The Startup Way: How Modern Companies Use Entrepreneurial Management to Transform Culture and Drive Long-Term Growth

by Eric Ries

WordPress—the open-source blog platform that powers more than 27 percent of websites—is structured overall in an open, non-hierarchical way. More than 500 people work for the company all around the world, and none of them do so in quite the same way. “I want to create an environment where people have autonomy and purpose,” explains co-founder Matt Mullenweg. “Part of that is saying you’re not going to tell someone how to do their job. It’s all about the output.” The same ethos applies to the way WordPress manages accountability and incentives. “We try not to do anything by decree,” says Mullenweg. “People can change drastically when they join a team, or a team can change when someone joins.” Many of the company’s leads rotate in and out over time, but that doesn’t involve any kind of change in compensation. Mullenweg wants people to feel totally comfortable transitioning out of the lead role if it isn’t a position they’re enjoying or particularly suited to. “In many corporate structures, you end up moving up in a company by managing more people. I don’t want someone to feel like in order to grow in their career they need to become a manager. And conversely, I don’t want them to feel bad for letting it go.”10

WordPress has structured incentives this way since its founding in 2003. But at more established organizations, it’s necessary to change the way people are rewarded. This can be incredibly difficult, especially in a place that has had the same systems in place for a long time. When I talk to corporate executives, they often claim they wish they could provide their employees with “equity” tied directly to the long-term success of their current project. For an internal startup, this is clearly logical. And yet, they claim, the mysterious forces of “finance” would never allow it. But when I speak to the leaders of finance functions around the world, they universally agree the mechanics of how to build this kind of “internal equity” are not especially complicated. What’s missing is the willingness of general managers to commit to specific milestones for valuing the project’s success. Working together in a cross-functional way shows a possible path forward: a stake in the outcome for internal startups designed by finance, backed by the conviction of senior leadership.

Their hypotheses were: (1) This new compensation system will allow us to retain and reward some key and unusual talents inside the company. (2) The new compensation approach will allow us to better recruit new hires.

Ultimately, the goal of the Startup Way is to enable the entire organization to function as a portfolio of startups. This is the key to making the kind of long-term bets that provide growth and sustainability. Just as with a cohort of startups in a place like Y Combinator, expect that innovation projects in a larger organization will also have a high mortality rate. But the projects that survive from year to year can have dramatic impact.

Another sign of true cultural embrace of these principles is evident when they extend to employees who aren’t necessarily involved in Startup Way processes. The hypergrowth tech startup Asana is built on the notions of mindfulness and intentionality. “Most companies end up with a culture as an emergent phenomenon,” says co-founder Justin Rosenstein. “We decided to treat culture as a product.”17 Co-founder Dustin Moskovitz (who was also a co-founder of Facebook) adds, “From the beginning we were intentional about wanting to be intentional. A lot of companies have that conversation several years into their existence. We’d already had it in the first couple of weeks. Then we went about trying to manifest it and keep it extensive.” Asana works to regularly reassess and redesign its core values, and when the company makes a change, it launches the new value throughout the organization in the same way it would launch any other kind of product. Then it goes through the process of feedback and iteration on the road to resolution. Asana calls these problems “cultural bugs” and works to eradicate them the same way it would a problematic piece of software. When some junior employees came to management saying they felt “falsely empowered”—they had decision-making power, but their decisions were too frequently overridden by higher-ups—the company launched a process to restructure the way that power was allocated. Asana was started by some of the best founders in the world. This is what...

Innovation Accounting (IA) is a way of evaluating progress when all the metrics typically used in an established company (revenue, customers, ROI, market share) are effectively zero. It provides a framework of chained leading indicators, each of which predicts success. Each link in the chain is essential and, when broken, demands immediate attention. It’s a focusing device for teams, keeping their attention on the most important leap-of-faith assumptions. It’s a common, mathematical vocabulary for negotiating the use of resources among competing functions, divisions, or regions. It provides a way to tie long-term growth and R&D into a system that follows a clear process for funding innovation that can be audited for its ability to drive value creation.

Innovation accounting enables apples-to-apples comparisons between two or more startups, in order to evaluate which is most worthy of continuing investment. This is a way of seeing a startup or innovation project as a formal financial instrument, an “innovation option”3 if you will, one that has a precise value and reflects a range of future costs and financial outcomes. Innovation accounting is a system for translating from the vague language of “learning” to the hard language of dollars. It puts a price not just on success but also on information.

