of 1,000 users and a daily cycle time of 1 with a 10% invitation acceptance rate.

Thanks to Jules Maltz and Max Ogles for reading previous versions of this essay.

Photo Credit: Mel B

On November 13, 2012, Bill Gurley, a partner at Benchmark Capital, posted a remarkable essay on his blog. In it, he described the, “10 factors to consider when evaluating digital marketplaces.” Given the tremendous value marketplaces create and how hard they are to get right, I found this essay to be a goldmine of insight.

I teamed-up with my friend and blogger Sangeet Paul Choudary, to digest Bill’s post into a more memorable format. The result is this brief checklist we hope will help take some of the luck out of evaluating marketplace businesses.

As Bill wrote, “It is unlikely that you will find a marketplace opportunity that would score ten out of ten with respect to this list.” But according to Bill, the odds of success improve the more of these characteristics the business exhibits.