If you want to build an online service, and you don't test it with a fake AdWords campaign ahead of time, you're crazy. That's the conclusion I've come to after watching tons of online products fail for a complete lack of customers. So I thought I would walk you through exactly how to run a "fake landing page" test using cheap tools that require no technical skills whatsoever.

Our goal is to find out whether customers are interested in your product by offering to give (or even sell) it to them, and then failing to deliver on that promise. If you're worried about disappointing some potential customers - don't be. Most of the time, the experiments you run will have a zero percent conversion rate - meaning no customers were harmed during the making of this experiment. And if you do get a handful of people taking you up on the offer, you'll be able to send them a nice personal apology. And if you get tons of people trying to take you up on your offer - congratulations. You probably have a business. Hopefully that will take some of the sting out of the fact that you had to engage in a little trickery.

To motivate you to give this a try, let me tell you a story from the early days of IMVU. It was fall 2004, and the presidential election was in full swing. One day, we became convinced that a killer app for IMVU would be to sell a presidential debate bundle, where our customers could put on a Bush or Kerry avatar, and then engage in mock debates with each other. It was one of those brilliant startup brainstorms that comes to the team in a flash, with a giant thunderclap. We spent weeks working on this new product, racing the clock so it would be done in time for the real presidential debates. We had endless arguments internally about what features it should include, how the avatars should look, and how much it should cost. We finally settled on a $1.99 price point, figuring that we wouldn't make much money, but at least we wouldn't get in the way of achieving scale. Finally the day came, we unleashed the landing page, emailed our existing customers, and started advertising online.

The net result: we sold exactly zero presidential debate avatars. None. Nada. We tried different price points, different ad copy, different landing pages. Nothing made any difference. Turns out, there was aboslutely no demand whatsoever for that particular product. And we could have found it out quite easily, if we'd used the simple five step process below. Oops - there went several precious weeks of development effort down the drain.

So, if you're interested in helping avoid mistakes like that, here are the steps:

1. Get a domain name. It doesn't have to be the world's catchiest name, just pick something reasonably descriptive. If you're concerned about sullying your eventual brand name, don't use your "really good" name, pick a code name. Make sure your domain registrar offers free "website forwarding" if you don't use a hosting service that lets you use a custom domain name in step 2.
   
   
2. Setup a simple website. I recommend using a hosted service like SnapPages. You basically want to create two pages: a landing page that says what your product does, and a signup page that people can use to register for it. If you're feeling charitable, you can add a third page that lets people know that the product isn't available right now, and that you'll get back to them when it is.
   
   
3. Enable Google Analytics tracking. The nice thing about services like SnapPages is that they offer this built-in. You just have to sign up for Google Analytics, get your account number, and plug it into your site.
   
   
4. Start an AdWords campaign. Google AdWords has no minimum buy required, so you can easily run a campaign for five dollars a day, or even less. Just put in your credit card. I recommend using their Keyword Tool to setup your initial list of ad targets. Don't worry about selecting particularly good keywords, if you're new to SEM. Just load them all in and choose a low cost-per-click. I used to use $.05, but you might want to go as high as $.25 or $.50. Just make sure you choose a maximum daily budget that is affordable for you to run the campaign for a few weeks with. I would aim to get no more than 1o0 clicks per day - over the course of a week or two, you'll get pretty good conversion data.
   
   
5. Measure conversion rates. Use Google's built-in Analytics/AdWords integration, to track the effectiveness of each ad you run. Then set up "goal tracking" in Analytics to see how many people actually sign up using your registration page. Here are the stats you want to pay particular attention to: the overall conversion % of customers from landing page to completed registration, the click-through-rate for your ads on different keywords, and the bounce rate of your landing page for different keywords.
   

Armed with that data, you will know a lot about what your business will look like when you finally do build the product you're imagining. At the very least, you can plug those assumptions into your financial model, now that you have a sense for what the cost of acquiring new customers might look like.