Innovation accounting allows organizations to quantify learning in terms of future cash flows—and to make the explicit tie back to the equity structure we discussed in Chapter 3. In other words, IA gives finance a way to model the variables that go into making up a startup valuation: asset value, probability of success, magnitude of success. Early numbers, like revenue, are likely to be really small, with a possibly negative ROI. This is really politically dangerous for innovation projects, so ...

In this way, innovation accounting acts as a scorecard that can track a team’s progress as it marches down the “innovation field” marked by two end zones: zero current IA value equity value fantasy plan

Level 1: Dashboard

Every flavor of innovation accounting is designed to demonstrate validated learning in a rigorous way. As you’ll recall from Chapter 4, this requires showing a change in customer behavior from experiment to experiment. Those behaviors are the inputs to the business model, the leading indicators that drive future outputs like ROI and market share.

The innovation accounting process begins with a simple dashboard full of metrics that teams can agree are important. Many teams aren’t yet aware of the drivers behind their revenue projections. They’re focused instead on the financial goals or “outputs”—things like ROI, market shar...

The key piece of data in this process is the per-customer input, something that can be measured in a sample of any size; it’s the same currency whether you’re looking at one customer, ten customers, or ten times that many. And, critically, you can show changes to it over time much earlier than you could show other significant gross numbers.

Per-customer learning metrics include: Conversion rates (such as the percentage of customers who try a free trial of a product who subsequently become paying customers). Revenue per customer (the amount of money customers pay for a product on average). Lifetime value per customer (the amount of money the company accrues from an average customer over the entire “life” of his or her relationship with the company). Retention rate (what percentage of customers are still using the product after a certain amount of time). Cost per customer (how much it costs to serve a customer on average). Referral rate (what percentage of existing customers refer new customers to the product, and on average how many referrals they make per unit of time). Channel adoption (what percentage of the relevant distribution channels carry the product).

Metrics don’t even need to relate to one another at this point. The idea is simply to start with something manageable, begin looking at the numbers over time, and have a plan. For example, this week, aim to reach three customers with several questions that will clarify your objectives and their needs. Next week, five customers, and by week three, seven, after which those numbers on a percentage basis to see if they are improving or not. This is similar to Y Combinator’s obsession with having their startups measure growth on a week over week basis.4

LEVEL 1 DASHBOARD HLS MVP 1: Street corner lemonade stand/tables and chairs

For example, a common Level 1 dashboard will have only metrics relating to revenue, not to costs or long-term retention. As every salesperson knows, you can always boost revenue by making unrealistic or unaffordable promises up front. A Level 2 dashboard is meant to try to prevent these kinds of mistakes.

ENGINES OF GROWTH The growth hypothesis, likewise, can be put on a secure quantitative footing. We can ask: Given that a customer delights in our product, what specific customer behavior will cause us to acquire more customers? We are searching for behaviors that follow the law of sustainable growth: New customers come from the actions of past customers. This can happen in one of three ways: The “sticky engine of growth”—Word of mouth referral is higher than the natural attrition rate (and so growth compounds). The “paid engine of growth”—We can take the revenue we get from one customer and reinvest it into new-customer acquisition. The “viral engine of growth”—New customers can be recruited into the product as a side effect of normal usage, as in products like Facebook or PayPal, as well as fashion or other trendy products.

For each of these “engines of growth,” there is a specific number that indicates that it can grow sustainably, and this number defines the threshold for product/market fit. Unlike the traditional product/market-fit advice that “you’ll know it when you see it,” this allows us to answer a more difficult question: How do I know how close I am to product/market fit? LEVEL 2 DASHBOARD HLS MVP 2: Simple landing page with order button

Level 3: Net Present Value

In Level 3 innovation accounting, the goal is to translate learning into dollars by rerunning the full business case after each new data point.

The goal here is to re-run that initial spreadsheet with new numbers learned from experiments and see how things change. In all likelihood, when we do this with our very first MVP, the hockey stick will become a flat line (a depressing but necessary first step). From that point on, every new experiment means a new set of inputs to this model. Each new run of the model yields a new graph, and a new set of projections. And these projections can then be rendered into net-present-value terms using standard finance tools. Changes in this NPV calculation represent the direct translation of learning into financial impact.

With every new learning, the information translates into financial terms by rerunning the model. The ultimate result is an accountability system that finance cares about. Everything can be translated into future impact—and its attendant cash flow.

Let me repeat this key idea: A Level 3 dashboard literally makes everything we learn translatable into net-present-value terms. If we learned how to change our product’s conversion rate from 1 percent to 2 percent, we can say with precision how much that is worth if the product scales the way we hope. And we can also give revised estimates as to the time line of achieving that scale. Over time, we are effectively refining the spreadsheet in the business plan to get more and more accurate (as we plug in fresh data).

