Issue No. 5: Shopify

This isn’t an issue about how great of a company Shopify is.

This is an issue about the importance of knowing who your customer is.

When I first read Shopify’s history, it sounded almost too straightforward. It’s a classic example of “founder solves a problem for himself, creates business, makes millions.”

• The founder, Tobias Lütke, a German, finds himself living with his girlfriend in Canada. Since he doesn’t have a work permit, he can’t get a job. However, he can stay in the country if he starts a business.

• So in 2004, he and a buddy decide to sell snowboards online. The e-commerce software available at the time is too hard to use, so Tobias, a programmer, decides to write the software himself.

• He soon realizes that others have the same problem. In 2006, he turns the software he built for himself into a business, called Shopify. The idea is a hit and the company sees strong growth.

It’s a neat and tidy origin story.

If that’s all there was, though, I would have scrapped this issue and avoided wasting your time. But as I soon discovered, Shopify just didn’t run a good business. Much of its success comes from a single, key decision - one that stemmed from a deep understanding of its customers.

Because if you want to understand the real problem you’re solving, if you want to know what to build, and if you want to have clarity on how to run your marketing, it all starts with understanding the customer.

And Shopify has done this better than most. Let’s see why.

In case you’re not familiar with Shopify as the category king of e-commerce for small businesses, I should show you how much more successful Shopify is than its peers.

Shopify (founded in 2006) and other e-commerce startups all came to life around the same period: some of the main players were 3dcart (2001), Volusion (2002), WooCommerce (2008), Magento (2007), and BigCommerce (2009). There were options for enterprise, but this cohort of startups was all aimed at entrepreneurs and small business owners.

Despite similar founding dates, the outcomes were anything but alike. Today, Shopify generates over $7B in revenue and has a market cap of over $80B.

But Volusion went through bankruptcy. WooCommerce’s entire parent company, Automattic, generates just $220M in revenue, according to one source (3% of what Shopify brings in). BigCommerce does around $330M and has a market cap of only $570M. Magento did slightly better by getting acquired by Adobe for $1.7B in 2018.

Other players, like PrestaShop and 3dcart, never got big enough to have much of a presence. And while some website builders with e-commerce features (like Squarespace and Wix) have a similar market cap to Shopify, they primarily compete in a different category.

What’s also interesting is that Shopify did this without a special fundraising advantage. While they eventually raised about $122M in VC funding, BigCommerce pulled in much more, at $200M. Magento was owned by eBay for a while, so it had plenty of resources at its disposal. And Automattic has raised about $850M to date.

I’ve already shared my view that Shopify’s real advantage was its clarity on who its customers were. I will come back to that in a moment, but to help you understand the context of this category, I need to explain more about the race to win this emerging category.

Winning Means Being the Best Problem Solver

If there was ever a need for feature-rich software, it would be with an e-commerce platform. These tools handle everything from checkout optimization, payment processing, SEO, order fulfillment, template design, domain names, analytics, returns, social media, sales channels, email, and much more. Entrepreneurs using these tools don’t just rely on them to “sell things online.” They rely on them to run most of their business.

Think about the number of developers you might need to hire to research, design, code, test, launch, and maintain functionality across such a broad swath of features. It’s pretty daunting.

Now, remember that between 2005-2015, every startup was in a race to see who could become the “dominant design” for the SMB market. The better your product solved problems for its customers, the more likely your software would end up winning the category. But as I’ll show you in a second, the traditional approaches to serving small businesses with e-commerce software came with some severe shortcomings.

Two Product Philosophies (That Wouldn’t Work for Shopify)

To solve problems for your customers, you have to not only understand who they are, but what they need. It sounds obvious, but in my view, Shopify was the only company that really got this right. To lay the groundwork for this, I am going to show you the two different product philosophies early e-commerce startups could take – each with a different view of the customer. From there, I’ll show you how Shopify’s Point of View (POV) about its customers called for a third philosophy.

Philosophy #1: Control the Every Aspect of Customer Experience Yourself

The traditional approach to building software is what you might call the “command and control” approach. This means building software that only you (the developer) have the ability to read and modify. This is called “closed source” software. This type of software, when accessed via the web, is classified as SaaS. This is still common today, and in the early days of e-commerce, it’s how many players in the space started out, including Volusion, 3dcart, BigCommerce, and even Shopify.

While the “closed source” approach gives you complete control over every detail of your product, it has a downside, too: product development is limited by the number of designers and developers you can hire. For a startup with just dozens or maybe a few hundred employees, that can mean a backlog of features that may take years to get to.

