The Fraudulent Market Trap

Correlation does not equal causality – especially when it comes to running a successful business. If you have suddenly had a breakthrough, and, finally, are making some money, gaining market share, winning customers – be sure you know WHY or else you’re likely to have all your success taken away just as quickly as it was bestowed upon you.  Because unless you’re careful, amongst the Champaign toasts and ringing of bells from hitting your sales goals, there may be hidden a disaster waiting to happen. I call it the fraudulent market. 

The problem is that overnight success is rarely overnight. We all get caught in the weeds, crawling and scraping for every percent of market share and every new dollar that when things start to get a momentum of their own, we’d like to take credit for the hard work finally paying off. But there are plenty of reasons a company starts seeing some success, and, they all have at least some luck involved. And if you’re not acutely aware of WHY luck has suddenly favored you, you run the risk of becoming overconfident. So the second you start thinking you’re smarter than the average bear, you would do well to go figure out exactly why the average bear is just average.

Many successful businesses have been built doing nothing more than taking advantage of irregularities and inequities in the marketplace. If the price of a brick on the open market near my house is one dollar, and the price of a brick near my brother’s house ten miles away is two dollars, then I can very easily fill up my station wagon, drive across town and sell bricks at a tidy profit (and undercut all the brick sellers in the area). “What luck!” you might say to yourself. “I have discovered something no one else has and I will become wealthy beyond measure. Let’s get a fleet of trucks, move a billion bricks across town, IPO and sit on the beach drinking Mai Tais.”

This, of course, would never work. If it really was this easy to make money, then a thousand vendors would spring up overnight and they’d all start shipping bricks across town, and, soon enough, the bricks on the other side of town would be one dollar + slightly more than enough money to cover gas and labor to move the bricks across down. The problem is that you’re not doing anything particularly interesting, and the barrier to entry is virtually zero. These are standard market forces, and is the backbone to efficient market pricing.

However, this is normal market behavior. Inequities and irregularities are smoothed and business returns to normal. The fraudulent market is when there shouldn’t be vendors at all. If there is absolutely no reason that anyone would pay a nickel extra for the bricks, because the cost of driving ten miles is low enough that the customers could just take it on themselves. Sure, there may be a small opportunity to take advantage of those who are price insensitive enough to pay a premium so they don’t have to spend twenty minutes going to pick up the goods, but, by and large, the customers should be able to put every one of those brick transportation vendors out of business themselves. Yet, if you ask them, these vendors can’t wait to talk about how efficient their station wagons are, and the way they navigate the streets could never be copied by anyone else. Twenty minutes later they’re declaring chapter 13, and looking to sell mortars on the cheap.

But this is just a hypothetical, right? Real live companies would not be so foolish as to get caught in this delusion, would they? You bet they would. A company will see some dollars rolling in the door and they immediately congratulate themselves on providing the absolute best in brick transportation, when they are moments away from having their entire business implode. Allow me to provide some examples:

·         Fraud: It’s 1998, and you can’t turn on the TV without seeing David Arquette or Alyssa Milano hawking some dial-around service saying how great it is to use a payphone and avoid calling collect. Cause of death: Cell phones

·         Fraud: You step foot outside the US, and are charged $35 every 3 minutes for use of a calling card or on your roaming charges. Cause of death: Skype

·         Fraud: A record company makes a tidy profit by charging the same rate for shipping tapes and CDs around the country, even though the pricing on these were set when vinyl LPs were the only way to hear music, and the density of music to shipped good is about 1/3^rd as great. Cause of (soon to be) death: iTunes

·         Fraud: You (Adobe) have a browser add-on (Flash) that, while powerful, gets a huge run up in usage because it’s much better than the alternatives for streaming media, MS/Apple/Real refuse to see the writing on the wall (and give up on their rich clients), and your plugin is provided with 99% of browsers by default. Cause of death: HTML5

·         Fraud: You license music, and you charge (!?) for someone taking a piece of music they already own and moving it to make it the ringtone on their cellphone. Cause of death: TBD (likely some app on iPhone/Android)

Businesses come and go, markets go up and down – there’s no reason to think that just because someone paid you a dollar yesterday for something, that they’ll pay you a dollar for it tomorrow (or even fifty cents). It’s not to say you shouldn’t make money while you have the opportunity. But there are big opportunities to be had by cutting your own businesses before someone else can, or taking advantage of where the businesses shouldn’t have been there in the first place.