And now, when we negotiate with finance, VCs, or other stakeholders, we have a way of showing progress. Only they can judge if our progress is fast enough to give them confidence that we are truly changing the ultimate probability of success (since they still have to use judgment to decide if they think our recent progress will continue). But at least now we have a common framework and language for having that assessment be done in a rigorous way.

LEVEL 3 DASHBOARD NET INCOME, MILLIONS

The “bingo card” diagrams on the next two pages show how experiments played out over not just the three scales from team to enterprise level but also the four time horizons that represent the progress of adoption: execution, behavior change, customer impact, and financial impact. The leading indicators (see Chapter 6 for more on these) in each time period predict the leading indicators in the following time slot, acting as a focusing mechanism that will allow teams, businesses, and companies to see immediately if something has gone off track.8

“BINGO CARD” OF KEY QUESTIONS

“BINGO CARD” OF SAMPLE KEY METRICS

Each column and row in the first diagram serves as a leading indicator for the next. Teams provide leading indicators for change at the divisional level, and divisions for the corporate level. In order to use the charts to identify and focus in on a problem area, answer the question in each square successively until an unsatisfactory answer comes up. Then go back to the previous square to determine what change is needed to move forward.

Each of these key questions gives rise to a set of metrics designed to answer it. These metrics, which make up the second “bingo card” diagram, are obviously team-, division-, and scale-dependent. But this framework allows an organization to create an org-wide dashboard that shows how it is performing across many portfolios of teams.

It is for this reason that, at GE, the initial rollout of FastWorks involved the Corporate Audit Staff (CAS). It was not just an engineering, HR, or marketing initiative. Finance was on board from the start. Every single one of the early FastWorks projects had a high-potential leader from CAS assigned. At first blush, this might sound strange—who wants an accountant on a startup team?9 But being able to build the kinds of models that innovation accounting requires was a huge help to those initial cross-functional teams.

The key to this is not to compare the interim progress (which will often be quite modest) to the fantasy plan in the business case, but rather to compare it to the previous milestone. In this way teams can show progress over time. Growth boards can value the overall worth of their portfolio, and the company can have confidence that its investments are likely to pay off in the future.

WHAT IS A GROWTH BOARD? A growth board is simply the purely internal version of a startup board: a group of people who meet on a regular basis to hear from teams about their progress and to make funding decisions. “Growth boards are operationalized venture capital funds,” explains David Kidder, co-founder and CEO of Bionic, a company that installs an integrated solution of growth boards and lean methodology inside large enterprises. (Kidder and I worked together closely to help establish growth boards at GE.) “The growth board introduces a decision framework for executive leadership that enables them to manage a portfolio of early-stage startups like a venture capitalist would.”

What matters is not the exact composition of the board but that its membership is consistent from meeting to meeting. It’s better to meet less frequently than to have members miss meetings. Just as in a venture investor board, the most important attribute of a good growth-board director is conviction. Members of the board should be individuals who have a point of view about their investments, who will stick with teams—as long as they are showing real progress—even when the metrics are small. Board members also have a clear opinion about what kinds of leading indicators are valuable and will drive much better returns

HOW GROWTH BOARDS OPERATE Apart from its legal and compliance obligations, a startup board has three primary responsibilities: To be a sounding board for the founders and executives, helping them plot strategy, and hosting the pivot-or-persevere meeting (see Chapter 4). To act as the central clearinghouse for information about the startup, taking on the burden of reporting on behalf of the founders to key financial stakeholders like general partners and limited partners of the investment firm (see Chapter 3). To be the gatekeepers of future funding, either by writing checks themselves or by encouraging (or vetoing) sources of outside funding (see Chapter 3).

A growth board, then, has these same three responsibilities: To be the single point of corporate accountability for an internal startup. Some growth boards are bespoke and designed to serve only one team. Others are long-lived and/or service many teams at once. Some even intentionally bring cohorts of teams through the board at the same time, as in a startup accelerator. Regardless of its form, every growth board should aim to be the venue for pivot-or-persevere decisions for the internal startups it oversees. The best boards are able to push founders to think deeply about their progress and question whether they really have achieved validated learning or just wishful thinking. This is different from a stage-gate (“go/kill”) review and is not effective if adversarial or imperious.