There’s another consideration - one that affects your ability to understand your customers well. With closed-source software, you have to rely on customer research to inform your roadmap. This must happen because you are not the customer. The customer is someone else. Someone who probably lives in a different city, with a different job and a very different view of the world than you. Even if you have the best customer research program in the world, information takes time to gather and process. There’s not only a speed constraint, but a risk that you misunderstand what customers needed in the first place. (Hang on to this thought, because we are going to come back to it in a moment.)

The “command and control” approach means giving up speed, but in an emerging category like Shopify found itself in, speed matters. These constraints may be why e-commerce startups, like Magento, PrestaShop, and WooCommerce, took a different approach.

Philosophy #2: Treat the Developers as the Customer

The alternative to “closed-source” software is “open source”. With open-source software, the code base is available to anyone. That means that any developer – employee or not – can modify it, add to it, or create additional functionality on their own.

What’s neat about open-source software is that it puts product development closer to the customer. For example, let’s say you’re an agency that helps your clients set up and run online stores using Magento. If your client needs a feature, you can simply build it yourself, without affecting other users. And it can happen fast. Since you’re already working side by side with your client, “customer research” is much more immediate and direct. That’s a real win (in theory) over closed-source software if you want to build quickly.

But this approach comes with some major drawbacks.

For starters, open-source software is not SaaS. You can’t just pull up a website and run it. Instead, you must host and maintain open-source software on your own server. That means small business owners would need to learn development skills themselves (unlikely) or hire developers to manage all this for them. What’s more, some open-source software products are notorious for causing maintenance headaches. That not only adds to a small business owner’s developer bill, it also means taking their time and attention away from running the business.

And remember that special feature the agency built in the example above? It’s not necessarily available for everyone. If another agency encountered the same problem with a client of their own, they might build something similar. This duplicate work creates inefficiencies in the system, as developers solve the same problem over and over again.

Here’s the real kicker, though.

Open-source software creates confusion about who the customer is. The customer can’t just be the end user, since most small business owners aren’t developers. But it can’t just be the developer either, for obvious reasons. Ultimately, Magento, PrestaShop, WooCommerce, and other open-source options had to serve two masters - slowing down their ability to win this emerging category.

Shopify Needed a New Philosophy to Win the Category

In the first chapters of e-commerce software for SMBs, these were the two philosophies that startups used to think about product development. Before I get into the third philosophy – the one Shopify developed – I need to explain what Shopify’s POV was. I’ll then be able to show you why those first two philosophies weren’t aligned, and why a new approach was needed.

The Shopify POV: Entrepreneurs and Ease

Remember how before starting Shopify, Tobias launched an online snowboard shop? If you listen to interviews with him where he retells the struggles and triumphs of the early days, one moment comes up almost every time: that first sale. To Tobias, that first sale was a transformative moment for him. It was the point where he became a “real” entrepreneur.

But that feeling didn’t end that day. Tobias would continue to speak about the importance of delivering that magic moment of the first sale well after the company was founded. Even though 8- and 9-figure businesses use Shopify today, he still gets most excited when talking about the joy customers experience when they make that first dollar. Other e-commerce businesses don’t feel that way. At least not with the same conviction. Go watch the video on Shopify’s home page and compare it to the one on BigCommerce’s and you’ll see what I mean.

Remember, values affect your decision-making, too. When Tobias first tried to sell snowboards, he found that existing e-commerce software was so hard to use that he literally had an easier time making his own. He wrote the foundation for Shopify before he had the idea for Shopify itself. When you hear Tobias talk about software that’s difficult to use, it still triggers a strong, almost visceral, reaction in him. For him, easy-to-use software almost feels like a human right.

Put these two ideas together, and the short version of Shopify’s POV is “empower entrepreneurs” and “make it easy.”

Remember, Tobias understands his customers so well because he was and is the customer. He’s also someone who’s a deep thinker and very self-aware. In case you think he may have lost touch, he continues to run his own Shopify store today (selling socks) although he won’t tell you which store it is :).

So to tie it all together, I want to share how, in my view, Tobias would have found the approaches his competitors took unappealing and unsuited for his customers – and why an alternative approach would be much more fitting.

POV Guides Strategy

Let’s start with the closed-source, “build it ourselves” approach that some e-commerce players took on. Shouldering the entire burden of product ideation, design, development, and support means that you’re more focused on controlling the experience rather than giving customers new features quickly. In a way, it’s a self-centered approach, one where the software provider takes all the credit. But if you’re truly focused on “empowering entrepreneurs” then this approach can’t work. It introduces a development bottleneck that delays benefits to customers.

OK. What about the open-source approach? It can’t support Shopify’s POV either. Helping people start a new business doesn’t mean burdening them with all sorts of IT and programming work. While open-source is cool if you have some special e-commerce requirement that other software can’t address, it’s not aligned with what small business owners need.

