Platforms and Power (with Hamilton Helmer and Chenyi Shi)
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Who got. True, got. Easy, you see, you see me down, down.

Welcome to this special episode of required podcast about great technology companies and the stories and play books behind them. I'm been deliberate and I am the co founder and managing director of seattle based pioneer square labs and our venture fund, psl ventures.

And i'm David roman tall, and i'm an Angel investor based in separate us. Go and we are .

your hosts. Well, today, back by extremely popular demand, we have hamilton helma. We email hamilton like once a quarter. So David and ash, hey, have you found an eighth power yet? And he always says, no, but he did finally say, hey, my colleague, cHennai, I have been developing a new framework for how executives can apply seven powers for platform businesses, which are way more complicated. So obviously, we jumped at the chance to get to dig into this with hamilton since we later found out that by platform, he means this very broadly, like any business that serves as an inner media to make transactions. So IT probably applies to the technology business that you're working on right now .

are investing in.

I find IT particularly interesting reflecting after the interview because it's a framework still in progress. So you can start to see some of them like really important principles crye stal, zed for hamilton and Cheney as they sort of talk through IT. We get to read about these things in business books twenty years after their finalized and gone through tremendous rigor. And I necessarily cool to see that in the infant stage.

So fun to have ten year until he is an incredible rising star, for sure.

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Yeah, so learn how you can put A I agents to work for your people by clicking the link in the shower notes or going to service now that com slash A I dash agents. All right. With that, David, let's dive in to our interview with hamilton and Cheney. Discussing platforms and power.

Seven powers was an attempt to take an understanding of strategy and make IT generally available as sort of pattern recognition. Jane, I think this is that term which I like like for founders and people that are interested in trying to create great strategies and make their companies successful. And the reason that needed to be decentralized is that there really two major step changes in the value of a company.

The first is product market fit and the second is getting power. And they're quite distinct and involve different things. And Peter deal gets at IT in his book, with his x and y access, you create x value, but you only get to keep what percentage of IT and x and y are independent variable. And the thing is that each of these involves an invention, and so that means there's a creative activity involved.

And when you look at something that involves invention and creativity, IT means, guess what? It's the inventors that do IT, right? And so the idea behind seven powers and strategy, three point, oh, is to put into the hands of those who are capable of inventing that a way of looking at the world that gives them a little bit more acuity about what will work on what want.

and specifically, what will work in what won't on developing power. Not finding product market to fit. But the second piece.

not on product market fit, that's right. It's very much focused on the second thing. And IT should be in those people's hands.

And so you have to empower the people that actually can do the invention. So what we ve found is that platforms, they often involve different types of power. They are very complicated and they do sync craft their complex. You can look at one and you it's hard to tell whether they have power or not and figuring that out as hard. So pulling them apart is a useful exercise.

Ten, he could you tell us maybe two things, one, from your perspective, for this work that you all have done in her and still the process of doing how do you define platforms? And then also, why is this group particularly interesting to.

yeah i'll just a second question first， which is why platforms are so interesting. I guess it's pretty obvious to us all that platforms are creating tremendous value. There starts out there that a majority of the most valuable companies today would Operate on some form of platform in this model.

So for us is, you know both important and you know it's just intellectually so intriguing to go into them. And I guess the way we define platform, we think of IT very broadly in high level. We think of IT as an intermediary for transactions.

And that said, I know sometimes we see people sort of think of platforms as being bounded to social technologies. People equate the term platform and digital platforms. For us, that's actually limiting the scope of the topic because platforms really is more than that is a model with very ancient routes.

You know, there's a book that hamilton I both really enjoyed reading and learned lot from is caught the matchmakers from evm alen cy. So both economists who thought really deeply about platforms and they took their title from, or in reference to the chinese ancient to village matchmakers, who would keep a knowledge base of single men and women in the village and pair them up for dates. I love that example, because these are people exist in three thousand years ago. They have no access to earn technology, but they Operate as platforms. So this is sort of the scope are going after if we come up with a framework to understand platform special work as well, uber, airbnb of today, as they should work for the matchmakers three thousand years ago.

And so in that example is the sort of keeper of all of the men and women to match make. Is that the sort of inner media area of transactions that you are thinking of, of the we are keeps that databases is in D A platform?

yes. And if you think in their mind, you know, three thousand years ago, they're be thinking, how do I outcompete, you know, this other matchmaker in my village? And you'll be thinking about, okay, do you have a bigger database? And do you have no Better knowledge about this people on my platform?

So it's actually about that, this Miller, yeah. What are the dim that make I platform more successful than another?

exactly.

There has been a revolution in knowledge about this kind of business model. And a lot of that is around the first step, which is product market fit. You make Better matches, right? If you got mobile phones over sudden, it's possible to do a lot of stuff that you couldn't do back in the day. But that question is different than the question of, okay, you've created all this value. How do you get to keep some of for yourself, which is what power is about?

What you're essentially teeing up here is just to make sure I understand platforms under this definition of an inter media of transactions in compasses. A lot of business models that we would otherwise refer to more nearly as like marketplaces or platforms like what you know windows offered for application developers to build on top of in the nineties that gave you so much power can encompass aggregators of sorts because all in a way, an intermediary of transactions. And I think what you're saying is there is a whole lot of work that you've done and there is to do out in the world of applying the seven power's framework specifically to platform businesses because they're different than businesses that aren't platforms. Do I have that right?

Yes, that's well put. David should be interviewing you.

Jenny, can you walk us through your work on how to assess platform power? I guess even before that.

we are not trying to understand. I think we just said, you know, platform is not tied to particular form technology, but there's an important thing to notice that technology is really important. And there is a particular form that gets reflected in the platform, which is technology.

Lowest transaction costs and IT lows IT so radically that what you see is entirely new markets get created that was not existent before. So our way of framing the relationship between platform technology is that platform is not bounded to a form technology, but technology is a driver for new platforms to emerge. And that something, I guess, all the entrepreneurs and inventors out there would have a very clear sense of. What is technology rend? They're writing and creating new markets with their platforms.

fascinating. It's like definitioned true beat by reducing distribution cost or by reducing the friction to make a transaction, every step change in technology dramatically reduces transaction costs.

