Don’t start your own company because you want to be your own boss. There are three ways in which a company can make more profit than an investment in a Vanguard S&P 500 index fund:
- You know how to do something that nobody else can do (the typical MIT tech spinoff approach)
- You have a lower cost of capital than anyone else (the “my dad was really rich” approach taken by Bill Gates and others)
- You have a better understanding of one kind of customer than anyone else.
The problem with Way #1, knowing how to do something that nobody else knows how to do, is that there is no proven market for whatever it is you are doing. Maybe nobody has bothered to learn how to do this because it isn’t necessary to do. A lot of things that look great in the lab and in a scientist’s or engineer’s head don’t look good to a customer for reasons that may be impossible to predict.
Having rich parents is great. In fact, it is the best and surest way to get rich in these United States. Unfortunately, having a low cost of capital is no guarantee of success because, as society has become ridiculously rich, capital has become very cheap. Your competitors can probably get a home equity loan at 6 percent on their McMansions. How much cheaper can your cost of capital possibly be?
The most reliable source of supranormal profits is superior knowledge of one kind of customer (Way #3). Ideally this will be the kind of customer that larger companies are overlooking. The founders of SAP, for example, were employees of IBM Germany for many years and got exposed to the accounting challenges of large manufacturers. When they quit IBM, they were among the best situated programmers in the world to build an accounting system for manufacturing companies. It is not because these guys were the world’s best programmers that SAP is today bringing in $10 billion per year in revenue and has a market capitalization of $60 billion. It is because these guys were the best programmers who understood the problems of their customers.
via Darren Rowse.
Photo by yomanimus.