Summary of Zero To One: Notes on Startups, or How to Build the Future Part I

Posted 22 March By PlugAdminOtherNo Comments

 

Below are excerpts from the book summarized to preserve the essence of the novel, at a shorter length.

Summary of Zero To One: Notes on Startups, or How to Build the Future by Peter Thiel and Blake Masters | Part I

 

“This book is about the questions you must ask and answer to succeed in the business of doing new things: what follows is not a manual or a record of knowledge but an exercise in thinking. Because that is what a start has to do: question received ideas and rethink business from scratch.”

 

 

 

  1. The Challenge of the Future

The author starts off with on a deeply philosophical note, by asking the following question: what important truth do very few people agree with you on? Most answers to the contrarian question are different ways of seeing the present; good answers are as close as we can come to looking into the future. The notion of future has two truths, first is that it must be rooted in today’s world, second is that its going to be different.

Zero to one: The future of Progress

We all hope that future entails some sort of progress. Both globalization and technological advance are constituents of progress; globalization is a horizontal or extensive progress that entails copying things that we know work (mere replication of a working mechanism such as AC, WiFi, rapidly adopted in developing nations), and technology is a vertical or intensive progress that calls for doing new things (crucial tool that ultimately supports and makes the former possible), as seen in the chart below. “In a world of scarce resources, globalization without new technology is unsustainable,” he says.

Startup Thinking

Startups are responsible for actually coming up with new technology. In our current corporate and bureaucratic, hierarchical environment, it is hard to develop something new. So what you do is you gather a small group of people and convince them to help you change the future.

  1. Party Like It’s 1999

In this chapter, the author goes through the history of the tech bubble.

  1. All Happy Companies Are Different

As a company, it is crucial to create value as well as become valuable. To understand the difference, let’s look at the case of the U.S. airlines. In 2012, a $160 billion airline industry made 37 cents on every $178, the average price of a ticket. That same year, Google, a mere $50 billion industry in comparison, had profit margins of 21% (more than 100 times the airline’s). Why? Because Google is a monopoly.

The difference between a perfect competition and a monopoly. One being an economic equilibrium, where supply matches the demand, products are homogenous, and the market determines the price. In this scenario, no company makes economic profit. In a monopoly, however, the exact opposite is true. There is only one firm that owns the market and thus sets the price and quantity it desires to maximize profit.

Lies People Tell

In reality, both monopolies and perfect competition businesses tend to lie about the truth. Monopolies lie to protect their monopolistic status and competitive industries understate the scale of competition (e.g. Indian restaurant in Palo Alto, seemingly narrow market but in fact facing competition of any other eatery in Palo Alto and the nearby area). Non-monopolists also exaggerate their distinction by defining their market as the intersection of various smaller markets, such as British food Ç restaurant Ç Palo Alto. Monopolists, by contrast, disguise their monopoly by framing their market as the union of several large markets, such as search engine È mobile phones È wearable computers È self-driving cars.

Ruthless People

In business, money is either an important thing or it is everything. Monopolists can afford to think about things other than making money; non-monopolists can’t. In perfect competition, a business is so focused on today’s margins that it can’t possibly plan for a long-term future. Only one thing can allow a business to transcend the daily brute struggle for survival: monopoly profits.

Monopoly Capitalism

It is important to point out that while monopolies do make their profit at the expense of a society, the markets they are in are not static, they’re always changing. These profits provide huge incentives for monopolies to improve upon existing products and the governments support them in doing so by granting patents. Monopolies, therefore are the main drivers of innovation.

  1. The Ideology of Competition

As a society, were taught to praise the ideology of competition, we compete for better grades, schools, and then jobs.

War and Peace

In this chapter, the author shows that it is very easy to get wrapped up in intense competition, just for the sake of competition and lose sight of the macro perspective. In case of Oracle versus Infofmix. Philip White, CEO of Infofmix, got so wrapped up in the ad war that soon after Infofmix got involved in a scandal, he ended up in prison for securities fraud. The case of former rivals PayPal and Elon Musk’s X, on the other hand, shows how to detach. The two companies soon realized that the tech bubble poses a much bigger threat than each other and decided to merge with a 50-50 deal and thus, were able to remain stable during the dot-com crash.

  1. Last Mover Advantage

The value of a company derives strictly from its future potential. In case of The New York Times Company vs Twitter, similar in size and mission to deliver news to the mass public, Twitter is valued at a 12x multiple. Such high premium is attributed to Twitter’s ability to generate cash flow in the future. In general, tech companies spend their first operating years building the value and losing money, hoping to become profitable in the future. They must also be durable. It is easy to get wrapped up in short-term growth measurements like weekly user statistics and monthly revenue targets. It is much harder to gain repeat customers (something Groupon wasn’t able to do). The key is to evaluate whether your business will still be around a decade from now.

