Interview Hamilton Helmer & Chenyi Shi on How to Build an AWSLike Second Business

In this insightful episode of Acquired, hosts Ben Gilbert and David Rosenthal, alongside guests Hamilton Helmer and Chenyi Shi, delve into the strategic considerations companies must navigate when expanding their business scope. They discuss the importance of understanding a company's core source of power and how leveraging existing strengths can significantly reduce the risks associated with entering new markets or launching new products—a concept they term "co-action." They also highlight the perils of pure diversification, where companies venture into areas without leveraging their existing capabilities or customer needs, often leading to failure. The conversation underscores the dynamic nature of strategy, emphasizing the need for granular understanding and the entrepreneurial spirit in decision-making. The episode also touches on the complexities of platform economies, the interplay between scale and network effects, and the critical role of timing and distinctive capabilities in successful business transformations.

• Hamilton Helmer questions whether the topic discussed is related to scale economies or network economies.
• Ben Gilbert confirms the relevance of the question.
• Hamilton expresses uncertainty about the answer, prompting Jenny (Chen Yi) to take the lead.
• David Rosenthal indicates that the experts have been stumped by the question.

"Oh, I'm sorry. Before you keep going, is this going to be a question of is this a scale economy or network economy?" "Yes." "Oh, damn. Go for it, Jenny. Because I don't know the answer."

The exchange between Hamilton and Ben sets the stage for a discussion on the nature of the economy being addressed, with Hamilton unsure of whether it pertains to scale economies or network economies. Chen Yi is then encouraged to provide insight.

• Ben Gilbert introduces the special episode of Acquired.
• David Rosenthal is co-hosting alongside Ben.
• Ben shares the origins of Acquired, stemming from two podcast ideas, one of which was focused on grading technology acquisitions.
• The second idea evolved into episodes discussing companies with multiple multi-billion dollar innovations.
• Hamilton Helmer and Chen Yi have been exploring similar concepts, focusing on profits from secondary business lines and expansion strategies for companies.

"Welcome to this special episode of Acquired, the podcast about great technology companies and the stories and playbooks behind them. I'm Ben Gilbert." "I'm David Rosenthal, and we are your hosts."

Ben and David introduce themselves and the theme of the episode, which revolves around companies that have developed multiple significant innovations. They mention Hamilton and Chen Yi's work on related topics.

• David highlights the timeliness of the episode, given recent coverage of companies like Amazon, LVMH, and Nintendo.
• He points out the transformation of these companies and their various business lines.
• Ben mentions the upcoming interview with Hamilton and Chen Yi, which will delve into these themes.

"And this is a particularly interesting time to do this episode with them because I feel like a bunch of the companies we've covered recently on the show, this has been, like, a key part of the story, whether it's Amazon and AWS or LVMH and how all the businesses, LVMH itself, have been transformed over the years."

David explains why the episode's focus on company transformations and secondary business lines is particularly relevant, referencing the evolution of large companies that have been discussed on the show.

• Ben invites listeners to become Acquired Limited Partners (LPs) for deeper engagement.
• He discusses the benefits, including bimonthly Zoom calls and input on future episodes.
• The Acquired community on Slack is highlighted, with over 15,000 members.
• Ben encourages more listeners to join the Slack community.

"Well, if you want to go deeper, you can become an acquired LP. To come closer into the acquired kitchen, we have bimonthly Zoom calls, and we just announced that we'll be asking our lps to help us pick future episodes."

Ben promotes the Acquired LP program, which offers listeners a chance to engage more closely with the podcast's content and community.

• Pilot is announced as a sponsor, providing accounting, tax, and bookkeeping services for startups and growth companies.
• Pilot's growth to a billion-dollar firm is noted, with backing from Sequoia, Index, Stripe, and Jeff Bezos.
• The importance of startups focusing on their core product and outsourcing non-core functions like accounting is emphasized.

"Our next sponsor for this episode is one of our favorite companies and longtime acquired partner pilot for startups and growth companies of all kinds."

Ben introduces Pilot as a sponsor, explaining the company's services and its relevance to the startup ecosystem.

• The show includes a disclaimer that it is not investment advice.
• Ben and David may have investments in companies discussed.
• The show is intended for informational and entertainment purposes only.

"Without further ado, this show is not investment advice. David and I may have investments in the companies we discuss, and this show is for informational and entertainment purposes only."