Shoot them in tiktok using A I that getting cheaper, ough and good enough to have that drive the algorithm examples yeah exactly.

The friction or transaction costs come in very different tastes, right? There could be the reduced of search costs to reduced cost of input information, reduce cost to liver things to your customers. And it's only up to the imagination of dunch purse to create new ways to make them happen.

The great point, even thinking about the database of the notebook to go back to the match making example because I think it's wonderfully concrete. Somebody has in their head the five single people. They know that they can recall that might be good to match, make someone with the eta of the village back in the day.

But if you have a big no book and you can write down everyone, suddenly your cost of storage went down dramatically and your recall got much less expensive and much more scalable. And then, of course, when you fast order to today and you have tender and hint in these sorts of apps, it's all infinitely cheap, not only to store, but to input, to distribute, to incentivize people to load their own information of the database. There's just all these dimensions of cost that sort of collapse to make everything have less friction.

Technology is what opens up whole new potential visitors on product market fit and just exactly the way you described then. But if so, you think of two step changes in value. That's first step change.

The second step changes is, okay, how much of what do I get to keep that the power step change? IT makes that in some ways harder. That's the paradox because all these things that reduce friction are easily available to lots of people.

And so you're variability to spin up quickly and make something happen and IT seems very powerful. May, in fact, be the very thing that makes IT easy for a competitor or to catch you. That's one of the paradoxes that you have to be really thought ful about when you look at power and platforms.

I love IT. okay. So can you walk us through how you ve developed a framework for analyzing power of a platform?

It's a very complex problem. And the reason for that is each platform we've tried to do a case study on the industry economics different. There are somebody is using credit charteris tics impact the equilibrium state.

So for us to know, instead of trying to give you a very abstract, high level framework that's not gonna relate to the actual situation, it's probably easier to raise a few questions that we think every Operator and they think through will find some value in that. So i'll throughout the three questions and we can go through them one by one. So number one, how is economic value created on your platform? And how does that value change as a power form becomes larger or has more participants attending IT?

The second question is, how does each group of your customer perceive their economic value from your platform? And how does that change as your platform gets larger? And the third question is, what is preventing your competitors from getting to equivalence in that value proposition so that to us, this sort of the comprehensive list of questions you have to think very carefully about, and then after that, you may even get some good insights about whether or a plata may have power on out.

So the first question is what's going on here economically? Who's gaining and worth the money, right? And so i'll give you an example in uber.

So what's going on is you have two sides, drivers and passengers, and they're trying to match and they're highly heterogeneous because each driver passenger is time and location stamp. And by having more drivers and more passengers, IT makes IT possible for uber to develop more efficient root structures. And what more efficient root structures do essentially is to minimize driver downtime.

IT doesn't change how long IT takes to do the drive that's baked in to who IT is and what they want to get to. But IT does change how much time you have to wait before you get the next ride. And then you look at both sides of this and say, okay, why does greater density create an opportunity for value here? And the answer is that it's a Better fit.

You can pick a driver that's neuropace ger. And this fit notion is something that the nature platforms. So you're looking at both sides must to be highly energy ious and you're trying to get a Better fit, and that's the nature of the economic value.

And then the question is, okay, how does that value you deliver very as the participants grow? Because that's the characteristic of platforms? Is that often how they're differentiated by different levels of participation on both sides? And what happens there is that as you are more dense in a specific region, so this is a very geographically bounded economic proposition in the bay area, for example, as that density increases, you can decrease the amount of wait time for drivers. However, i'd argue all other people at ubn lift that know this much Better than we do. I'd argue that's not only year function, right.

right? IT has diminishing .

marginal utility, right? So it's a negative second derivation. And so what that means is that the curve flattens. And so now if you ask a question, how does one provider compared to the other, which is the power question, which is the third thing jane was getting.

that enters to set that up for one moment. So the first two questions are more about understanding, delay the land. And then the third question of what prevents competitor is from getting to equivalence. That's the power question that fair. So is about .

both how much value can create and then how much you can. capt. Her from IT. So the second question is not worth asking if you're not creating much value in the first place. So you actually have to go through all of them pretty careful.

Y just for my benefit. And I think maybe listeners be because we went through the questions kind of quickly. Can you just remind us of the questions again? We know we're referred to in the first, second and third.

yes. Question number one is how is economic value being created on your platform and how does that value change as our platform starts to get more participants? Number two is how does each group of the customers perceive their economic value from your platform? How to start change as our platform scales? And lastly, how do you prevent your competence from getting to equivalence?

I see. So the first wonderly about quantifying value creation and obviously understanding how that changes over time. Second one is about perception of that value creation by different participants. And the third ones, really, about you capture and defending the castle over time.

And so jane said that sort of the power question involved more than just the last one. And so if you remember, the power involves two things to benefit, a barrier, right? So the first question is the benefit. And the third question, a barrier.

Yeah, what actually maybe first, can we finish uber and talk about that third question for uber because that sort of feels like for uber at least and lift that's where the rubber hits the road on how valuable are they yeah.

I think a very chAllenging characteristic of platforms overall is you don't own your customers. Your customers choose to patronize your platform and they can choose do the same with another platform. So this is a sarreo that we call multiple ming. And essentially, what we're saying this, a lot of the differential value of and generate as a result of differential scale they have with their participants and multihull ming is what arbitration out all of that differential value us preform don't make profits out of Operations. The result of that is you're pretty so much value, but all of those cuts are batch shed and your customers get that but not the owner of the platform itself.

So in the case of you know right here in business, particularly, the things you really want to ask yourself is what is preventing my customers from also accessing the other platform that's competing with me and and your customers referring to both your writers annual drivers. So IT doesn't matter if my platform is right now larger, if technically both groups of my customers can fiction less the multiple on the other platform. So if you always open two apps and look for White, everyone that happens to have that right is closest to you. And you always have opened two apps to see which everyone gives me the closest writer that I can get matched with. The relative scale does not matter because you are contributing to the same pool of density in your local area.

Makes subtle sense.

