Is Revenue Model More Important than Culture?

HN Discussion Here:

I always loved getting problems of the type “What is the limit as x approaches infinity” type in high-school/college. You’re given an equation (of the classic y=x format), and asked to derive what the value of y will be as x grows to infinity.

One thing you learn pretty quickly about these types of problems is that often it doesn’t matter where the function “starts” (or where it is at small values of x). It could start at zero, or at negative infinity, but its limit might be infinity, and vice versa (it could start large but have a limit of zero or negative infinity).

In fact, for many equations, there’s usually one dominant term. This is the term that dominates the limit. There might be countless other factors or parts of the equation that matter initially, but eventually it’s that dominant term that wins. This is sometimes known as the dominant term rule. We’ll get back to this in a second.

Ads vs. Search

Google had a little press kerfuffle a few months ago. You can read a summary in the New York Times here, but the short of it is that the company launched a design change that made search results and ads look very similar. Presumably, this increased revenue for Google, since many people ignore ads when they can easily identify them, the same way you’d ignore stepping in dog crap if you can identify it in the mud (and yes, given the state of online ads and content I pick this analogy deliberately). But there was a pretty strong backlash against this as a “dark pattern” designed to trick users. After the negative press, Google walked back the change.

If you’ve been following the news around big tech companies these past couple of years, this type of behavior is not surprising at all. These companies have grown really large, are arguably monopolistic, and hyper-focused on growth and revenue. Over and over, they have made decisions that have resulted in backlash from the press and from their users.

On the other hand, if I ignore the past ten years, and jump back to when I worked at Google as an entry-level Software Engineer, it is a little surprising to me. I worked at Google from 2006-2009. At the time, it was already a rapidly-growing public company (I think I joined when there were around 8,000 employees, and left when there were 20,000). I initially worked on the team responsible for AdWords, so I had some exposure to the culture and decisions that were made at the time (of course it wasn’t deep exposure, since I was an entry-level Software Engineer on the lowest rung of the ladder… but it was exposure nonetheless).

Note: I’m going to pick on Google a little bit here, but I do love that company. I think there’s a lot it can improve on, but it’s still one of my favorite and least “evil” large tech company. I chose them simply because I’m more familiar with them.

At the time, Google employees might have argued against making a change because it was “evil”. The “don’t be evil” motto was still around, and as engineers who were building parts of the product and making decisions, we were pretty ideological about it. One of the company’s values was also to put users first, employees second, and shareholders third. By any of these lenses, the type of design change that Google got flak for recently would have been highly unlikely at the time.

Revenue is the Dominant Term

Let’s take a dominant term view of this problem. When a company is first built, several variables dictate its decisions:

  • The implicit values/culture of the early team. As Ben Horowitz would say, “what you do is who you are.” 
  • The explicit values/culture of the early team. Are we user-centric? Data-driven? …
  • The revenue model.

I think that over time, the revenue model is the dominant term. The limit of a product towards infinity, so to speak, is based on its revenue model. If your revenue model is ads, it doesn’t matter if your stated mission is “to organize the world’s knowledge and make it universally accessible and useful”, “to give people the power to build community and bring the world closer together”, or anything else. If your revenue model is ads, you are an ads company.

I’m not diminishing the role of culture and values. I think those are critical. Part of me would love to believe the hundreds of books written on how culture determines everything. But I don’t. At least not for companies that can hire some of the smartest people in the world, gather massive amounts of data, and build technology more sophisticated than ever. And be trying to “maximize shareholder value”.

I’ve actually agonized over whether culture or revenue are the dominant term. In fact, I agonized so much that I’ve had this article in my head for years, and in a Google Doc for months, but I couldn’t get myself to write it / publish it. Because part of me believes culture always wins. Actually, all of me wants to believe culture always wins. But I’ve had my idealism crushed enough times by hard realities. 

Yes, having and espousing a positive culture and set of values are important. And they may shape how and how quickly the revenue model dominates (for example, companies like Enron or pre-IPO Uber show how bad things can get if you have a terrible culture). But regardless of your mission statement, your culture, your values, and so on, if you choose the wrong revenue model, it will dominate them in a shareholder-value-driven, capitalistic society. Culture can only dominate if it’s negative. A positive culture is necessary, but it’s not sufficient.

In other words, over the long term, a company (and its product) will morph to take the shape of its revenue streams.