The disclaimer clarifies that the podcast should not be used as investment advice and that the hosts may have personal investments in the companies they discuss.

• Hamilton and Chen Yi are welcomed back to Acquired for the third time.
• David suggests discussing the background of the "seven powers" framework to familiarize new listeners.
• Hamilton agrees to share insights on the framework and its development.

"Hamilton and Chenyi, welcome back for the third time to acquired." "Our pleasure. This all is great to be here."

David welcomes Hamilton and Chen Yi back to the show, setting the stage for a discussion on the "seven powers" framework.

• Hamilton Helmer speaks about the significance of the entrepreneurial sector for economic vitality, citing economist Joseph Schumpeter.
• Helmer's interest in contributing to entrepreneurship through his expertise in business strategy is expressed.
• The challenge of providing useful strategic insights to entrepreneurs is discussed.

"Yeah, delighted to do that. So, as I've said, I think on other episodes, my understanding as an economist is that ground zero for economic vitality is the strength of the entrepreneurial sector."

Hamilton shares his perspective on the critical role of entrepreneurship in driving economic growth and his desire to support entrepreneurs through strategic guidance.

• Hamilton contrasts the success of the iPod with the Beaumar, the first handheld calculator in the U.S.
• The example illustrates the difference between initial success and long-term profitability.
• The discussion highlights the importance of strategy beyond innovation.

"Up two devices, see, that's the iPod with the touch wheel, and I have no idea. Is that calculator?" "Right? So that's the first handheld calculator in the United States, Beaumar."

Hamilton uses the example of the iPod and the Beaumar to demonstrate how a strong initial product-market fit does not guarantee enduring success, emphasizing the role of strategy.

• Hamilton discusses the persistence of profitability among successful companies.
• The concept of economic structures that create attractive outcomes is introduced.
• The challenge of creating a simple yet comprehensive mental model for entrepreneurs is addressed.

"And so that persistence tells you that there are economic structures that create attractive outcomes. And you then ask the question, can you generalize about those?"

Hamilton explains that the persistence of a company's profitability suggests underlying economic structures that can potentially be generalized into a strategic framework.

• Hamilton presents the "seven powers" as the structures that lead to long-term business success.
• He emphasizes the need for the framework to be both simple to remember and exhaustive in coverage.
• The discussion touches on the limitations of other strategic frameworks, such as Porter's five forces and Christensen's disruptive technologies.

"And so, after looking at that for decades, my conclusion was that actually it is simple. There are only seven of them."

Hamilton introduces the "seven powers" framework as a distilled set of principles that guide businesses toward sustained success, contrasting it with other strategic models.

• Hamilton uses Porsche's 911 model as an example of a durable business model.
• The discussion focuses on how Porsche's consistent design allowed for ongoing performance optimization.
• The importance of fixed cost investments in maintaining a competitive edge is highlighted.

"Porsche is a great example here, which is. Oh yes, think of that. The 911, first one came out in 1964, 60 years ago."

Hamilton uses Porsche's strategy with the 911 model to illustrate how a consistent design can contribute to a powerful and profitable business model over time.

• Chen Yi reflects on the utility of the seven powers framework as a cognitive leverage for founders.
• The framework helps identify the crucial strategic questions to focus on.
• Chen Yi notes the ongoing development and exploration of the theory.

"Add on to the perspective of a student of the seven Powers framework, not the creator of that."

Chen Yi provides insight into how the seven powers framework serves as a tool for founders to prioritize their strategic thinking and decision-making.

• Hamilton distinguishes between business strategy and corporate strategy.
• The concept of synergy in a multi-business corporation is explored.
• The discussion introduces the transforming question of corporate strategy.

"Business strategy is how to find power, if you will, in what you would think of as a single defensible entity. And corporate strategy is how you think about strategy in a multi business unit corporation."

Hamilton explains the difference between business strategy, which focuses on finding power within a single entity, and corporate strategy, which deals with the strategic rationale for multiple business units within a corporation.

• Transforming businesses is crucial for long-term success.
• A significant portion of profits for large companies comes from ventures outside their original business model.
• The technology sector is particularly notable for successful transformations, such as AWS and the iPhone.
• Understanding the dynamics of transformation is key to creating and sustaining successful businesses.

