A hypothesis-driven approach is based on translating the visions of the entrepreneur into falsifiable business model hypotheses and then using a series of minimal viable products to test those hypotheses where each MVP represents the smallest set of activities to disprove a hypothesis. It is an approach dependent on test data and feedback. Dropbox effectively utilized this approach to create a successful product by particularly ensuring that they created a product that people wanted and that people would use. Drew Houston, the cofounder and CEO of Dropbox was pivotal to its success.
The first step in the hypotheses-driven approach is developing a vision, which Houston carried out perfectly and was able to clearly articulate in his Y combinator application. He knew that the online cloud storage market was crowded and that major companies such as Microsoft and Google were going to enter the market. However, this did not interfere with his vision because he believed that his product could tackle issues that are currently not being tackled. For example, his vision included addressing the issue of being able to work offline and of version control. This ideation process is a critical component of the hypothesis driven approach. Houston hypothesized that Dropbox would be able to collect revenue from some users because consumers understood that storage costs money regardless of whether it came in the form of a physical drive or an online service. This led to the development of a freemium business model which offered both free and premium accounts with the intention that more customers would switch to the premium accounts after realizing the importance of having greater storage.
Arguably the most important process in the hypothesis-driven approach is the development of the MVP and Houston understood the importance very well. Houston and Ferdowsi created a prototype that allowed Windows PC users to access files of any size or type via an encrypted Internet connection from other Dropbox-enabled PCs or from any web browser. The lean startup approach supports putting a real product in the hands of real customers in a real- world context as a test for the MVP. However, Dropbox was in a precarious position in that they could not launch a demo product until they were 100% sure it worked since failure could be catastrophic for the company due to the fact that they are dealing with real customers and real files. In order to circumvent this, Houston and his team created a 3-minute screencast of a product demo and uploaded it to a popular online forum for developers. This was a tactic they used to recruit beta testers and also receive feedback from users, without actually marketing the product as complete. Recruitment of beta testers was important for the success for the product and Houston understood this so he produced another short video and posted it on a popular tech enthusiast website. Prioritizing tests is an important component of the hypotheses-driven approach. They also used A/B testing to fine tune the page layouts and page contents. They experimented with display ads and deliberately hid the free service option from users that came to the platform via an ad in order to increase the conversation rate from free to paying customer. They learnt a lot from their beta tests and ads such as adding a Linux version of Dropbox in addition to the Windows and Mac versions. They learnt from the early adopters that they used Dropbox simply because it worked, it did not suffer from technical limitations like its competitors. Houston also learnt that with his freemium model, optimization of marketing messages and pricing would be critical to Dropbox’s success and this realization led to a pivot in the freemium model where they decreased the amount of free storage given to customers. They also decided to hire an analytics engineer who was dedicated to user acquisition and engagement.
Once the business model hypotheses are validated and an entrepreneur has achieved market fit, the next step in the hypotheses-driven approach is scaling and Ongoing Optimization, which Houston and his team were very much targeting. They continuously upgraded their product’s ease-of-use and features in response to users’ requests. The declining costs for storage and bandwidth and Dropbox’s accelerated growth meant that Houston was able to stick with the business model of providing an easy to use product that just works. They realized early on that acquiring new customers via paid advertising was not an effective strategy as it cost them more than $300 to acquire a paying customer. Rather, the majority of their new users were acquired through word of mouth referrals and viral marketing efforts. They decided to focus on organic customer acquisition efforts. This proved to be successful and as a result they registered their 2 millionth user just one month after launching Dropbox’s iPhone application. They were ready for the large scale of users due to their solid infrastructure and their continuous optimizations by listening to customer feedback allowed them to keep a commanding position in the growing market.
References
Dropbox: “It just Works”, Harvard Business School, Thomas R Eisenmann Michael PAO Lauren Barley.
Hypothesis-Driven Entrepreneurship: The Lean Startup, Harvard Business School, Thomas R Eisenmann Eric Ries Sarah Dillard