Charlie Munger Knew It

Charlie Munger, Warren Buffet’s business partner, has a pretty famous speech where he talks about the power of incentives.

“Well I think I’ve been in the top 5% of my age cohort all my life in understanding the power of incentives, and all my life I’ve underestimated it. And never a year passes, but I get some surprise that pushes my limit a little farther.” —Charlie Munger

Charlie gives several examples: for instance, FedEx needed to move/sort their packages more quickly, so instead of paying employees per hour, they paid them per shift: productivity increased dramatically (employees now had less incentive to take longer hours to do the same amount of work). Charlie’s model of human behavior is pretty simple: we follow incentives. He makes people sound almost coin-operated.

Now, this isn’t entirely true—there are plenty of examples and research showing that our behavior is more complicated than simple incentives would predict. But Charlie is arguably one of the best investors in the world, and he’s onto something. Even though there might be other variables that influence our behavior, you can still simplify things down to incentives. Incentives are his dominant term.

That incentives are dominant is actually pretty obvious to a lot of people. Somehow in the tech industry, we seem to have just clouded our own judgement through some sense of moral superiority. We care about the impact we’re having on the world. We have noble missions that we rally around and try to hire people who are excited by them. So far, so good. But then we shoot ourselves in the foot by setting up business models with misaligned incentives.

A System View

If you take the view view that a company is not a product, but rather, a company is a complex system that creates a product, you can take a system’s view and arrive at the same conclusion around the importance of business models. In an essay quite famous with “system thinkers”, Donella Meadows outlines the “leverage points” of a system—places you can intervene in a system to change its behavior. Here’s her ranked list, in increasing order of effectiveness:

Now, organizations can have cultures that “transcend paradigms”, but in the modern corporate world, these are rare. And, without going down a rabbit hole here, organizations based on cultures that transcend paradigms can create both massive good OR massive damage. But for our purposes, it’s safe to assume that most companies are not transcending paradigms.

The next two leverage points are the mindset out of which a system arises. Most modern companies arise and operate in a mostly capitalistic paradigm, and have goals of maximizing shareholder value via growth and revenue. And over time, the way that revenue can be grown will dominate almost anything else, even the explicitly stated goals (aka its “mission”), because the paradigm creates implicit goals that outweigh the explicit ones.

Look for Aligned Business Models

So what does this mean in practice? Well, if you only care about making money, it doesn’t mean much. But if you do care about more than money, if you care about the impact your work has and you want to be proud of what you do, it’s worth thinking through this a little more deeply.

Whether you’re starting a company or joining one, look for a business model without perverse incentives. A business model that sets things up so that the better a product is, the better off the company is and its users are.

Sometimes, counterintuitively, a business model may seem aligned at first glance, but end up being quite harmful. The classic example that we’re all now aware of is free products. Free seems great at first glance. But companies have to make money somehow. So they sell ads, or data, or some mix of the two that their users don’t quite understand. And so now, success for the company means more time spent on the product (which may or may not be a good thing for users), less privacy (definitely not a good thing for users), and ultimately more ads.*

So often, paid is better than free*. At Monarch Money, my current startup, we’ve chosen to go with a paid model, with a hope that we’ll be more aligned in creating value for our users (who we can now call customers… notice how there’s a word for “customer service”, but no “user service”?). There will still be plenty of forks in the road where we can decide whether we help our customers, or take advantage of them, and I hope our values will help us navigate those forks, but at least the revenue model is in our favor.

Another layer to consider is whether your product and revenue model help people with just short-term goals, or a mix of both short and long-term goals. Products that are great and helpful, help their users with both. Good products might help with one or the other. The products with the most potential for damage provide some short-term benefit at the expense of longer-term goals.

So when you consider starting or joining a company, look at the business model, and do the “limit math”. Think about what things might look like if you become massively successful, because you might be.

*This is an opinion piece. I had to draw a lot of simplifications to keep this article short. A lot of statements are definitely not universally true, but are true enough that they’re worth using as examples.

3 thoughts on “Is Revenue Model More Important than Culture?

  1. I think your hope that culture is the dominant term can be true if we consider that publicly-traded and most tech startups have chosen a culture that inherently favors revenue/growth. Or in other words, revenue is one option nested under culture. This construct would then account for non-profits, and even lifestyle businesses. Sure, the money always needs to come in somehow but we see plenty of examples where businesses forego more revenue or growth because culture is the dominant term.

    Liked by 1 person

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