Characteristics of a Monopoly

  1. Proprietary Technology. This gives your company a huge advantage of being a single producer of a certain product or service. As a rule of thumb, your proprietary technology should be at least 10 times better than its closest substitute, if you want to have a real monopolistic advantage. For example, as it started out, Amazon offered at least 10 times more books than an average bookstore. Another way to have a true monopoly is to come up with a 10 times improvement on an existing but flawed design. A classic example is Apple’s iPad. The best way, however, is to invent something new.
  2. Network Effects. The power of this tool lies in the number of people using your product. For example, if all of your friends are on Facebook, it wouldn’t make sense for you to join a different social media platform. Network effects businesses must start with small markets and then gradually grow, much like Facebook did.
  3. Economies of Scale. Fixed costs of creating a product, spread over larger quantities, only strengthens your monopoly. This is especially beneficial for software startups whose cost to replicate a product is next to zero. Service businesses, on the other hand, have difficulty with economies of scale as there’s limit in how many people a single person can provide a service to.
  4. A strong brand can make your monopoly and the best testament to that is Apple. As a brand, it has a strong aesthetic, high-quality materials, and sleek design. But all these factors are also supported by a strong underlying substance in both, hardware and software. Undeniably, strong branding reinforces Apple’s monopoly.

Start Small and Monopolize

Every startup is small at the start. Every monopoly dominates a large share of its market. Therefore, every startup should start with a very small market. Smaller markets (not to be confused with nonexistent markets) are much easier to dominate. A perfect target market for your start up consists of a small group of particular people concentrated together and served by few or no competitors.

Scaling Up

Back in the day, Amazon purposefully started out with selling just books and then slowly and strategically decided to expand into adjacent products (CDs, videos, software) and not the number of users. Through this gradual addition of products, Amazon was able to dominate the online retail market. It takes discipline to expand gradually which makes sequencing markets correctly grossly underrated. To this end, the most successful companies make the core progression—to first dominate a specific niche and then scale to adjacent markets—a part of their founding narrative.

Don’t Disrupt

Disruptive companies often pick fights they can’t win. Napster threatened to disrupt the music recordings industry in 1999. In 2001, they ended up in bankruptcy court. The author makes it clear that start ups should avoid competition as much as possible. Making it your goal to disrupt a powerful industry will do more harm than good.

The Last Will Be First

Contrary to the “first mover advantage” tactic, coming in last will make you more successful. That is if you come in with a great development to a specific market. José Raúl Capablanca put it well that in order to succeed, “you must study the endgame before everything else.”

  1. You Are Not a Lottery Ticket

Does success come from luck or skill? With the phenomenon of serial entrepreneurship and personal testament Steve Jobs, Jack Dorsey, and Elon Musk and their several multi-billion-dollar companies, it is hard to believe that it’s just luck at work. However, all of them claim to be extremely lucky. Jeff Bezos himself attributes Amazon’s success to “incredible planetary alignment” and jokes that it was “half luck, half good timing, and the rest brains.” Unfortunately, there is no way of knowing whether it’s a matter of luck or skill, as there is no experiment that can test a success of a company under different circumstances.

Can You Control Your Future?

So can you really control your future? The author lays out two ways in which you can think of the future: indefinite and definitely, and two attitudes: optimistic and pessimistic. This yields four views:

  1. Indefinite Pessimism (Europe). Europeans are largely pessimistic about their indefinite futures. So what they choose to do is wait for the inevitable crisis and eat, drink, and be merry in the meantime: hence Europe’s famous vacation mania.
  2. Definite Pessimism (China). China is widely pessimistic about the future it knows is going to happen. Every other country is afraid that China is going to take over the world; China is the only country afraid that it won’t. Even with its rapid industrialization, the vastly growing population of China pushes resources prices even higher. There’s no way Chinese living standards can ever actually catch up to those of the richest countries, and the Chinese know it.
  3. Definite Optimism (U.S. 1950s-1960s). This attitude dominated the Western world from the 17th century and through the 1950s and ‘60s. A lot of ambitious projects were completed during that time: in 1914 the Panama Canal cut short the route from Atlantic to Pacific, Empire State Building was started in 1929, Golden Gate Bridge was started in 1933, NASA’s Apollo Program began in 1961 and put 12 men on the moon.
  4. Indefinitely Optimism (U.S.). This point of view has dominated America since 1982; the future will be better, but we don’t know how exactly. An indefinite optimist expects to profit from the future but sees no reason to design it concretely. So he/she rearranges already invented products as opposed to taking the time to build new ones. You can see this in bankers making money by rearranging the capital structures of already existing companies and lawyers resolving disputes over old things.

Is Indefinite Optimism Even Possible?

Indefinite optimism is very unsatisfying; how can the future be better when no one plans for it? Darwin answered this question by stating that progress without planning is what we call “evolution.” In Silicon Valley, its called having a “lean startup,” that can adapt and evolve to an ever-changing environment. All entrepreneurs are taught to listen to what customers say they want and make a minimum viable product. But leanness should not be a goal. Making small changes that already exist might lead you to a local maximum, but it won’t help you find the global maximum. Iteration without a bold plan won’t take you from 0 to 1. Darwinism may be a fine theory in other contexts, but in startups, intelligent design works best.