Deep blog listers are required, will know this hit very close to ben's heart with you. What are your early start up weekend projects?

Right at one point I started to start up, but actually I killed by uber. Not willing to play all with us and cutting off our API but is effectively uh meta search for right sharing to be able to find the fastest, closest ride to you independent of who is actually providing the ride. Wow yeah it's an und cheated experience to happen one or the .

other yeah and it's interesting the whole meta search idea is a friction reducer. So if you can get an overly that compares to, then it's not hard to see what that does in terms of distance intermediate power.

right? Medicine has a category enables your customers to arbitrage away your power with less friction.

That's right. Think of snow for like or some place, right?

okay. So right. Sharing is an example platform where you get to the end of the questions. And maybe there's still kind of a question mark about the industry in the companies within IT. Could we walk through an example of a company or an industry where you get to the end in, you conclude a this company.

this platform has a lot of power. So David, before we leave, right, think of the moving parts here. One of the moving parts is, what does that right efficiency curve look like?

So as you scale, how quickly does this start to slope down? Because that's going to be critical. If it's a straight line and you're two times reality of market share, your home free.

If IT tails off pretty quickly at an early stage with two times share market share, you could be an attractive relative of cost position. And once the business is scale, that's no longer true because you're into the flat part of the curve, right? So it's the shape of that curve.

It's your size relived to somebody. Ts, let's say you have that advantage. What's to keep IT from not being arbitrary. So you want to turn to people like ben and say, don't offer that APP.

right, which they did.

yes.

so you can fully understand their motivation. You're the enemy, right?

So I don't think what you're saying is take this example of a market where there is diminishing returns to density. If the diminishing return curves deep, then it's very unlikely that any individual company can develop power. But if it's gradual, linear, then yes, you still can't develop power even within a market with diminishing returns to scale.

There's this concept that we call ha genre of preferences that matters. So what that means is returns to scale is always diminishing, but how quickly IT the diminishes depends on the space you Operate. So the case of uber and left, we are bad.

As you said, the drive is IT. All I care about is how far away my driver is on my riders. So what they're doing is literally putting dots on the two d geographical map.

And the minute you get to enough density, you're good enough. So we can think about maybe something with high levels of herrity. Think about youtube. The content to watch has so many dimensions that you care about, the language, the theme, the music, the production quality. And that is a space where in order to get to a scale where i'm good enough that this additional piece of contents not going to appeal to me users anymore, that's a much higher level of requirement of critical mass or of scale of content. So this is something that we think Operators should also think through, like what is the level of educating that your transactions have and that determines how important scale is to you.

right? That makes so much sense that basically youtube will continue to compound the economic value of their lead because even though there's time to make up some numbers that seem big, but a one hundred billion hours on youtube in only ten billion hours on competing platforms. The thing I want to a watch is so unique to me as a person. How I feel at that moment of the personality of the creator is interesting to me that the fact that there's always going to be slightly Better content market fit for me on youtube than that other platform just means that, that curve diminishes very, very slowly exactly.

And there is a favorable bioproducts of that, which is for something like youtube, s content is actually Billy hard. Describe what i'm looking for, right? How can I in text search for the exact content I want? So youtube accumulates the unique set of knowledge about both what you like and wash time of others that attest to the quality of the video. So that makes the search so much easier on youtube compared to a comparative platform, even if is a complete copy at to youtube.

So youtube is a good example where the value they provide me is high. I perceive that valley to be high. And then when you think about other constituents also, I mean, the creator is perceive the value to be high.

Advertisers perceive the value to be high. And then when you get all the way to the third question of how are they Better than competitors, there's lots of ways that they are Better than competitors. I'm curious, as you think about youtube, there's a platform. What are the ways that they have power verses other video platforms because of what .

Cheney was talking about in terms of heritage, if edge cases matter, there's a pretty good chances and opportunity for power. And because when you say edge cases matter, what you're really saying is that curve doesn't flat, matt, very quickly, right? right? And so IT says that even the differences in one of the sides scale remain material in terms of the other sides. Appreciation of the value being provided when you go on you to your taste extremely synced tic, i'm looking for the latest climbing and or something on general relativity or you know the weird stuff right right? Or the latest performance car or something.

Yeah definitely. So there's a lot of work in economics that states there could an equilibrium pricing scheme where you charge one side and you paid the other side. And that still contributes to a very powerful platform in the long run.

So is an interesting state about youtube is very complicated but extremely intriguing, which is they have accumulated so much harder genius content that they are able to charge enough mind share from their users. And they moitie that mind share with advertising dollars, which they then pay their creators. So it's a position of power that creates in the firepower to keep maintaining and enlarging that lead in this particular user generated video content market. So that's why you keep seeing youtube get larger and larger, and that's because there is one source that provides them with that benefit that they can maintain in the long run.

Yet interesting that there is no real scale that seems to have been reached with youtube where anything starts getting compressed, any margin starts getting compressed. There doesn't seem to be any place where a meaningful number of creators are going direct and like publishing to their own video platform. That's not youtube.

That doesn't seem like youtube is having to pay out a small and smaller percent of its profits to creators. IT doesn't seem like advertisers are trying to get more bangs for their buck. They're happy with the bank for the book. The margins are not getting compressed. There is kind of remarkable that as that business continues to grow and grow and grow, there is not margin compression in any corner .

of the business. Yeah and the cost of multi homing on the crater side is really not huge. You take your aloe e other platform IT shouldn't be possible.

We will mult home this episode on both spotify and youtube. exactly.

So the real question really should focus on is what's biting all the viewers? Why are people keep coming back to youtube? A good thought experiment to go through this. Let's say there is a copy cat version of youtube stood up tomorrow, which Carried over every single video youtube pass today.

Would you move? Would you are still inly start to go to the other platform? And this sort of goes back to my earlier point about this is such an hello genus space that the cost of search is not in material for me too.

You know, overtime, accumulate the set of influencers. I follow and tell youtube which ones are the content I love to watch. And youtube knows the wash time, which is a very important input into their algorithm.

