Could anyone have accurately predicted the impact the Internet would have in its earliest days? What about social media? Virtual reality?
And that is the challenge innovators have when trying to identify the "next big thing" before anyone else has come to recognize the opportunity. This becomes especially difficult when they find it but are met by a sea of skeptics, both inside and outside the company.
In this segment from Industry Focus: Tech, Dylan Lewis and Simon Erickson discuss this challenge through the lens of Facebook (NASDAQ: FB) and more.
Check out Simon's five principles, based on Clayton Christensen's The Innovator's Dilemma:
No. 3: Markets That Don't Exist Can't Be Analyzed
A full transcript follows the video.
This podcast was recorded on Sep. 2, 2016.
Dylan Lewis: No. 3, moving along: Markets that don't exist can't be analyzed. I think this might be one of the most interesting points that we'll raise during this show.
Simon Erickson: It's my favorite of the five, actually. Can I ask you, how did he come up with the name The Innovator's Dilemma? Do you know what that actually refers to?
Lewis: I don't.
Erickson: It's an interesting thing. The Innovator's Dilemma is, if you want to get into something new, you don't have the data to support that decision, necessarily, because it's new. You don't know if it's going to work or not.
Lewis: So, the idea is, you're working on a hunch and not much more, in some cases.
Erickson: Yeah. It would be a no-brainer if all the data told you, "Hey, this new market that nobody's going into is going to be wildly successful." You don't get that. You have to jump out there ahead of the pack.
Lewis: And, in fairness, if the data suggested it, everyone would be doing it.
Erickson: Exactly. So, that's the beauty of The Innovator's Dilemma. It's always forward-looking, it's not looking at financial ratios. A lot of what Wall Street lives and dies by is things like margins, return on equity, return on invested capital. This is always a framework looking forward.
Lewis: Even something like addressable market, which is something that we like to look at when we can, but if you don't even know what a market is going to look like, or what the scale of a technology might be, it's kind of a fool's errand to even put a number on it.
Erickson: Exactly. And let's go back in time to 2004, 2002 -- social media, social networks, Facebook is the example for this one. This was something that most people didn't understand. You had MySpace and a couple others trying to figure this out out there. But Facebook was so far ahead of the game of the larger competitors in the traditional space that they learned a lot more about what people wanted to do on social networks, then they collected that data and did targeted advertising. Of course, now, it's a more than $300 billion market cap company.
Lewis: I will say, I saw an interview that Zuckerberg did recently with the founder of Y Combinator. He asked him, "What was one of the tougher things you experienced as CEO and in the development of Facebook?" And he said "People not seeing the vision that I see." These weren't external folks. These were people that were internal employees, members of the management team, that were disappointed when Facebook decided to shun early buyout offers.
He saw this huge potential to get beyond colleges, to become this huge platform that connects everybody, and they didn't. And a lot of them actually left when they decided to reject that buyout offer. So, this is not something that's limited to your average investor or mom and pop at home. This is something that even people in the space might not be 100% capable of grasping market size.
Erickson: And just like you said, it has to be the right person. You have to have the right vision, and not somebody that's leading you in the completely wrong path that maybe they think is the future of the business that really isn't. Good point on that.
Lewis: And even beyond the platform itself, we can look at the idea of, markets that don't exist can't be analyzed, or can't be totally grasped -- with Facebook, in the context of its pivot to mobile. A lot of people were pretty skeptical of Facebook's ability to monetize mobile audiences when they saw that that's where the majority of web traffic was going. Clearly, it's worked out for Facebook. They, basically, quintupled in value as they've really successfully pivoted to mobile. Now, mobile makes up, I think 84% to 85% of their total revenue take. So, this is not even necessarily something that is limited to when a company is first starting out. It can be something that, similar to the idea of streaming video with Netflix, happens as a company sees opportunities, and maybe leaves some of the market behind because they don't.
Erickson: Yeah. It turns out, interesting as this might be, that predicting the future is actually pretty hard. It's not so easy to have a crystal ball and say, "We're going to put billions of dollars behind this new market that doesn't exist yet." A story I love to tell when talking about this is back in the year 1980, AT&T hired McKinsey to do a study of how many U.S.-based cellphone subscribers they thought there would be by the year 2000. Twenty years in the future. Put yourself back in 1980, say, "There's this new thing called a cellular phone. How many subscribers do you think it could possibly reach by the year 2000?" Any shot on what the estimate was?
Lewis: Do you have any idea what the population was back then, so I can kind of anchor to it? You know, I'm going to say 40 million.
Erickson: Good guess. The actual estimate that McKinsey -- one of the best consultants in the world at the time, keep in mind -- they said it would be about 900,000 people.
Erickson: The actual number by the year 2000 was 109 million, just in the United States. It just shows how hard it is to look even five years in the future and predict where the market is going to head. But you do have to look, at some point, at smaller companies that are going in a path that everyone else is not going in.
Dylan Lewis has no position in any stocks mentioned. Simon Erickson owns shares of Facebook and Netflix. The Motley Fool owns shares of and recommends Facebook and Netflix. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.