Post-Product Market Fit: Happily Ever After or Just the Beginning?

by Andrew Perlmutter

Until yesterday’s class on Chegg, I thought all of the complicated dimensions of lean startup methodology revolved around getting to product-market-fit. These issues include (1) the tension between being hunch-driven and being data-driven early on, (2) having difficulty determining whether you have actually achieved product-market-fit, (3) pivoting too much (or too little), (4) identifying whether your business fits into the special set of companies that should scale prior to achieving product-market-fit, and (5) knowing when to raise additional capital.  However, I thought everything cleared up once the business reached product-market-fit. You raise money, scale the business, and become a significant business. Game. Set. Match.

Of course there are several aspects of the business that still need to be sorted out once you start scaling. For example, as the class learned from a very insightful presentation given by David Skok, the business must figure out how to build a cost-effective sales and marketing machine. And the Mochi Media case revealed that even after scaling, some businesses must add features that better monetize their customers. Addressing these issues involve action-steps such as tweaking the business’ conversion funnel and adding virtual currency to the business’ product set. While these actions are important, they are tweaks rather than fundamental changes to the business model.

And then we discussed the development of Chegg. Here’s my version of Chegg’s history thus far:
  1. Chegg started as a marketplace for college students but was not successful.
  2. With funds running out, Chegg pivoted to exclusively renting textbooks and saw positive results in 2007.
  3. With these results, Chegg raised more money and fully proved that the business had reached product-market-fit in 2008 by generating $10 million in revenue.
  4. At that point, Chegg raised “foot-on-the-gas-pedal” money and scaled the business to revenues of $135 million in 2010.
  5. Yet, despite scaling in a major way, Chegg faces great uncertainty both because new competitors have entered its market, and more importantly, because the market and its entire value chain is about to undergo a major transformation.

Step 5 completely upended my view of lean startup methodology. Once the business scales, everything is supposed to work itself out. However, it is only a matter of years before Chegg’s core business of renting printed textbooks vanishes entirely. This situation is very problematic because Chegg has already sunk a lot of money into the ground to scale this soon-to-vanish core business. Running it’s massive warehouse and intricate infrastructure is very expensive and necessarily influences all of the decisions the company will make. For example, even though the founders seek to transform the business into a one-stop shop for all of the academic needs of college students, they still plan for textbook rentals to remain at the core. But of course this is the plan: no one would build an expensive and currently scalable operation only to turn around and blow it up (exceptions: Netflix, IBM, others?).

And it is precisely this fact that slows them down and creates the opportunity for new startups to step in and eat their lunch. In other words, the founders know they must pivot, but because they are no longer lean, they are unable to pivot with speed and agility. Even if the founders do decide to blow up their current operations to meet the changing landscape, they will have to build a completely new set of capabilities. This is a scary prospect because it is very difficult for an established business, with personnel and processes tailored to specific business needs, to reinvent itself. Once again, this opens the door for new entrants.

Perhaps I am overstating the severity of situation that Chegg currently faces. The business is viral, provides high-quality service, and has garnered great customer loyalty. This suggests that switching costs may be very high. Moreover, it may be a decade before eTextbooks make the printed variety obsolete. In other words, it is entirely possible that Chegg will be a big winner.

However, the threat / opportunity created by the digital frontier has made be realize that successfully scaling the business is nowhere close to being the end of the startup story.