You know, what are the high quality content as proved by all my other users. So those information dramatically reduced my search cost that the other platform, even if they have the whole suit of content, cannot really match. So there's frictions right there on the viewer and that, I think, is protecting .

youtube business. And I argue about this, yes.

Do you have a different .

opinion for me? The reason I go back to youtube is an expectation that exactly the content that I want is there and it's not the efficacy y of the search. And so that's the dispute.

There seems to be some sort of buried thing in my brain that is aware of their network economy power, where at first I thought I was brand. But it's more like I have the assumption that the latest S N L skit is going to be there because everyone uploads their stuff there because i'm with you, him and I I have the same. I'm going to go to youtube every time because I have the absolute most confidence that the thing that i'm looking for is there because of their network economy power.

Oh, i'm so excited here.

And when you say netware economies, what you're referring to is that a network effect is when somebody uploads something that makes the whole site more valuable to everybody else for all these reasons, that makes matching more efficient and more likely to result in a good thing happening in terms of value. So yeah, okay.

I totally disagree.

I'm watching on .

this one perfect two, two, right?

David is a real youtube user. You spend hours.

I've become a real youtube user. I think there is a baked and assumption Hilton. And then in the way you think about youtube and you represent a large class of people, but I think there's also another class of people that guessing cheny and I may be part of.

we won't get into age demographic S.

The assumption is you both think you are going to youtube with intent to look for something. I don't go to youtube with intent to look for something. I go to youtube with intent for youtube to surface for me without me doing anything.

things that I will enjoy. Interesting different use case. Yeah, I to say IT probably, you know, history is on the side of the Younger demographic, although I guess I know I had good deal with me. That's that's a dangerous. No.

I use youtube the way that one might speculate. Older generations use youtube and David is a little of jersey in their respect.

The now we've classified.

i'm so happy I can retire now. No.

that's a good point for like Operating through because without being youtube, you will know exactly how customers lip between people who search and people who just look for enjoyment on your platform. Every form should have a clear sense of how their customers are split .

into those groups. Both the segments exist.

S for youtube. This is what I loved about how specific were che in your second question of how do different customer segments perceive value? Because in analyzing the value created by youtube to me, but also the power that youtube as a business has for me as a specific customer, is totally dependent on .

my use case of IT. I would like to give some example that kind of a more stark contrast between you different modes of how customers might perceive the value. So I think we also here like, oh, more buyers will track more sellers and more sellers gonna track more buyers like this is often times true, but it's so general that is often times missing the actual granulators ity that matters to you.

So the example I give us, think about an amazon seller and how does he optimize his economic value from the platform. So these sellers typically have a bit of supply shy. They will a sell around the market Price. So what they are trying to do is to I want to sell more units at best single Price and whether or not i'm going to go to a different platform.

The question he's gone to ask is how many more units am I going to sell? And is that going to cover my cost to go on to the other platform? Now this, rationally, if you take IT onto an ebay seller who's trying to auction his antique watch, is going to be very different, right? He has only one watched to south that the equation going in his mind is, how can I sell this wash for the highest prize possible? And again, this is depends on the Better matching thing that we talked about before because the more participants you have on this platform, you going to have Better matching is more likely failure to have a buyer who values to watch much more than others.

So the question he's gone to ask when thinking about this alternative platform is what is the likelihood that a buyer with more illness to pay is gonna a appear on the other platform? And by how much? And how do I compare that with the cost? I have to manage this other platform that I may want a hot point. So you have to understand what's the equation going on in your customers mind very carefully because sometimes they could be really different and that determines the equal rimm of the competition.

Yeah the amazon seller doesn't care about finding people who will pay a higher Price for their product. They want to find as many people as possible who will pay the market Price for their exactly assuming .

their marchands roughly comparable and also putting the side. The question of this strategically a good idea for my business to cells, are amazon verse selling direct or I think intentionally not diving into that because it's a whole bag worms.

right?

okay. So one question I want to ask you all. Maybe youtube is the right way to go back to. I think we can all agree that youtube has a large power opportunity.

When and how is the right time for a company that finds themselves with a large power opportunity as a platform to start capturing the value famous ly, everybody thought that google was nuts with youtube because IT lost billions of dollars for more than a decade. And in retrospect, now perhaps that was a brilliant strategic decision by google. Uh, how do you all think an Operator should think about that?

For me, the key thing here is to remember that the product, market, fit and power questions are different questions, and one doesn't necessarily answer to the other, in fact, often doesn't. And that IT maybe that when you have a business model that gets you to product market fit, there may be a power opportunity embedded in that and there may not be. And so those are two very different problems.

One is the problem of capitalizing on an inherent potential for power. And the other is trying to figure out what are you going to do that will get you power and something that currently doesn't have IT. And the second is a very hard problem, right? It's a second event that every bit as hard as the product market fit invent.

So think of Steve jobs trying to figure out where to take apple when the PC business turned out to not have any power, right? Um here is the most brilliant innovator of our generation and yet he couldn't solve the problem, ended up losing his job. Is actually .

worth drilling on that. Steve jobs coming for a minute and of course you like tempt me with the apple history catnip. I have to jump on IT.

It's interesting that he tried the power computing. I don't know if the macos running on other hardware devices was a initiative that started well. Steve was still there, but it's interesting how obsessive was with we control the whole stack, know we're the software and the hardware.

And our software only run in our hardware. In our hardware can only run our software. And with power computing and all these sort of mac clones that apple authorized and said we're going to enable our O. S. To run on these other pcs. I actually owned one and I was a cheaper mac and did did not save the company because they had no ability to take the profit dollars that they earn from that and build something defensible with IT. And it's fascinating that hamilton, exactly to your point, they did try things and also there was no power opportunity that they or anyone really found to be a very profitable PC manufacturing.

Yeah, I mean, I think if they hadn't completely flushed the mac three, I think they might have ended up in a very attractive power position because they did on the stack and they did on the Operating system and they didn't yet own the processor, but they could eventually. And if you think of the PC business, the two notes of power were the OS and the CPU, but you needed to have superior scale and get everybody signed up to have that work.