Even more importantly, you can start to experiment with feature set, positioning, and marketing - all without building a product. Use Google Optimizer to try different landing pages (even radically different landing pages) to see if any particular way of talking about your product makes a difference to your conversion rates. And if you're getting conversion rates that you feel good about, try asking for a credit card or other method of payment. If that takes your conversion rate to zero, that doesn't necessarily mean you don't have a business, but I'd give it some serious thought. Products that truly solve a severe pain for early adopters can usually find some visionary customers who will pre-order, just based on the vision that you're selling. If you can't find any, maybe that means you haven't figured out who your customer is yet.

And if you don't know who your customer is, perhaps some customer development is in order?

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I wrote earlier about the issue of distribution advantage on the iPhone. As the gold rush drives thousands of apps onto the platform, it's getting harder and harder for new entrants to get oxygen. Take a look at The App Store after the gold rush - FierceDeveloper:

According to a recent BusinessWeek feature, the flood of new games, productivity tools and related iPhone software is making it difficult for the vast majority of apps to crack the consumer consciousness. A number of developers are slashing their prices to remain competitive, but it appears that the gold rush that followed on the heels of the App Store's July 10 grand opening is already over, and the get-rich-quick stories of developers like Steve Demeter--who reportedly raked in $250,000 in just two months for his iPhone game Trism--have already passed into coder lore.

The App Store is a channel for customer acquisition. As the channel gets more and more crowded, just launching an app in the store is getting worse and worse as a strategy for each new entrant. This is completely analogous to the situation elsewhere on the internet, where launching a new website, product, or service with PR is getting harder and harder. Customers and prospects are overwhelmed by the number of media and companies clamoring for their attention. If your launch is not immediately successful, you quickly fall into oblivion. On the App Store, the same dynamic is in play. If your app doesn't immediately make it into the Top 25 page, it's pretty hard to have any kind of durable growth.

So what can you do? I think it's helpful to think about two kinds of competition for distribution: acquisition competition and retention competition.

Acqusition competition is how new apps get new customers. On the web, we have many of these channels: SEM, SEO, world of mouth, PR and viral. On the iPhone, it seems that two are driving most of the installs: the "newest apps" RSS feed (which may be combined with PR) and a primitive form of SEO, when people search the App Store for a specific kind of app. Over time, we should get more channels that service the long tail of apps for which the current channels are not working. For example, if any of the mobile ad networks gets major traction, they may become a dominant way that people discover new apps.

Retention competition is how you get people to come back to your app. The primary place this competition is visible is on the home screen of the iPhone itself. But the real battle is in the mind of the people who have installed your application. What causes them to come back to your app, instead of spending their time doing something else? Are they turning on their phone specifically to get your app? Do they browse around looking for an app to pass time? Does your app solve a specific problem that they have? Do you have a way to notify them by SMS or email when something notable happens?

The reason I think it's important to think about retention competition when you are thinking about acquisition is that it strongly influences your acquisition options. If your app has incredibly strong retention, you will probably do very well with the current PR/new app system of acquisition. Why? Because you'll be able to leverage your strong retention to stay in the Top 25 list, which will lead to strong acquisition, in a nice positive feedback loop. If your app has strong word-of-mouth or viral components, your retention drives new acquisition, and it's not so important to have good placement in the store. If and when a good SEM solution shows up for iPhone, you may be able to use it to artificially drive your app into the Top 25, as a one-time event. Then, if your retention is good enough, you can stay there. Or if your lifetime value is high enough, you can just keep spending on SEM.

So if you have a new app that you are thinking of launching, what should you do? My advice: don't launch big. Don't do PR upfront, don't put out a press release. Figure out how to launch quietly, so you can find out what your retention and referral rates are going to be. If necessary, consider doing this under a different brand name than the one you are wedded to using. Having that data will let you pick an acquisition strategy that is appropriate for your app. It's like knowing the future.

