If you want to get rich, the irony is that small markets are often better than large ones.
Sometimes I am asked “why are you still in Singapore?” The question behind the question is: “Cedric, I want to aim for a billion dollar outcome. I cannot imagine being a founder if the upside is not at least a billion dollars. Why are you still in Singapore, where the upside is so small?”
I suppose another point I should have clarified in this piece is that small markets don’t necessarily mean local markets — you could be in a niche market that also happens to be global. Much of the Mittelstand is like this, for instance. The important thing is that your market is contained, and you have some advantage that ensures a continued hold on it. Knee, of course, argues that this is mostly some kind of (relative) scale advantage. His argument is worth taking seriously.
My first thought, which I’d love to get your reaction to, @cedric , is a contrast with effectuation. In Action Beats Prediction, you quoted Sarasvathy:
In fact, several of the expert entrepreneurs I studied explicitly stated that being in a market that could be predicted was not such a good idea, since there would always be someone smarter and with deeper pockets who would predict it better than they could. But being in an unpredictable market meant that the market could be shaped through their own decisions and actions working in conjunction with pre-committed stakeholders and customer-partners.
To me, Knee’s analysis presented in this article seems to assume that markets are more-or-less fixed. Whereas the entrepreneur assumes that his own actions will influence and change the market, and hopefully to his benefit.
Does Knee take into account things like innovation or disruption that change the texture of markets?
Knee does take innovation or disruption into account, because the book focuses on analysing the defensibility of platform companies in the digital world. But in this particular case/chapter, he doesn’t — he merely provides an analytical framework to explain why certain markets like these exist. I found this incredibly helpful because I’d been searching everywhere to explain the supernormal returns my old company and boss enjoyed, but I couldn’t find anything … for years. And then I met George Ho, and he pointed this out to me, and I was like “Ahhh … yes. This makes sense.”
I think you can reconcile Sarasvathy’s and Knee’s views this way: you can recognise these dynamics that Knee describes in existing markets once they emerge. However, the journey to discover that market and realise that these dynamics are possible is definitely effectuation.
Take my old company as an example. We had no idea the end point would be this defensible, stable market state that allows for reliable annual returns. (Well, not for me, but for my boss.) And that’s ultimately why we had a shot — nobody knew this configuration was stable, and we faced sloppy, low-skill competitors.
My favourite cc article so far!, helps to explain why we have so many wealthy SME owners and they are not getting disrupted by bigger companies. Also to add-on, there are also regulatory opportunities that can help build and maintain this advantage I.e when your company is better than your competitors at understanding, navigating the regulations and profiting from it.
Also one of mine! Been thinking about it ever since. I’ve been so steeped in startup culture/expectations, excited to dig a bit more into this side of the business world. The book looks great outside of this chapter too.
I do recommend reading Hidden Champions — that’s probably more aligned with the ‘small-to-medium-sized companies that are super successful’
But, yes, The Platform Delusion is really not bad, as I’ve mentioned elsewhere.
@cedric Curious what is your takeaway is if you operate in a very fragmented medium sized market? In healthcare services in the US there is often a long tail of profitable companies able to meet the definition of the owner being able to dividend out a few million annually to themselves. Maybe services businesses are a bit of a different animal in comparison to the product based businesses discussed here?
This is a super interesting scenario.
I like how Knee’s framework is out there now, so we can use it as a jumping off point to discuss other market structure setups.
So I’m willing to bet there’s some kind of:
I don’t think this is necessarily a services vs product company dynamic. Some types of services business can benefit from supply-side scale economies. Similarly, I can think of one or two services businesses in Singapore where the principals pull out single digit million high six digits in cash each year, and there’s no moat — but both operate in such small, overlooked niches that they don’t experience competitive arbitrage for say 20 years, because not enough folks know that it’s lucrative to compete.
Edited because I’m wrong: these are not million dollar businesses in terms of owner earnings!
There has been a lot of private equity rollups in markets like the US and Europe, where you buy up hundreds of business in waste management or vets or dentists or whatever and consolidate. More recently VCs started doing AI rollups, where you use AI to manage these businesses more efficiently. Heartland Dental bought thousands of dental practices for example. These consolidate lots of small local markets into larger businesses. And often increase prices and grow monopoly powers…
The distortion in pricing is real because the consumer of services (the patient) is typically not bearing the cost of the service - their health insurance payor is, and by proxy their employer is. This dynamic + local monopolies from Health Systems often leads to crazy pricing like $1,000 billed for a toothbrush and $400 for a box of tissues (PPOs and the $444 Box of Kleenex | Insurance Thought Leadership) as part of $180,000 surgery bills. These pricing dynamics in the industry cascade down to smaller provider groups.
Additionally, US licensing boards artificially constrict the supply of providers to maintain a supply / demand imbalance that keeps prices high.
However, the long tail of industries that allow for millions to be pulled out annually extends outside of the medical field in USA. There is a whole eco-system of micro private equity, called Search Funds that targets buying companies that generate hundreds of thousands to low millions in EBITDA. Stanford tracks how these investments perform and they have been the one of if not the highest returning asset class with an average internal rate of return (IRR) of 35.1% across companies studied - https://www.gsb.stanford.edu/faculty-research/case-studies/2024-search-fund-study. There are a variety of businesses (roofing / HVAC / landscaping / micro-SaaS / Health Care Services) that are popular search targets.
Maybe this is a function of how wealthy, and expensive, America is?