And the mac three was such a complete flood that IT made IT possible for the IBM PC to just take over the world basically, right? Well, of course, the IBM PC didn't have power either. And so that ended up being an a long term, not that attractive a business was funny.

Is that mac just the dust? Topline has a lot of power today and is remarkable, yes, amount that people will pay in dollars. They wouldn't pay to a different manufacturer with a different Operating system for rein apple computer. And now they bundle in proprietary chips that are the best on the market. So they have dramatically lower cost structure.

So it's just margins everywhere, right? As you might guess, i'm a huge fan of Steve jobs, and I think his impulse to control the stack was not based on sort of power, but aesthetics almost. He wanted to control the experience and had the sense of the aesthetics of the experience.

He was a genius at that kind of stuff, right? And IT could have aligned with power had their execution been Better, but IT was available opportunity. Unfortunately, this will really take me to remember when IBM entered the PC business, apple took out of a full page jad.

And was that the wall street journal or something? Welcome them to business. And and that sort of a common trap that you sometimes see, which is people that are just amazing innovation, which I have a huge admiration for, that is to say getting product market fit, think that they can just out invent of the competition forever. And that story usually doesn't end well. I don't think the things you in you have to solve the power equation as you end up competing on a commodity way on your base business.

So I was the answer is different for every company. But what are some ways to think about when you can feel comfortable enough in your power position to start dalling up your profitability, which I guess would equate to dalling back your subsidies on the platform in the .

early stage of platform with product market fit? What that means is there a lot of people want this stuff, right? And so you scale like crazy and you're rewarded for that. Your b round in your sea round, all the sudden the number of start to done good. But then later on, you face the power question, which is, is that a profitable proposition or if you just require a lot of customers.

So I think it's an idiot syncing tic tactical question that as a business progresses, you have to make a decision about when you start increasing Prices, and it's not that you would eliminate the subsidy. And I think like all decisions like that, you have to look at sort the immediate effects and long term effects. But I have to say that in general, and I use see this in my book, there is this difference in businesses between the takeoff phase and the later phase take off face when there's enormously rapid growth. And in that phase, the acquisition Price of a customer is not Price properly, and it's a good time to get customers. And later on, you sort of tighten the screw is .

a little bit well, like the youtube example is interesting, right? Like in their case, dying down the subsidy dalling up profitability means increasing ad loads to users. And for years and years and years, ad loads were very low. IT was comically, users were getting so much value for very little ads on youtube. And then in recent years, we've been dalling IT up quite a bit and they don't seem to be bleeding customers in doing so.

I'm going to supplement hamilton with his own book. So hamilton don't feel awkward. So I think there are two parts to the so number one is if their readers of seven powers and you're a patient enough to flip to the appendix after each chapter, there is this concept that we call surplus leer margin, which is the maximum Price you can charge more than a competitor while still maintaining your compete physician.

So this is essentially what we are talking about here, is how much can I charge while maintaining the leadership I have today? That number is not dynamic. That number is dependent on the differential scale you have against the other platform.

so. That's one of the high level. Know what's the overall thing you wanted achieve. But at the same time, we recognize the difficulty and power is both market share and differential margin. Hamilton always as no is, is an active trade off between.

But with entrepreneurs do IT, because when you see such so large screen field you can penetrate, you should grab that and sacrifice short term margin for a larger market share. And that still power because you can realize those profits in the future. So it's hard to tell people the ones I fit all. This is exact point, but understanding what is your support leader margin? How much is the maximum you can charge given the best alternative out there and developed the tune when is the right time.

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So we had months ago, after R T S M C episode, a couple of the investors from N Z S capital on and one of the points that they made, we actually don't like to hold apple in our portfolio right now because our view is that they're being overly extractive to their customers or over the whole ecosystem. You know, it's the thirty percent stuff with the APP store. They are realizing their market leadership and they are freezing as much as they possibly can.

And you contrast that against A T S M C, which does not charge the very most they possibly tend to the customers to manufacture their chips and its a very intentional strategy. And they believe that, that sort of a long term view that they have in order to do that. I'm curious as investors how you think about from the perspective of maxi zing enterprise value for a firm, what should the company do? Should they be maximum extractive to the ecosystem or should they leave some surplus on the table?

Yeah, it's a great question before commenting specifically on T S M C, one of their primary competitive interfaces, obviously in terms of fab technology and getting ahead in that is intelligent, just just a cavy out about both those businesses are amazing and well managed and successful.

And the fact that t sm c seems to be gaining ground is also a reminder to everybody the power is not forever because I use in tel in my book, and that's the way life is, you know, technology is changing, competition changes. And for me, a one of the longest term power thinks i've ever observed as that of ili universities and being able to maintain and which is ironic, that is not even in the private sector. So I think on a pricing question like that, pricing may well be tied to a strategic goal, but it's tactically available to anyone.

So it's justification has to be tied to underline fundamentals. And essentially, what you're doing is in this case of T S M C, what you've cited is they're sort of giving up current profits for something in the future, right? And presume it's start of future revenues, either get retention through customer loyalty or acquiring new customers.

So that leads you to ask all more customers more revenue the future give you more differential return. And that gets you down to ask about scale economies. Do they have IT? And I would argue, yes, but it's pretty unusual type of scale economy.

So there are some very strange industry characteristics here. So really large lumpy capital. I don't know what's a new feb now at ten billion or something.

Oh, I think it's ten billion plus. Yes, number from our episode.

Yeah, huge, huge number. There are kind of code on code, predictable material performance advances, I morals law, so that life doesn't usually like that. You don't think that well, i've got a fairly high assurance that if I make the right technology choices that all of the tennis improvement in eighteen months or something that yeah that life isn't usually like that. And so this is very unusual and it's driven by the correct technology choices. And the other thing is that the tech advantages are driven by upstream suppliers.

right, A S M L. And others in this case.

And that's a hard choice actually. I don't know if you if you go back away, there is a long discussion in semon ductor companies of whether to go through X A photography and IT turned out there's a lot of money invested. And thinking about that.

