Thinking about moats

One of the common questions that people ask of internet entrepreneurs is: what is the moat of your business? Unless you are building a business with real lock-in network effects (like say Facebook), most internet businesses in India don’t have any obvious moats. Most of the UI can be replicated and in some ways the amount of capital you can raise quickly becomes a moat of a kind (but it is hardly a great way to build a business).

Till recently I used to answer this question saying the speed of execution is the only moat in internet businesses – that if you can outrun your competition, you can win. I never thought deeper about it.

Then I read this book called Unusual Billionaires by Saurabh Mukherjee (who heads Ambit Capital). It includes a chapter on how to evaluate moats in a business.

This quote from Warren Buffet sums up the challenge of doing so:

“No formula in finance tells you that the moat is 28 feet wide and 16 feet deep. That’’s what drives the academics crazy. They can compute standard deviations and betas, but they can’’t understand moats. Maybe I’’m being too hard on the academics.”

Here is a framework called IBAS by John Kay, a British economist, which helps one understand moats better.

I – Innovation – how quickly is the firm innovating (difficult to keep pulling this off as a moat)
B – Brand – how solid the brand is with customers (should be more investment focus for tech companies)
A – Architecture – how is the firm and it’s relationships with others structured (org design, contracts negotiated etc. etc.)
S – Strategic assets – like licenses etc.

Of all the above, “Brand” was the most obvious one but the least well understood by tech entrepreneurs in my view (the strong performance marketing bias of online advertising blinds most of the entrepreneurs to the value of investing in brands). This is in my mind a brilliant excerpt from Zero to One:

Zero to One

And the most interesting one was about “Architecture” – you don’t really think about this as a moat or an advantage but when you say the speed or the passion or the people or org design or org processes or third-party arrangements etc help you win, it is this notion of the architecture that comes into play.

I would highly recommend reading the book – Unusual Billionaires and the about the IBAS framework.

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One thought on “Thinking about moats

  1. Pingback: Best books of 2016 | Lest I forget

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