Understanding Moats in A Startup
Updated: Feb 25
Unless you are extremely well-versed with medieval literature, it is somewhat unlikely that you had heard of "moats" before Game of Thrones staged a crucial episode at the fictional Moat Cailin. Till the cult favourite show branded the term into our collective consciousness, many people, barring the voracious readers, probably had little idea of what a moat even was. And few can blame them for their ignorance. For a generation struggling to get their hands on a decently sized apartment in a bustling metro, castles and ditches to defend their gates can sound like a distant dream. However, being unrelatable doesn't mean that moats are useless to us today. While we may not have the sprawling mansions like the Knights of yore, we do have burgeoning economies and their highly lauded growth engines: the startups.
Struggling against mounting competition and the fast pace of change, these fledgling new businesses could definitely do with a good line of defence, and that is where the concept of a moat can come exceptionally handy. So, instead of casting moats off as nothing but fragments of a distant past, or branding the term archaic, the startup scene has decided to make the word its own.
What is Moat in a Startup?
In its literal sense, a moat refers to a ditch that is dug around a castle or a fortress to prevent enemies from breaching this line of defence and attack the central building. Simply put, it is one extra layer of protection which serves as a barrier for rivals or competitors trying to displace the fortress from a position of power. In startup terms, this translates to creating a strong line of defence that prevents potential competitors and market forces from posing a risk to a new business's profitability, operational efficiency and outlook for success.
Delineating a moat can allow a startup to retain and increase the market share it enjoys, and enable them to capitalise on any first mover advantage they may have had while starting out.
Startups are typically brand new businesses that bring some unique value proposition to the market. It is frequently characterised by innovation and creative ideation in developing products and services. The novelty of these product designs or service quality is usually what sets a startup apart from all its competitors. However, without the adoption of suitable measures to protect this competitive edge, startups can soon be inundated with a plethora of competing firms that offer similar utility and take up a huge chunk of the market share. This is particularly true of the firms that take a differentiation approach in establishing the general strategy for organisational processes.
Every time a new startup manages to scale the supply of a certain kind of value, many new businesses turn up in its wake.
For example, take the number of online food delivery services present in India right now. While there are only two major players now, it has been a bloody battle involving mergers and acquisitions, excessive discounts, expensive marketing campaigns and cut throat competition for Swiggy and Zomato to reach where they are today. Similarly, in the online grocery scene, Grofers followed the establishment of BigBasket within the first couple of years of the latter's inception, and the two are currently taking each other head on in an uphill climb to capture the most number of users.
Clearly, if a value proposition finds takers in the market, more startups will swarm like bees to tap the honey (read: money) in that market.
A moat is essentially a way to restrict that to an extent. This is what can help a startup flourish and thrive without being caught up in an endless race of customer acquisition and outdoing competition, without first building a sustainable foundation.
How Can Startups Build Robust Moats?
There are several ways in which startups can build lines of defence to protect their business and retain their competitive advantage. However, this does not mean sabotaging one's competitors. It simply means setting up some barriers to entry for other players so that the startup in question can capture market share steadily, and proceed towards its profit earning through creation of value.
Protection of Intellectual Property Rights
Since startups are usually involved in implementing some form of innovation, it is imperative to protect the basics of that novelty. Unless the secret sauce of a startup is closely guarded and legally protected, it is easy to replicate a technological innovation to develop similar products, often at very competitive prices.
Therefore, it is crucial to protect all forms of intellectual property involved in a startup's processes by using the law to its advantage. Registering for licenses and trademarks are essential aspects of this process, but for truly novel ideas, it is extremely important to get a patent filed and duly processed. No matter how hassling the legal process of getting a patent approved may seem, it is worth it if a startup wishes to retain its competitive edge.
In the Indian context, getting intellectual property rights secured seems to have become somewhat easier recently. Finance Minister Mrs. Nirmala Sitharaman proposed the establishment of a centralised portal for intellectual property registration in her Union Budget 2020 speech.
Having a unified platform for streamlining and simplifying registrations can definitely help startups in adding a layer of security to their precious ideas. While patenting ideas and processes can seem like a great line of defence, it comes with some clear loopholes. It is important to note that these patents are usually granted on a specific combination or idea involving certain stipulated elements. Often, tweaking one or two ingredients or subsystems of these patented things can lead to similar results. Competitors often take advantage of this to create products and services that deliver very similar kinds of value to the market. Moreover, in certain cases, like in cases of e-commerce, for example, differentiating the value proposition simply isn't enough to support legal protection on intellectual property.
Setting up Network Moats
In the case of startups such as e-commerce platforms that specialise in certain categories of products or value delivery, one can't really have patents to protect them. In their case, the line of defence is often seen to emerge from developing strong networks across the supply and value chains. Such a strategy often involves establishing robust relationships with suppliers and distributors, while also getting as many customers to use the products and services as possible.
For example, Nykaa, which started out as one of the most prominent brands selling beauty and skincare products through an online platform, never got a patent. There was simply nothing to protect in terms of intellectual property. But what this "soonicorn" got right was the creation of strong networks. The company landed distribution deals with a vast majority of national and international brands and created a value proposition by bringing everything to a single platform. In addition, it carried out a series of concerted marketing campaigns, featuring relatable influencers, to take over their customers' hearts and garnering clear brand loyalty. Now, while other platforms have come up as well, Nykaa has retained the lead in this department.
Establishing an easily recognisable, reputed brand is one of the sure shot ways to protect one's business. While one of the aspects of building and optimising a brand correctly involves developing a robust network, it can also be considered as an entirely separate moat.
Brand recognition is what drives businesses to retain their first mover advantage if any, and position themselves at a league above that of their competitors. If I may take an example from a much older company, we can understand how this moat works in the adhesive industry. While many millennials may no longer relate to this, for the longest time, Fevicol was synonymous with glue. Anyone who wanted to buy adhesive would usually go to the shop and ask for "Fevicol". While the supply networks also determined the extent of sales as a result of this effect, the easy brand recognition and great recall value definitely cemented the success of this brand. Therefore, building a brand geared towards the chosen demographic is imperative to protect a startup's competitive edge. The idea is to make sure that every time the relevant product or service is mentioned, people think of that one brand immediately, almost in a Pavlovian manner. Generating this sort of classical conditioning is essential to creating a brand-based moat around the startup.
The creation of an appropriate moat is crucial to ensuring that a startup does more than just break even, and soars to great heights without crumbling under the weight of competition. As a wise old man once said, "in business, (I) look for economic castles protected by unbreachable moats". And since that man has a net worth of $86 billion and is Warren Buffet, I have reason to believe that he knows a thing or two about building businesses and earning from his investments. So I will leave startup founders with that thought, especially as they make plans to run after investors and get their hands on some precious funds. Moats are great for combining sustainability with investment potential, and there is nothing I'd like more in a promising new startup.