IT was very contrarian in the early two thousands. Even intel, I think, funded sls development, a big industry consortium, ding intel of the U. V, and then thought the technology was gone to die. And so I think three or four years in divested, obviously, now that's the dominant way that we have these three and five nanometer processes and T, S, M C to benefit.

So under those sort of really ad industry conditions, IT means that if you're quite comfortable with forward guarantees of customers, you can make a capital commitment. This huge capital commitment, IT wouldn't matter much if there weren't those big material performance advances and IT wouldn't matter much if IT was not all about lumpy, you could do in small increments. And IT wouldn't matter if IT was relatively small amounts and IT wouldn't.

Arif IT was all vertically integrated. So that allows a scale company to get to the newer technology first, and that has profound implications for sort of continuing that cycle. But IT means that the lower cost per transistor, and they also can do higher and products, which probably are higher margin before T S.

M C. The companies that cross that threshold of enough comfort with forward guarantees or the companies that solved the products. So back in the day when you guys are too Young to remember this, but there is a time when IBM controlled the computer industry, there is nothing like that.

Today, people talk about tech dominance, but IBM just was a force that was just so far above everybody else. And they backward in, integrated into facts, right? And they were the fab leader because they could do this stuff. And then intel, right? So we've moved from a vertical to a horse, zonal organization of this. So I may be too reductive about this, but to me, their pricing makes perfect sense even from a purely mock value, sherlin value kind of perspective is that, that allows them to get a customer luck in is too strong a word, but a comfort with future customer.

comfort that in video is going to a stay with them for generations to come and be paying them billions of dollars to allow them to right.

And remember, for the really tRicky upstream suppliers, what's the is IT, the dutch company that does you you .

guys know who?

Yeah asm, yeah. S M, L. You have to make a long forward commitment. It's not just the amount. And so IT allows them to do that.

And then of course, if they had that advantage and didn't make the right choices about technology, and I don't know if that's lucky skill, then IT also doesn't work, but they've made the right technology choices and they have enough guarantee a future business that they can now be the leader in technology. And this is a business where that performance frontier is moving in sort of kind of predictable way. And so being a leader in technology means that you are a cost and performance leader in the business. And so IT makes a lot of sense to me to kind of give up current profits to guarantee that ability. Does that make sense to you guys?

Yeah, I had not previously thought of the notion that, you know, of course, I thought, well, maybe it's not actually but newlin that they're not maximum extractive. But I could quite put my finger on why .

more as seems like a nice day .

yeah and the why is so interesting that well, to the extent that they can massively increase the probability that their customers stick around for a while, they can spend this ten to fifty billion dollars of capex to build these new fabs. They can be one of the very few customers in the world that's guaranteed to, over the next three to five years, get these machines from A S, M, L. And other suppliers like trump, the laser company, a and so because those are scarce resources to be the customers of those companies, and because they so expensive to build these leading edge babs, to the extent you make the right technology choices, there is this sort of self fully ling propac's of guaranteeing all of those future profits. If you'd have that magic ingredient of being certain that your customers .

are gonna around, yes, it's going to be very interesting. T, S, M, C is just such an amazing story. So they've been able to take what in all prior generations had been a vertically org ised business and made IT horizontal. And the thing that makes horizontal organization work is typically a scale economy, so that you pick up more scale. The strange industry characteristics means the predictability of future customers is profoundly important in terms of creating company value.

So when we contrast that concept events s original question with apples situation today. I guess IT is quite different of if I think a lot of people feel that apple thirty percent rake, that they charge developers to be in the apple stores. Maximum extractive, maximum extractive.

Yes, that's a good way to put IT, but they're not in a situation like that. They are vertically in a greate company. They control the whole stack and they're able to fund their also quite large capital expenditure, but they fund that through hardwork sales at a very different manner than tc.

Yeah, it's not clear to me that giving that money back to customers or suppliers would benefit them a lot. I have an iphone, and I really like that. I realized that every time I turn around is trying to get me to buy I cloud or something, you know, in their courts trying to take advantage of me.

But I really love the product. And of course, very, I switching costs. I was on a plain and and unfortunately ruined my iphone and landed on a wii and had to get another one.

And I was a very easy choice to get another iphone as a posed to another product. So I don't think people are terribly dissatisfied with the situation, and so they're not risking a lot. So IT doesn't seem insensible to me. I mean, regulatory issues they are going to face and we'll be constrained in certain ways and all that, but that makes sense to me.

So maybe i'm too cynical in my old age. No, they clearly, they haven't changed the policy. They continue to succeed enormously.

Well, apple just keeping looking at the bat of each of the parties related to they keep looking at developers and they keeping, okay, these developers gonna stop making iphone apps like that's where all of the most affluent customers in the world do their computing, like spend their time so that they're probably not. And like, are the consumers going to to switch? While people cannot only switch in the direction from android to iphone, they tend not to switch in the opposite direction based on the last ten years of data.

And consumers don't feel that pain as much as the developers example consumers don't know, care about. I will take great right?

They're sitting. They are going, why would we change what we're doing?

Yeah, I mean, I have to confess a bias. Sera, as you will know, economics routes were in the Scottish enlightenment. So if you think of adam Smith ideas and David human so on, it's the idea of self interest. So behavioral al takes a little bit of a deal from this, but IT basically says, if you look at people self interest, you can understand a lot. And so I see both of these is being quite self interested to phrase this .

in a much more tug cheek way. It's so much does if these companies that have us over eba as consumers saying, well, look at mean, we're married at this point and as long as you're not going to divorce me, I will become a worse and worse partner to you over time. That feels like the concern to me with companies gaining more and more power over .

consumers in the long run. If you lead a company that has very high switching costs, and i'd argue for most technical people, non technical people, if you know an iphone is very high switching costs, you after alist, there's a conflict there between how much luck and you have and how you treat your customer and managed very, very carefully.

I often encounter companies where they have a wonderful product market fit, but they don't yet have power. And one of the things is, could you develop switching costs? And my advice always is, don't think, how am I going to lock in my customers, but actually think of IT a different way.

