Investment Evaluation and Strategies: The Lean Startup and the Minimum Viable Product

By Stefan Larsen

The grim reality of venture capitalism is that most startups fail. Even with an innovative idea, a motivated team can easily fail to make a product or service that customers can find value in. Yet the romanticised stories of young and creative entrepreneurs building radically successful businesses from scratch persists.

Certainly, there have been majorly successful businesses built from nothing by entrepreneurs, and according to Eric Ries, founder of IMVU Inc., the successes of these startups are no accident. What these startups had in common was that they implemented the methodologies of the Lean Startup paradigm, which approaches entrepreneurship as a type of business management when the business is under conditions of extreme uncertainty.

Described here is one of the most important and counterintuitive elements of the Lean Startup paradigm: the idea of the Minimum Viable Product (hereinafter also MVP), which is essential for the Build, Measure, Learn Feedback Loop, a mechanism core to the Lean Startup. This loop begins with a startup clearly defining its hypotheses about how their product or service will create customer value. Once it establishes the fundamental hypotheses for the success of their product or service, the startup will need to build the Minimum Viable Product to test their hypotheses.

Contrary to established management practices, a startup should build an initial product with as small a capital investment as possible whose sole purpose is to test the startup’s fundamental hypotheses as soon as possible, and not to be a comprehensive and polished product or service provided at the end of a lengthy and inflexible business plan.

The MVP will likely be a somewhat faulty product, with many features lacking from its creator’s vision, which in this stage will only have appeal to early adopters and not picky mainstream consumers. It forces entrepreneurs to release a product that they are not very likely to be proud of, for the simple reason that it is of inferior quality, although immensely useful and efficient in the startup’s learning and product development process. A MVP can even be as insubstantial as a smoke-test to see if there is any market response to the prospect of being able to buy a product, like releasing an advert for a product that hasn’t yet been actualized.

Whatever form a MVP takes, its main purpose is as an experiment to inform entrepreneurs if continued investment into a particular vision would be fruitful, and can help focus future investments on certain aspects of their offerings. It stops the fatal mistake that startups make of investing into building a well-designed product that nobody wants, which is much worse than having to accept that an idea was bad and pivoting to something new or releasing an embarrassingly poor but informative product.

A favourite example of an MVP developed by a now successful business was the initial product of an Austin, Texas-based company called Food on the Table (hereinafter FotT) , whose vision was a service that created weekly meal plans and grocery lists that are based on the food the customer’s household enjoys. The vision was that by inputting the food they’d like to eat for the week with filters (time, health, cost and variety), customers would be given relevant recipes matching their needs and a grocery list with prices from indicated supermarkets to collect the ingredients.

This service would require an elaborate behind-the-scenes set-up in order to meet growing demand, including an algorithm to match recipes and produce prices from a database to the customer inputs. But before making any heavy investments, the CEO, Manuel Rosso, wanted to determine whether this is a service that people wanted to subscribe to.

He began by finding an early adopter in a supermarket who was interested in paying a subscription fee for the service he envisioned, and then provided the MVP as a concierge treatment, doing all the back-end processes manually. He would personally go to the customer’s home to hand her the hand-selected recipes and the grocery lists on a weekly basis in exchange for handwritten checks. This would be a grossly inefficient system by any traditional management metrics, but it was a very efficient way to validate the hypothesis of how his service created value for the customer.

As Manuel Rosso continued to sell the FotT service to local supermarket customers, their customer base steadily grew, and in the spirit of a Lean Startup, they continuously made necessary and incremental investments into iterating their service when they needed to so that it became more scalable. They replaced at-home visits with a mailing list to deliver their service, they developed software to parse lists of what was on sale in supermarkets, they started taking credit card payments, until eventually they were providing a substantive service offering which at every stage in its development had not sacrificed customer value while becoming more scalable.

Even though the FotT service was initially very inefficient and couldn’t be scaled, it was enough to confirm before making heavy investments that there was a market for the service and that they weren’t creating something that nobody wanted. According to the inventors of this approach, the Minimum Viable Product is essential for any venture’s success in that it tests the basic assumptions related to if and how their envisioned product or service will create value for their customer segments, and stops futile investment into a vision that is fundamentally flawed.

On the other hand, the argument can be made that releasing a less than perfect product can also have significant adverse consequences on the business. A weak product launched into an unforgiving market can damage brand image and make people sceptical of further iterations. The engineering and product development teams of the company could become discouraged, blaming poor product reception on a lack of polished features rather than a fundamental lack of capacity to create customer value. A MVP is also not a very promising credential when trying to acquire financing. Finally, if the idea for a product is the first of its kind, releasing a MVP can create opportunities for companies to replicate your product and claim your market share.

Although there are ways to mitigate these risks, like releasing the MVP under a different name or making sure that the startup’s employees are confident in the lean startup philosophy, these are certainly weaknesses to be aware of as a lean startup. So even though a MVP is a highly efficient and effective way of validating the fundamental hypotheses of your product, a cost-benefit analysis should be undertaken to assess in certain circumstances whether a MVP release may ultimately hinder your business from becoming successful.

Authors: Stefan Larsen

Editor responsible: Carmelo Spallino

Sources: The Lean Startup By Eric Ries