"So there are really three reasons that we think about this. The first is that if you're interested in creating businesses, it's important. [...] So I did a study once of the s and P 100 largest market cap companies in the world and looked at if you pulled apart their value and looked where their profits came from, and you asked the question, what share of their profits came from businesses that wasn't their original business, what would you think if you were asked that, can."

The quote highlights the importance of diversification in business, where companies derive significant profits from areas outside their original business model, suggesting the value of transformation in sustaining and growing a business.

• Transforming a business is challenging due to issues of motivation and understanding.
• Founders may not appreciate the complexities involved in their success and may incorrectly attribute success to their own actions rather than external factors.
• The venture capital community's focus on top-line growth can overshadow the importance of profitability and sustainable business power.
• Understanding the nuances of why a business is successful is crucial for successful transformation.

"And then on the people that often sit on their boards or finance them, there's also a dissonance, which is that if you think of the VC community, the business model in vcs is you find really interesting things to invest in and then hopefully they go up in value and then there's an exit which you profit from that increase in value, which is just this wonderful engine."

This quote explains the venture capital model and its potential misalignment with the long-term power and profitability of a business, highlighting the complexity of managing business transformations.

• Understanding a company's power is essential for predicting its long-term success and value.
• Power dynamics help in assessing the potential of new ventures and the ability to capture value.
• The concept of business definition is crucial in determining the boundaries of a company's current business and potential for transformation.

"So three things, it's important, it's hard to get right, and power matters."

This quote succinctly summarizes the three key reasons why transformation is a critical topic for businesses: its importance in growth, the difficulty of achieving it correctly, and the significance of understanding power dynamics.

• Common narratives around growth, such as customer obsession and expanding TAM, lack conclusive evidence of ensuring success.
• The popularity of certain business strategies does not guarantee their effectiveness in every situation.
• There is a distinction between creating economic value and capturing it for the company, which is often overlooked.

"So in other words, you can't say if you do x, you are most likely to succeed, right? Like for example, there's this whole school of thought around marketing myopia that says you should define your industry definition widely."

This quote challenges the notion that there is a one-size-fits-all approach to successful business transformation, emphasizing the need for a nuanced understanding of value creation versus value capture.

• The potential for successful transformation is tied to a company's existing base of power.
• Assessing new market segments involves determining if they fall under the company's current power umbrella.
• The risk-reward calculation for transformation is more favorable when extending existing power to new areas.

"The key thing there is, if you have an established business, is the drivers of power in that extensible to that additional segment you're considering, whether it's geographic or customer or whatever."

This quote emphasizes the importance of understanding the transferability of a company's existing power when considering expansion into new markets or segments.

• Scale economies, network economies, and switching costs are common power types that early-stage technology companies might possess.
• Counter positioning is effective against incumbents but not against new market entrants.
• Mature businesses may develop additional types of power, such as process power or brand power.

"I think particularly for earlier stage companies, the three most common power types that you would find are scale economies, network economies, and switching cost."

The quote identifies the most prevalent forms of power that early-stage technology companies can leverage for successful business transformation and expansion.

• The core power prospect of a business is essential in determining the rationality of international expansion.
• Uber's core power was initially perceived as scale economies due to technology framework, but it's actually customer acquisition and maintenance.
• Understanding where core business power lies can significantly affect strategic decisions on business transformation and expansion.
• Network economies are geographically bounded, making each new market entry akin to starting a new business.

"If the core power prospect of Uber is actually scale economies... then international expansion would have been totally rational... But the truth is, it's not."

The quote explains that if Uber's advantage was in scale economies, international expansion would spread fixed costs over more geographies, which would be beneficial. However, since Uber's actual cost majority lies in customer acquisition, expanding geographically does not leverage their core power.

• Localized networks provide a durable competitive advantage as they are not easily transferable to new geographies.
• Companies should consider leveraging their network within their strongholds before expanding to new areas.
• Uber Eats is an example of leveraging a network in a new way, but it may not fully capitalize on the existing ride-sharing network.

"If I was operating an Uber like service, I have this power... that means nothing where David is in San Francisco."

This quote highlights the local nature of network-based competitive advantages, suggesting that companies should seek to maximize value within their existing networks rather than assuming these advantages transfer to new locations.