What is IT that I can do for my customers that create value for them? And then if that proposition has with IT a way that they're tied to me, then so be at. But think about the value creation part first. Adults, you tend to go down these paths of win lose propositions, which don't end up very well. Typically.

what the right sharing companies did with their membership programs. Would that be a bad example? Maybe that like that was trying to create switching costs but didn't really help anybody.

Yeah the one I always think of here is potentially like adding insurance to a transaction. So like b nbs million dollar insurance policy, I won't just wire someone money directly. I will pay R B B S ridiculous fees because it's kind of nice to have that insurance policy and as a trusted facilitator or .

the transaction. But I think you are touching on a good point, which is platforms are naturally also competing with their own customers. What if your customers go direct to each other, buyers and sellers just transact off you? So as a platform, you have to first prove that you provide the value that they should pay you a cut and stay on the platform.

Now that's one front that every problem matter to think about them when we call a table stakes. And then the second issue that the plant must think about is what you offer is that differential. So the insurance program of A B N B A competitor also offer a similar insurance program and achieve similar value at to your customer. So there's two layers of question that competitive ly, we also have to think about.

right? Yeah great observation that the at the insurance example makes IT Better than wiring money into avoid but that doesn't you know directly to the person that hosting the arb an b but not necessarily Better than V R B O or someone that could very easily go negotiate a very similar insurance.

Why should you be interested in power? That may sound like an odd question for you, but I was doing a class recently with some earlier stage founders talking about power, and I mention some companies that I thought probably might well not have IT. And yet some of them were public and had really high market caps.

And some of the people the audience response was through me in that prior patch. You know. So what I just want to say is that IT is important.

We talk about the earlier example of Steve jobs and what he found when PC started to go south was IT was not fun, right? A lot of the best and british would leave the company. And if you get into the stage where you don't have power, this isn't going to be a fun company to manage, and IT won't become iconic.

And I think that most the founders I talk to, they are not in IT just for the money. There is a sense of this is kind of me, and IT matters to me, the durability of this thing and its success. And so if you want your company to be durable, attractive, a great place to work, a great example for people, something you're proud of, you need to answer that second step change question is worth that power. So I know you guys know that, but I should mention that because I think people wonder, why should I bother if i've solved the worst problem? Yeah.

i've just climbed this great mountain of achieving product market fit. Isn't that enough right?

Which is an amazing accomplishment, right, when you think about IT and really hard and isn't that enough. And so I totally get where people are coming from.

you both, but especially you over your career. Hamilton worked with so many founders. Managers give any advice for founders at that point.

Psycho, logically, when they get there, I had a lot of people just exhausted, right? Y've just climbed mountain. Isn't that enough?

I don't think there's anything really easy that solves things for them. I think as founders, they are used to hard chAllenges and approaching knows positively. And I think that's the best that you can do is just say that you've got another half of the climb.

I love that, that's such great frame. We teased .

earlier that we were going to talk about the difference between network effects and network economies. And this is something that, David, I have flopped on a few episodes where I think i've conflated them in our power section. And i'm curious what are some tell tale signs of that has newark effects but did not develop network economies power?

So I think network effects in the types of things that we've been talking about in this episode are common. You know, it's when a driver joints, uber makes the platform more valuable to passengers because more efficient root structures are now enabled, right? And that's a network effect.

So the things that happened there are somebody joins the network, that's the network part, that's a new driver joining and something happens to somebody else in IT that has a value implication, that's the effect, that's a network effect. So the question is, what would you like to call network economy? That sounds like an odd thing to say, but that's really the question.

And you could say anything that their network affects and there's power you could call that might be one choice. And chen, I are currently debating ess. And so there's another choice, which is the one i'm currently going down, which is that it's when there's power from direct network effects and a direct network of factors where your joining has an immediate value impact on somebody that sort of on the same side.

So I join facebook because i'm your friend and those effects are strong because they're additive. So another friends join IT doesn't substate for the one that just joined. IT adds to IT so on.

And those kind of effects that do more lead to winner take all kinds of situations. So my naming choice right now is if there's power as a result of direct network effects, and that's the network economy that aren't very common. It's a indirect network effects like the one in and over are much more common, is just a value impact.

But that's the benefit side, right? But as you too well know, is IT arbitrage ble. You eat both the benefit and a barrier sites.

So is IT arbeit zable. So then you have to get to the much rare set of cases for there's a benefit, its material right? And also it's buried. And then that's a much, much narrow or set of things. So do you want to add something?

I am hesitating to drag David in the entire whole debate, please. I think the short version of things here is network effects, describes only the value creation and is a statement without consideration about competition, which the ladder is all power is about. So regardless of how we end up defining their economies, that is the type of afford that we believe has power, and that's differentiating from newark affects on its own.

G, I wish I said that you added up my comments and put your.

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So when we were emAiling before this Hilton, you something that I know is gonna provoked of ete, when you see a fly wheel run for the.

I did say, yeah.

the number of deaths that I see that have fly whales these days as a about one hundred percent. So this is going to be a new way of thinking for folks. What is the concern about fly whelps?

So fly wheels are a sign of product market fit and tell you absolutely nothing about power. And it's not easy to get a fly wheel and that is how these platforms do find life. And so you get into issues of critical mass ignition and all that stuff, but that's product market fit.

And IT doesn't say that if one company has benefit from this, that another, as I mentioned before, often the very technology that enables that happening quickly enable smoothly homy as well. And so the benefits are usually from a difference rentier size on one or both sides of platform. And so you after somehow prevent that.

actually there's one exercise we did, which was really as simple as surprisingly interesting, which is we took a fly wheel of a company is really popular, I won't, but we swapped that logo with their competence logo in the middle of that fly well. And this still works. So that's exactly what we look is .

a brilliant dot exercise.

Assuming that they have more scale than their nearest competitor. Is there some way that you could draw the X, Y access where they're growing in a way that encumber and their competitor is either further down the enured because it's a time series access or perhaps they are only growing IT away? It's like n squared. There is no way that they could ever catch up. That seems to be the thing that you're trying to tease out.

yeah. I mean, so typically these things do depend on differential scale on one or more both of the sides, right? In the way you've ask that question, then you have just sort of assumed the critical thing, which is you ve said, I can scale three times as fast. So then the question is why?