The Return of Design

All great entrepreneurs are designers, they’re great at designing their businesses. Careful long-term planning is underrated but both Steve Jobs and Mark Zuckerberg were both careful planners. Unfortunately, this makes it harder to value the company: those without concrete plans are undervalued and those with robust plans simply don’t sell. A business with a good definite plan will always be underrated in a world where people see the future as random.

You Are Not a Lottery Ticket

A startup is the largest endeavor over which you can have definite mastery. You can have agency not just over your own life, but over a small and important part of the world. It begins by rejecting the unjust tyranny of Chance. You are not a lottery ticket.

  1. Follow the Money

Money makes money. Never underestimate the power of exponential growth. The Pareto principle, or the 80-20 rule, shows that monopolies capture more values than millions of undifferentiated competitors. We don’t live in a normal world; we live under a power law.

The Power Law of Venture Capital

Venture capitals raise funds from institutions and wealthy people, invest it in promising start ups in exchange for 20% of the returns, give them 10 years, and hope for an acquisition or an IPO. Even though most venture-backed companies fail, VCs still hope the value of the fund will increase dramatically over time. Many VCs, however, make the mistake of assuming that the returns will be normally distributed, in which case, a diversified portfolio has the highest chance of succeeding. This is what the author calls “spray and pray” approach. The biggest secret in venture capital is that the best investment in a successful fund equals or outperforms the entire rest of the fund combined. That’s why every single company in a good venture portfolio must have the potential to succeed at vast scale.

What to Do with the Power Law

Everyone should take notice of the power of law because everyone is an investor – every individual invests their time and effort into their companies and/or careers. The author argues that our education system teaches us that it doesn’t matter what you do, as long as you do it well. That’s false. For the startup world, this means you shouldn’t necessarily start your own company, even if you are extraordinarily talented. The power law means that differences between companies will dwarf the differences in roles inside companies. You could have 100% of the equity if you fully fund your own venture, but if it fails you’ll have 100% of nothing. Owning just 0.01% of Google, by contrast, is incredibly valuable (more than $35 million as of this writing).

  1. Secrets

There are three types of truths, conventions that are easy to understand, secrets that are hard, and mysteries that are impossible. While being important, conventional truth won’t give you an edge. Everyone knows (or should know) the relationship between a right triangle’s sides, commonly knows as the Pythagorean theorem. But not everyone knows and understands the string theory…but it is still doable. So what important truth do very few people agree with you on? Or, the business version of that question, what valuable company is nobody building? If there are many secrets left in the world, there are probably many world-changing companies yet to be started. This chapter will look at some of the secrets of successful companies and how they were able to bring value that no one else could.

Why Aren’t People Looking for Secrets?

Most of the people have a belief, and righteously so, that there are no hard secrets left. There are no blank spaces on the maps or in history; there is nothing left for us to “find out.” If there is, it is less accessible than ever. In addition, four trends have emerged in our society that discourage the search for secrets: 1. Incrementalism (the right way to do things is by taking small steps at a time), 2. Risk aversion (people are scared of being wrong so why invest time in pursuing an idea that might not be true), 3. Complacency (why search for new secrets when you can comfortably collect rents on everything that has already been done?), 4. Flatness (globalization leads to “flatness” of the world, if there’s something to find out, wouldn’t someone who’s much smarter than me would have found it already?). Very few people take unorthodox ideas seriously today, and mainstream sees that as a sign of progress.

The World According to Convention

But all of the above is not the case. To say that there are no secrets left today would mean that we live in a society with no hidden injustices and that our markets have no inefficiencies.

A Case for Secrets

You can’t find secrets without looking for them. If you think something hard is impossible, you’ll never even start trying to achieve it. Belief in secrets is an effective truth. The same is true of business. Great companies can be built on open but unsuspected secrets about how the world works. Airbnb and Uber are perfect examples of creating value out of an opportunity hidden in plain sight and thus uncovering a secret about an untapped supply (homeowners who could rent out their unoccupied space) or a new connection (people who need to go places and people who are willing to drive them there).

How to Find Secrets

There are two kinds of secrets: secrets of nature and secrets about people. Natural secrets seem to be more important, you need dozens of years of education to be able to answer them and they are all around us. Secrets about people are underappreciated and are much harder to find, as people, in general, don’t want others to know them. Ultimately, the best place to look for secrets is where no one else is looking. So you should ask yourself if there any fields that matter but haven’t been standardized and institutionalized?

What to Do with Secrets

Once found, a secret can either be shared or kept. Unless you have perfectly conventional beliefs, it’s rarely a good idea to tell everything that you know. So who do you tell? Whoever you need to, and no more. The best entrepreneurs know that every great business is built around a secret that’s hidden from the outside.

Summary written by Aliya Serikpayeva.

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