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Master of 500 Hats: Startup Metrics for Pirates (SeedCamp 2008, London)

This presentation should be required reading for anyone creating a startup with an online service component. The AARRR model (hence pirates, get it?) is an elegant way to model any service-oriented business:

1. Acquisition
2. Activation
3. Retention
4. Referral
   
5. Revenue

We used a very similar scheme at IMVU, although we weren't lucky enough to have started with this framework, and so had to derive a lot of it ourselves via trial and error. Dave's done a great job of articulating the key metrics you want to look at in each of these five areas, and I won't bother repeating them here (go read the presentation already). He also has a discussion of how your choice of business model determines which of these metric areas you want to focus on. That's where I'd like to pick up the discussion.

I think the salient question to ask about any business model is: what is the primary driver of growth? I break the answer to that question down into three engines:

1. Viral - this is the business model identified in the presentation as "Get Users." Here, the key metrics are Acquisition and Referral, combined into the now-famous viral coefficient. If the coefficient is > 1.0, you generally have a viral hit on your hands. You get increasing growth by optimizing the viral loop, and you get revenue as a side-effect, assuming you have even the most anemic monetization scheme baked into your product. The law of large numbers (of customers) says you can't help but make at least some money - your valuation is determined by how well you monetize the tidal wave of growth. Examples of this are well-known, and (in my definition) include any product that causes new customers to sign up as a necessary side-effect of existing customers' normal usage: Facebook, Myspace, AIM/ICQ, Hotmail, Paypal.
   
   
2. Paid - if your product monetizes customers better than your competitors, you have the opportunity to use your lifetime value advantage to drive growth. In this model, you take some fraction of the lifetime value of each customer and plow that back into paid acquisition through SEM, banner ads, PR, affiliates, etc. The spread between your LTV and blended CPA determines either your profitability or your rate of growth, and a high valuation depends on balancing these two factors. To the extent that you have good word-of-mouth, activation or retention, these factors tend to drive down your CPA or drive up your LTV, and so are nice bonuses. But because paid traffic is fundamentally a bidding war, it's important that you have a differentiated ability to monetize customers better than other people who are bidding for the same traffic. Otherwise, your CPA will get driven up close to or exceeding your LTV, and you can't grow profitably anymore. IMVU is in this business, as is Amazon, Netflix, Match.com, and CafePress.
   
   
3. Sticky - Dave calls this "Drive Usage" and I think it's the model that causes the greatest confusion. Because Activation is a key term in the Viral business model equation, and Retention is a key term in the Paid business model, it's easy to mix up this type of business with the other two. For example, you often hear eBay or Neopets described as having viral growth, but I don't think that's correct. What those sites have in common (despite their very different audiences) is that something is causing their customers to become addicted to their product, and so no matter how they acquire a new customer, they tend to keep them. This has led to exponential growth. For eBay, this is caused by the incredible network effects of their business (so-called demand-side increasing returns and supply-side increasing returns). For Neopets, it's simply a side-effect of their game-like product design. Either way, you can use any marketing channel that's available to bring in new customers, including word of traditional advertising, SEO, SEM - wherever you can find prospects who are going to find your product addicting. But it's not really viral growth, even when it's exponential. Again, looking at eBay - most buyers and sellers would be 100% happy with eBay if it already had a critical mass of people to bid or create auctions. Although many eBay fans love to tell their friends about it, they really don't have a need to bring them on board. As far as they are concerned, that's eBay's job. That's why eBay advertises on search engines, and Facebook doesn't.
   

In my opinion, every startup needs to "pick a major" among these three drivers of growth. It's simply too hard to focus on more than one. It's a choice that has to be made at the level of strategy; notice how similar the tactics are between them. All three probably make attempts at world-of-mouth marketing - it's just that for Viral, it's life-or-death. Similarly, it probably makes sense for everyone to take advantage of SEO (hey, it's nearly-free traffic). But a Viral company who is focused there is probably going out of business.

The difficulty is exacerbated by the fact that these models also cut across business functions. Sometimes we have the attitude that the Product Development team is the one responsible for Activation and Retention (hey, a great product would do that naturally) or that the Marketing team is responsible for Revenue and Referral (hey, go get me some money or free customers already). In reality, the key metrics for your growth drivers have to be jointly owned. They cannot be delegated, unlike the minor metrics, which can easily be owned by one part of the business, or even outsourced. For example, it's always nice to have someone constantly optimizing your SEM accounts, driving down your CPA. They might even occasionally make "optimizations" that improve CPA but negatively impact LTV (or vice versa). But if you were using the Paid driver of growth, you just outsourced your heart while it was still beating. Oops!