Both paths represented a compromise from what Tobias thought was important. And when entrepreneurs with conviction are faced with a situation that compromises those values, they tend to invent a new path forward.

Philosophy #3: Invite Developers To Serve Your Customer

That may be why in 2009, Shopify pioneered a third path, one that combined the speed and flexibility of open-source with the simplicity and reliability of closed-source. They called it the Shopify App Store.

I don’t need to explain to you what an App Store is, you already use one on your smartphone. But back in the late 2000s, the idea of an App Store was still pretty novel. Apple didn’t launch its own App Store until 2008. Salesforce’s came only slightly earlier, in 2006. Shopify would be the first in e-commerce.

An App Store is basically closed source software, built in the spirit of open source. The core software platform is owned and accessible only to Shopify. It’s also a true SaaS product. You can use your web browser to log on to your Shopify account and forget about all the hassles that come with hosting and maintaining your own instance of the software.

But what makes an App Store so valuable is that it allows developers to take what they already know about Shopify’s users and build “add-on” applications to solve their problems. Using Shopify’s APIs and developer tools, developers can launch an app that’s available to millions of Shopify customers. This solves some of the inefficiencies I mentioned with open-source, like duplicated efforts. It also raises the bar for quality, since developers compete to sell their apps to millions of users. And for Shopify’s users, it gives them access to far more functionality than Shopify could deliver alone or than they could get by hiring a developer to modify an open-source offering.

The Shopify App Store Dominates

This is why an App Store was the only customer-centric approach for Shopify. To give you a sense of how impactful it’s been, consider these stats (sources here, here, and here):

1. 8,000+ apps available

2. 25+ million app downloads to date

3. $100+ million spent on Shopify Apps

4. 80% of Shopify merchants use Shopify apps, and the average one uses six of them

5. Over 7,700 developers have published apps, and the top 25% earn an average of $162K (here’s an interview with one)

Perhaps what’s most telling about this choice is that it didn’t stay novel for long. While Shopify called its App Store “groundbreaking” in the press release announcing its Series A in 2010, in the years that followed, nearly all of Shopify’s competitors would launch their own version of an App Store. But Shopify didn’t just make the first move, did a decent job executing, too. No competitor’s marketplace would reach such scale and impact.

Wrapping Up: You Don’t Win By Following Others

Shopify isn’t a company that set out to create the “best” or “cheapest” product. It’s a company that helps aspiring entrepreneurs become real entrepreneurs. It followed that North Star and the rest followed suit. While Shopify’s App Store was a bold decision at the time; only a founder with a deep understanding of his customers could have made such a choice before others.

Remember: category winners don’t get there by repeating what’s been done before. Had Shopify chosen the “open source” path, they would have a neat product that developers loved – not small business owners. And retaining full control over the product, like others did, would never have allowed Shopify to address so many of its customers’ challenges.

3 Questions You Can Discuss With Your Team

Do you know who your customer really is?

When you have multiple people involved in the buyer process, it can be easy to lose sight of the real customer. In fact, I have a client whose competitors have all made that mistake (which is one reason we’re about to displace their legacy category with a new one). If you haven’t re-evaluated who your customer is recently, now may be a good time.

Does your GTM plan represent the status quo or a way forward?

Shopify’s decision to develop a new type of GTM strategy for its space (the App Store) was a departure from how most software was sold in the early 2000s. Yet it was exactly what its customers needed. Don’t build your GTM on what strategies are supposed to work; instead, consider what strategies are most in line with the needs of your customers.

What’s one Big Thing that could help us win our category?

Shopify did many things well that I had to leave out. But, I believe that none of that mattered nearly as much as understanding that an App Store was key to growth without compromise. You may not need to launch an App Store to win your category, but see if there’s one Big Thing you can identify that would change the game. If it’s hard and non-obvious, then you’re on the right track.

The One Quote to Leave You With

Random Things You Don’t Need to Know

• I try to do at least one or two Colorado 14ers every summer (mountains with peaks 14,000 or more in elevation). This year, I made my first attempt in June. You might think that meant sunshine and heat, but my day was filled with rain, 40-degree temps, and plenty of snow left on the ground. Colorado weather continues to surprise me.

• I’m not a big gamer but I got semi-addicted to Quartiles, a word-building game in the Apple News app. You should try it. I told my dad about it the other day, only to learn that he plays it daily too. Like me, there’s no putting it down until you’ve hit a perfect score.

• Playing in the pool in the rain isn’t so bad. I took all four of my daughters there yesterday and we had a blast, despite the drizzle. Who knew?

One more thing, thanks to Kristi Faulkner for suggesting that I cover Shopify. It was fun to explore this one. If you have a suggestion for a brand or product you’d like to see me cover, just reply to this email.

Cheers,

John Rougeux
Founder, Flag & Frontier