Because is to fly. Will you know lots of feed into each other because .

I read the everything store right?

right? exactly. And so then you get into the multilayer question. So if somebody y's looking at that and like most things in power, the barrier question is usually the art question.

And so that's the one you would have to teese apart is to say, okay, why do you really think they can scale faster? And once the market is kind of saturated, why can they keep that difference? So there's a dynamic anesthetic question involved in that. So the character of multi human is critical. And all of this stuff.

I do have one sort of summarizing question on this whole concept of power as IT pretax to platforms is IT right to think about IT. Like if I was Operating a general store in eighteen fifty, I could apply the seven powers framework.

But today, if i'm Operating a platform business, as many, many tech businesses are, especially the most valuable ones, as you point IT out, I kind of have to perform a seven powers analysis on each of the translate tors on my platform, whether they're the supply side or the demand side. I need to understand what gives my business power given that specific segment. Is that right? I actually .

echo with bands observation. interesting. Ly, we've been trying to mathematics all we talked about today for a long time. And every two weeks we come across one of those other cases be like, ouch. That one is not included in this framework.

And the the exact reason of that is, ben, what you said, the participants in this transaction is going to have a different economic structure. They have a different industry structure that alternates how they behave and what they optimize for. So this is exactly what make platform so complex, but so interesting, that is you have to look very carefully yet those and every platform is gonna out a little bit different. You it's working progress for us, we hope, when they have a very abstracted and analyze framework that can describe all of those, the fair Operator, you have to to focus on the one that you own and and how that's defer from others.

I thought I might be useful for me to do a ick take of kind of a summary of some of the points that we've talked about in platforms as such as an import topic. There are sort of like markets that are way of exchanging, and that's what business is about a certain way. And so it's there's a lot of value there.

And the tech frontier that's been advancing has made many, many more platform plays viable. If you think of processors and displays and a mobile distribution and all that, basically, we all have this little computer that we Carry around with us that make a lot of stuff possible. That just wasn't possible before.

And we see that in that many of the largest market cap companies, the world platform place. So the first reason is lots of value there. The second reason is important topic is, is really complicated.

And so IT kind of stress into mult decided market territory, which economists have spent a couple of decades trying to sort out. And I find a personally 啥 understand really what's going on is very intellectually chAllenging。 So lots of value, very complicated. And then the third reason is that we talked earlier in this podcast about the two step changes in value in the company, product market and then power.

And in the case of platform, that is one of the things that's really odd, but very important, is that those signals go in opposite directions often that you can have tremendous product market, fit traction, something can scale really fast and be a big market. But the very thing that allows you to scale also allows lowest barriers, allows easy competition, multi homing. And so you might see something where there's huge value created.

But if you ask a question of, is their power completely different issue and maybe at odds with the very thing that striped in all the value. So those are the three reasons. So then getting into the nature, the plant value facilities and exchange between each genus, buyers and sellers. And so it's exchange is what creates value matching. Typically.

to your point on the first component here, technology is really such a huge level because technology lowers friction. And so IT makes possible much, much, much more efficient making of these transactions and making of these matches. And so that why seems to place such a huge role?

Yeah ur ly think of matching. There has to be discovery and then there has to be the mechanics of the transaction itself. And think of discovery without mobile, right? Let's say I wanted a ride in the same asco area. What I just call a lot of people to see, do you have a car and time to give me a ride somewhere?

I mean, that's really what we're talking about here, right? Having a computer that sits with you all the time that you pay a lot of attention to is a tremendous advance availability. And then and then on the transaction side of sudden, you can push a button and you don't have to negotiate Price or payment information is already in there.

I mean, we all take this stuff for granted, but this just enables all kinds of essentially markets that didn't exist before. So the value comes from matching a buyer and a seller. But power in these things is really different. IT comes from one platform doing this materially Better than another platform. And that the thing that drives that difference in performance is sustainable.

Typically, that the difference in performance is 是 driven by a differences in the size of at least one side of the platform。 So the new york stock exchange is more attractive than the london socks exchange because the liquidity is Better than more buyers and sellers and you get lower bit as spreads, right? But if all the parties involved had easy multifamily in, that would go away. But in fact, it's maintained by contractual arrangements and it's really a pain to switch from one one to the other.

Yeah, easy. Obvious example of this that has been discussed much in the past decade is airbnb vers a super, really like B, B, has so much unique supply that are not onna find on book that come home where any other platform, well, you know, uber, it's like I can get a car on uber or lift or D, D, whatever.

So the question often is first. So you have to meet two conditions. The value that one platform delivers has to be materially Better than the other. And remember, this is a matching situation and I won't get into the technical aspects of IT. But basically, it's equivalent to sort of a distance formulation even in multi dimensional space, is a square root function, which means the second dian ago, which means that IT flattens out after a point in when IT flats out. And whether there are two competitors that are both in the flat region is a critical element there. And then even if that is true, that IT isn't flat enough between the two of them and there is a real material difference in deliver rebels, then the thing that maintains that difference, which is different scale on at least one side, has to be maintained. And so the degree to which multiple as friction was.

is critical when we just see that play out so frequently in the start up. And technology venture investing space. Have on my mind, castor researching right out in video.

And you know, they were the first computer graphic s chip company, the first in silicon valley. They thought that was going to be so great. They had such a great team and so much funding from sickos and sutter hill. And IT was gonna great.

Sutter hill, wow. That's going back away.

yeah. And then, you know, they wake up six, twelve months later and there's ninety other companies that IT would ve been funded doing the same thing. You know there's no power there. Any video course had to develop power in other ways.

There are segway of their business from one thing to the other is that you'll be a wonderful thing for you to explore. You've gotta see what really does drive value. And is there are a real difference between competitors? And is there some lock in of some sort of one side, the volume, so earth on couch, so that you maintain that superiority. And so anyway, this has really been enjoyable, as always.

Thank you both. Thank you so much. Hamilton.

yeah. Thank you both. This is a real treat and a treat to have. Both of you will continue you to acquired on the first time, i'm sure not the last time. And yeah, we can way to do this again.

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