To act as the single clearinghouse for information about the startup for the rest of the corporation. This responsibility requires some real work by the executives who sit on the board, and many executives and teams take months or even years to get comfortable with this role. The key is for every team that has a growth board to feel comfortable deflecting the infinite asks for status updates they get from middle managers. It’s not that team members are refusing to answer; it’s that they’ve been told that any requests should be routed to Senior Executive X, who sits on their growth board. Middle managers rarely ask for status updates idly; such requests are almost always a prelude to requests for a change in plan. Making these requests of low-level, low-status managers in the company is relatively cost-free. But making the same requests of a high-level executive is much more expensive, politically speaking. The existence of a growth board forces middle managers to think carefully about whether they really, truly have a problem that needs solving, while giving them a clear and direct path to getting it solved if they do.

For example, one of Todd Parks’s strategies was to use a “ninety-days” fixed budget in government. Teams would be disbanded after ninety days unless they showed sufficient promise.

I recommend: The startup is allowed to spend its growth-board money on whatever it wants, without micromanagement. But it must bear the full costs of anything it uses: salaries, equipment, facilities. This is not a matter of allocating partial overhead costs from the parent organization, either. Recall from Chapter 6 that the only people who should be working on a startup are full-time dedicated employees or part-time volunteers (who are not paid to do so). There should be no part-time costs—unless the startup decides to hire part-time or contract labor from the outside. I’ve seen internal startups go to outside vendors, like IT, when internal gatekeepers are intransigent. As long as they are spending their own money, this is fine.

However, the ironclad rule of the growth board has to be: The money is yours, but you cannot get a penny more if yo...

That is why this is an advanced technique. Most teams simply won’t believe this rule until they see it enforced. But also, most executives are not able to prevent themselves from throwing good money after bad. And remember, most subordinates have elevated convincing their boss to fund their projects to a high art. The arguments for one more try are always compelling. But the whole point of innovation accounting is to have these decisions made in a rig...

tips for companies that want to set up growth boards: Small Group, Right People: Growth boards should consist of six to eight members at the C-suite level. The group must be nimble, have the authority to act, and project to the organization that this work is not only allowed but highly valued. Frequent Meetings: Growth boards should meet at least once a quarter; as the number of teams increases, a subgroup may also meet more frequently. Action Oriented: Growth boards must make go/no-go decisions at the meeting. Requests for follow-ups, additional opinions, etc., should be the exception, not the rule. Fact Based: Growth boards must overcome their biases about what the “right” answer is, and use the evidence uncovered by teams to make decisions. No Attendance, No Vote: Only growth-board members in attendance may vote; no delegates or proxies allowed.

“So we kind of stepped back and said, ‘If we look at FastWorks as a way for individual projects to act like startups, we need a model that is similar to venture capital.’ ” The question became, “How could we put a venture capital model on top of the startup model for all the individual projects so we could make sure we kept our strategic focus as well as our entrepreneurial spirit?”

The answer very quickly became: growth boards. Gebhardt’s division moved from individual team boards to what they called “portfolio leaders,” who would lay out a growth thesis for each portfolio, then assess how various projects fit the thesis.

The question they tried to answer, Gebhardt explains, was: “How do you get your input stream coming in to match the growth thesis as well as possible? It was a fundamental shift in how we operate.”

The Oil & Gas team did one more round of growth boards with great results. What happened next is a perfect example of how transformation spreads. They gave their third round of funding directly to the product companies within the division and said: “You run a growth board. Go and invest the money and then come back to us and tell us how you’re spending it.” By empowering the people at the next level, they placed their trust in them (while remaining on standby as coaches, of course). The results were immediate. “We moved it down the chain of command,” Gebhardt says, “and that really unlocked a lot of the innovation.”

Let’s look at two very simple metrics the Oil & Gas team used to measure their progress. What percentage of projects are canceled, and how long does it take to stop them? Before growth boards: Only 10 percent of the division’s projects were being killed. That meant 90 percent of the projects delivered something, regardless of whether or not someone wanted it. First round of growth boards: 20 percent of the projects were eliminated after a ninety-day cycle and for a lot less money. Second round of growth boards: 50 percent of the projects were stopped, many of them after only a sixty-day cycle.

How are projects being killed? Before growth boards: They weren’t, for the most part, being canceled, for all the reasons we’ve discussed thus far. First round of growth boards: Projects were terminated by the growth board. Second round of growth boards: The responsibility shifted to the teams. “The teams would come in, and they would almost pitch the case like they wanted us to stop them.” Third round of growth boards (after the seed money had been handed down to product companies): The teams would come to the board and say, “We’ve already stopped the project.” This was a major step in many ways, according to Gebhardt. “The fact was that they felt better and better about being able to make that decision, they were secure it was the right thing to do, and they realized they were saving money for the company and that we would actually thank them for what they were doing.”

All of that took just nine months. Nine months from expensive, never-ending zombie projects to self-sufficient product teams making their own well-informed decisions about whether to proceed.