One last thought. Beware the new hire who has "extensive experience" in startups or big companies - using a different growth driver. Make sure you test to see if they are truly open minded, because otherwise you risk them banging their head against a wall, trying to use the tactics that worked so well in their previous company. Be-double-ware of the new hire who has "years of industry experience in multiple companies" all in a different growth driver. It's the rare person who truly understands not just what worked in the past but why.
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I have had the opportunity to meet a lot of iPhone-related companies lately. Many of them have really cool products shipping or about to be released, and I wholeheartedly agree with my friends at the iFund that the next generation of applications is going to be amazing.

I've also been playing around with the App Store. From a technical point of view, it's amazing. You just install app after app after app, and it just works. My home screen is a giant mess, because installing apps is just so much fun.

But from a customer experience point of view, I'm not yet sold. Figuring out which apps are going to be any good is almost impossible. Even with only a few months of development, third parties have crammed every single category in the store full of apps. Most of my time in the store is spent scrolling through endless lists. And what distinguishes a good app? I can't really tell. All I see is a name, an icon, a price, the developer's name, and a review star-rating. The reviews are all over the map. When I choose to read them, it seems totally random what I'll find. But even clicking through to see a screenshot and some reviews is incredibly time consuming, given the hundreds of apps in most categories. Most of the time, I have no idea if I'm going to like the app after I install it.

So how's a normal person to choose? I think this is a major challenge for companies that hope to build dominance in some category on the iPhone. Today, the fact that the store is open and has almost no barriers to entry is great for the companies I meet, because they can get their first versions in front of customers quickly, and start iterating fast. But if they are lucky enough to have success, the store is going to become a nightmare, because it will give all of their competitors easy access to their customers and an opportunity to compete with them on an even playing field. The app store is not set up to allow anyone to achieve a durable advantage.

Browsing the app store is an awful lot like shopping in a retail grocery store. You see row after row of tiny boxes, each vying for your attention. They can't present much information, unless you take the box off the shelf and look at it. They rely on impressions, branding and price to try and get you to do that. The store determines which products sit on which shelves, and which yours sits next to. Of course, for a few extra dollars, the right people can get their products on more shelves, or in premium locations, or in giant promotional stands.

Sound familiar? In a world where competition is based on brief looks in predefined categories, it's hard to just "build a better mousetrap" and hope for the best. This is what brand marketers and consumer packaged goods companies have been studying and refining for years: how to win the battle in your mind before you ever set foot in the store. Once you have come to think of Crest as the #1 toothpaste, and, more importantly, your toothpaste, it's unlikely you're going to pay attention to the other boxes on the shelf, no matter how shiny they are.

There are other models, in other distribution channels. On Facebook, viral distribution has proved decisive. Those companies who have learned to build apps that optimize the viral loop dominate in every category where they compete. Not many customers ever browse the app directory or search for specific apps - they don't have to, they find out about apps by being invited by a friend. If you sell an online service that solves a defined problem, you can compete in SEO or SEM. If your site is consistently ranked #1 for a given search term, you can make it very hard for someone else to compete for new customers. In other markets, he who controls the directory has the power, like Download.com in the world of windows shareware.

Word of mouth is a powerful force multiplier in all of these models. If everyone I know is using a specific product, in most markets that's a heavy influence. And in some markets it's decisive, because of well-known network effects (as happened with Microsoft, eBay, and many others). But if your product category doesn't have strong network effects, word of mouth alone is not usually enough to fend off a competitor who also has a quality product.

So what model will prevail on the iPhone? So far, I don't see any apps that have much in the way of viral distribution. Do any apps really cause my friends to sign up, as a natural side-effect of my using the app? I haven't found any yet. And I don't see much searching for apps going on. Do most people know what kind of app they want? And how can they tell the best app for a given search? For example, I did a search for "taxi" in the app store. I got 4 results, 3 free, one for $0.99. I downloaded and tried all four of them (because I had time to kill) - and I'm still not sure which one was the best. Back when I was staring at the search screen, it really was a crapshoot.