• Ride-sharing and food delivery networks have overlapping elements, but they are not fully congruent.
• Customer and driver bases for Uber and Uber Eats are different, leading to separate apps for each service.
• The complexity of business phenotypes requires nuanced understanding to determine if there is an actual power in the overlap.

"So you actually have like two overlapping, two-sided networks, but not a fully overlapping on either side of the network."

This quote emphasizes that while there may be some common elements between ride-sharing and food delivery networks, they are distinct enough to warrant separate strategies and management.

• Microsoft's platform has high user affiliation costs, which extends to demand for productivity software.
• Microsoft Teams competes with Slack due to Microsoft's existing network power and lower incremental costs for users.
• Competitive advantage from incumbents can pose significant challenges for new entrants like Slack.

"Microsoft's network scope basically extends to whatever demand my user side would have without incurring more cost on their end."

The quote explains how Microsoft's existing user base and platform allow it to extend its network power into new product areas like chat services with minimal additional costs, creating competitive challenges for companies like Slack.

• Understanding the power of a current business is crucial for risk-adjusted transformation strategies.
• If a new venture cannot build on existing power, it's akin to starting a new business with some possible repurposed assets.
• Successful transformation often requires leveraging skills or satisfying similar customer needs, but pure diversification is high-risk.

"If you can build off of that [current power], it creates a wildly preferable risk-return prospect for something you're getting into."

The quote underscores the strategic advantage of expanding into areas that build on a company's existing power, as it significantly reduces the risk and potentially increases the return on new ventures.

• Hamilton Helmer categorizes expansion strategies into pure diversification, reinvention, and co-action based on skills and needs.
• Pure diversification, with neither the same skills nor needs, is high-risk and rarely successful.
• Reinvention involves the same needs but different skills and requires overcoming internal resistance.
• Co-action, with shared skills but different needs, accounts for the majority of value creation and is the most promising strategy.

"If it has neither the same skills nor the same need, I just call that pure diversification. And rarely does that work."

This quote defines pure diversification as an expansion strategy that does not leverage a company's existing skills or customer needs, highlighting its associated high risk and low success rate.

• Invention is risky and should be a last resort if existing power cannot be leveraged.
• Co-action is the most likely path to success, using existing skills for different customer needs.
• Amazon's diversification into AWS is an example of successful invention, but also illustrates the high risk of such ventures.
• Continuous successful invention is nearly impossible, indicating the importance of strategic alignment with existing capabilities.

"There's really no track record of a business who can continuously come up with successful invention. And that speaks to the riskiness of that, which is why it's only the point number three and number four on the list."

The quote highlights the inherent risks of invention and the rarity of continuous success in creating entirely new ventures, underscoring the importance of aligning new business initiatives with existing strengths.

• Apple's product developments like the iPod, iPhone, iPad, and AirPods exemplify co-action.
• Apple's foray into automotive, which requires new skills and capabilities, is closer to pure diversification and has faced challenges.
• Co-action has been Apple's successful strategy, suggesting that leveraging related capabilities is a more reliable path to new product success.

"That's closer to pure diversification. Right?"

This quote reflects on Apple's attempt to enter the automotive industry, which is a departure from their usual co-action strategy and represents a move towards pure diversification, which is typically riskier and less aligned with the company's existing capabilities.

• Businesses often share a spectrum of skills that can be transferred between similar products or markets.
• Toyota's ability to manufacture different types of cars is an example of high skill sharing.
• However, moving from one industry to a vastly different one, like from cars to refrigerators, involves significantly less skill sharing.

"If you're in the car business, if you go from green cars to red cars, you have almost 95% shared skill. Go from luxury cars to compacts, high sharing. So Toyota can do it. Go from cars to tanks, pretty different. And then if you go from cars to refrigerators, it's really different."

This quote explains the concept of skill sharing within industries and how it decreases as the products or industries become less related. Toyota's ability to produce different types of cars with high skill sharing is contrasted with the significantly different skills needed to produce tanks or refrigerators.

• Entrepreneurs are central to innovation and the creation of new products or services.
• The role of entrepreneurs is not just mechanical; there is a significant element of human creativity involved.
• Tools and frameworks for pattern recognition are helpful, but they cannot replace the inventiveness of entrepreneurs.

"But remember, too, not to forget the importance of the entrepreneur in this, because they are the locust of inventiveness, and it doesn't happen without them."

