Toll Takers vs. Pied Pipers

The “great acceleration” of software innovation over the past decade has fundamentally changed the playbook for entrepreneurial success.

The new methods are obvious to the current generation of software entrepreneurs — the GenY applicants to Y Combinator and TechStars — but seasoned participants in the old model still struggle to grok how completely the world has changed.

I was reminded of this generation gap by several recent conversations with senior execs in some of the biggest winners in the prior generation of tech entrepreneurship. The general topic of these conversations was “entreprise innovation” — the ways that large-scale, incumbent players can foster disruptive innovation within their own firms.

Across a range of industries and firm types, the most common playbook I heard expressed by these enterprise players is what I call the “Toll Taker” approach — define an opportunity on the horizon of innovation, quietly deploy big teams of engineers in secret labs to build prototypes and lock down intellectual property rights, and when you believe you’ve staked a sufficiently threatening claim to the opportunity, announce your position to the market and demand “tolls” (in the form of IP licensing fees, selling access to your enabling tech, etc.).

Perhaps the purest representation of the Toll Taker mindset is Intellectual Ventures, a massively-funded IP aggregation platform (led principally by ex-Microsoft folks) whose mission appears to be to erect tollbooths on every significant vector of tech innovation.

The intellectual and economic roots of the Toll Taker mindset can be found in the historical mechanics of technology innovation: a decade ago (and earlier), creating new tech was massively expensive and time consuming. Hardware and software were expensive capital requirements, engineer productivity was limited by crude tooling, and teams often had to build their own foundational tech before they could even begin work on the innovation layer.

The only way a business could justify the time and cost required to innovate was to seek total control over their intellectual property.

Contrast this Toll Taker mindset with the path to success represented by the two most valuable tech companies in the current generation: Twitter and Facebook.

Both companies began life as hacker projects, not strategic initiatives. Their beginnings were modest — a way to help Harvard students hook up; a tool to help hipsters find the action at SXSW. And users were invited into the product development process from the beginning, sometimes directly, but always in the form of analytics-driven innovation, steering the future product direction based on the actual usage patterns of current customers.

This emergent pattern — what I call the “Pied Piper” approach to innovation — has been enabled by a dozen loosely related developments across software tooling (open source communities, more efficient language + framework development), infrastructure (cloud / IaaS, PaaS, NoOps), business process (lean / agile) finance (accelerators, super-angel funds), and culture (economic downturn, unemployment, loss of faith in institutions). Taken in aggregate, these changes have laid down a fundamentally different pathway to technology innovation than the one followed by the Toll Takers.

In the Pied Piper approach, long-term value creation and defensibility is based on customer engagement and velocity — inviting customers to co-create the product with you, making frequent improvements based on customer feedback, and continually out-innovating the competition to retain customer loyalty — as opposed to the massive investment, stealth and legal scaffolding typical of Toll Takers.

In the simplest terms, Toll Takers compete through fear, while Pied Pipers compete through love.

If Intellectual Ventures is the archetype of the Toll Taker method, Kickstarter represents the opposite extreme — a site where entrepreneurs publicly declare their intentions before they’ve even begun to build, asking prospective customers to pledge their support as a precursor to product development. The site has been building fans in the maker community for several years, but just broke through to a more mainstream audience by helping game maker Double Fine raise more than $1MM in just 24 hours to develop a new title.

None of this means that Toll Taking won’t continue to be a valid pathway to business success — massive, secret allocations of talent and capital toward big visions will continue to produce returns, some of the time.

But if I had to place a bet on the best risk-adjusted path to value creation in software — and on behalf of our Founders Co-op limited partners that’s what I do every day — I’d go all-in on the Pied Piper playbook. In software as in life, love conquers fear every time.