So unless someone cracks the code on one of these other models, I think we may revert to the retail model, where good positioning and good branding will win. When I'm scrolling through the endless list of games in that category, the icon that I've come to associate with "that company that makes amazing iPhone games" is going to get a disproportionate share of my attention. Does that mean existing brands have the advantage? I'm not sure. For a lot of brands, their iPhone products will run into the line-extension trap (see The 22 Immutable Laws of Marketing). That looked to me like what's happening with EA's iPhone offerings. So there is an opportunity to build new brands with attributes like "the most amazing mobile apps" but I think building a company around that strategy means really thinking through how to do it. Just bringing a good app to market isn't going to be enough.

So for those who are thinking of starting a new company to build iPhone apps, here's the question I would be pondering. After I've built my first successful app, and all kinds of competitors have copied me and have similar apps right next to mine in the store, how will I continue to get new customers? How will new customers know that my apps are superior?

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How do you build a new product with constant customer feedback while simultaneously staying under the radar? Trying to answer that question at IMVU led me to discover Google AdWords and the world of search engine marketing.

SEM is a simple idea. You declare how much someone clicking an advertisement is worth to you, and then the search engine does its best to get you as many clicks as it can at that price. There's a lot of complexity that I'm leaving out, naturally, because I want to stay focused on the simple idea at the center of SEM: that you can pay peanuts to have people come to your website. In a mature company with a mature product, the goal is to pay for lots of people to come to your website. But I think the genius of Google's innovation is that it allows you to pay for just a few people. Think of it as micropayments for beta testers.

My first AdWords campaign was limited to five dollars a day, and we were buying clicks at five cents a click. That yields 100 clicks a day, every day. Probably if I had been an experienced marketer, I would have known that tiny volume to be insignificant, and I would have been embarrassed. Luckily, I didn't know any better. 100 clicks might not sound like very much, but look at it this way: it meant that every single day, 100 human beings were coming to our website and being offered our product.

We expected that many of those people would buy our product (that's why we charged from day one). But anyone who had done direct response marketing before would have known better. At first, zero people bought anything from us. We tried tinkering with the payment system. Still zero. Maybe the problem was helping people find the payment system. Still nothing. We kept working our way backwards, until we realized that nobody was even making it past the first landing page. Oops. Slowly, over time, we optimized (or eliminated) each step in the process of becoming a customer by giving us money. And one day a remarkable thing happened: we started making more than five dollars a day in revenue.

In the process, we had also built a simple cohort-based analytics system. Its simplicity made it effective - everyone in the company could use and understand it. It just answered this question: for any given time range, for the 100% of people who registered in that period, what percentage of them downloaded? chatted once? chatted five times? bought something? That simple funnel analysis became our scorecard, and helped us refine our product with constant customer input.

After we were making more than five dollars a day, we could take the profits and reinvest them in raising the budget. As we would find more keywords to bid on (always bidding the minimum five cents per click), sometimes the increase in volume would drive our funnel percentages down. When that happened, we'd stop raising the budget, and keep optimizing the product. In this way, we gradually built out a more and more mainstream product.

So how do you find those initial 100 clicks a day? We started by using features of our product as keywords, but this was of limited volume. Eventually Steve Blank, one of our early investors, suggested a technique that not only increased the number of clicks, but also started to use AdWords as a learning and discovery tool. We ran ad campaigns against every single product we could think of in an adjacent market space to ours. We tried obvious competitors as well as long-shots. Since we were only paying per click, it didn't cost us anything to cast a wide net. We would pretty much bid on any phrase that was "[name of competitive product] chat" and variations like that. And then we would use that simple analytics system I mentioned to monitor the conversion rates of customers from each campaign. Those rates gave us a map that told us a lot about our customers; insights that proved stable even when the company grew orders of magnitude bigger.

Only much later did I realize that this was an application of customer development to online marketing. It's now a technique I recommend for any web-based startup.
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