This quote highlights the critical role of entrepreneurs in driving innovation and the creation of new ventures. It emphasizes that while tools can assist, they cannot substitute for entrepreneurial creativity.

• When acquiring a company, it's essential to determine why the acquisition is more valuable to the buyer than to the seller.
• Information asymmetry is always present, with the seller knowing more about the asset.
• Acquisitions often result in the seller benefiting significantly, while acquirers may only break even.
• Antitrust authorities are concerned with acquisitions that strengthen scale economies and could be anti-competitive.
• Discipline is required in acquisitions to avoid the pitfalls of perceived cost savings that don't materialize due to diseconomies of scale.

"If you're acquiring a company, the primary question you have to ask yourself is, why is this worth more to me than to the seller?"

This quote encapsulates the central question in acquisitions, focusing on the value proposition for the buyer and the necessity of understanding the true worth of the acquisition beyond surface-level financial metrics.

• Successful acquisitions often involve finding new revenue streams rather than just cost savings.
• Cost savings are limited, while new revenue potential is unlimited.
• Examples include Disney's acquisition of Lucasfilm, Marvel, and Pixar, which allowed for the full exploitation of underutilized franchises.

"One of David and my learnings from doing our episode, the acquired top ten, the best acquisitions of all time was, there are exceptions, but most of the time, something is a wildly successful acquisition. It is because you're able to find more revenue rather than find cost savings, because cost savings are capped, whereas new revenue has unlimited upside."

This quote explains that while cost savings are finite and can only go so far, the potential for generating new revenue through acquisitions is limitless, which often leads to more successful outcomes.

• Enterprise software acquisitions can be successful when the acquired product integrates well with the buyer's existing sales structure.
• Such acquisitions may not always result in the highest magnitude of success, but they have a high likelihood of succeeding due to the integration with existing high switching cost structures.

"Acquisitions are enterprise software acquisitions where a product is bought by one of the top enterprise software salesforces, call it Microsoft, Oracle or Salesforce or the like, and then they plug it into the salesforce."

This quote discusses the strategy behind enterprise software acquisitions, where the value lies in integrating the acquired product into a powerful existing salesforce, leveraging the established customer base and sales channels.

• Switching costs can create a competitive advantage but also lead to a market with high switching costs and no profits if competitors invest heavily in customer acquisition.
• Strategic challenges include acquiring customers without fully arbitraging out the expected profit stream from them.
• Failing to exploit a company's power umbrella can create competitive openings for others.

"And so that's why if you have switching costs, the key strategic challenge is to acquire customers when the cost of a customer does not fully arbitrage out the profit stream that you would expect from them, right?"

The quote emphasizes the importance of acquiring customers in a way that does not eliminate the potential profit due to high acquisition costs, which is a strategic challenge in markets with significant switching costs.

• Understanding the business definition and the extent of a company's power umbrella is crucial for expansion.
• Expanding into areas where the company's power extends is more attractive than starting something entirely new.
• Missing the full extent of a business's potential can lead to missed opportunities and competitive disadvantages.

"So point one, go to business definition. Think very hard about where your power umbrella is. Two, that if it does extend into an area you're considering to go there because it's really attractive."

This quote advises companies to thoroughly understand their business scope and power to make strategic decisions about expansion, emphasizing that leveraging existing strengths is more advantageous than venturing into completely new territories.

• There is a debate about the boundaries and relationship between scale economies and network economies.
• Understanding the structural economic conditions that create these economies is crucial for business operators.
• Time may be a variable that needs to be introduced to understand the relationship between scale and network economies fully.

"But the structural economic conditions that create it are quite different. And understanding those, if you're a business operator, is really important because then you're less likely to get taken out by your credit."

This quote highlights the importance of understanding the underlying economic conditions that lead to scale and network economies, as this knowledge is vital for maintaining a competitive edge and avoiding being outperformed by competitors.

• There is ongoing work to tease out and delayer complex business topics.
• The possibility of writing a book or publishing white papers on these topics is being considered.
• The theoretical understanding of business strategies is an ongoing process, with new insights continually emerging.

"Well, what we're talking about right now is there are a variety of topics that are extremely difficult, phenotypes, if you will, to tease out and delayer. And we seem to have enough of those that actually we probably could write a book about it."

This quote suggests that the depth and complexity of the topics discussed could warrant a more comprehensive publication, such as a book, to delve into the nuances and provide more detailed insights.