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7 Jun

A short primer on Compounding

It's hard to be on self-help social media and to not have come across “compounding.”

Compounding — often referred to as the eight wonder of the world — is now almost a blanket phrase put on any activity that needs investment with delayed gratification.

But, aside from compound interest, and the graph above, what is compounding really?

Especially in the context of learning, decision-making, product design, careers, how do you actually use it as a mental model that's more useful than just a loose metaphor carelessly slapped onto anything and everything?

"Okay, explain it to me like I'm 5."

Simply put, compounding is any activity that if done once, makes the next iteration easier — because the benefits of the first iteration feed back into the activity. If you're doing something that requires the same effort every time you do it, you're participating in a non-compounding activity.

To find out if anything benefits from compounding, simply ask yourself:

Is this going to make the next iteration easier?

If your answer is "Yes," congratulations. You're participating in an activity that benefits from compounding, with every iteration getting easier and more efficient than the last.

Why does this matter? 

Well, it matters because time is a scarce resource and we all only have a limited amount of it. To maximise returns on the effort and time invested, we need to think of work in terms of its compounding potential. Let us look at some examples.

Compounding in product design

Sarah Tavel of Greylock Partners has a growth framework that lies at the heart of compounding: thinking in virtuous loops instead of marketing funnels.

A marketing funnel doesn't compound if it doesn't loop back in some way and make getting the next customer easier for the company. If you need to put in the same effort to get every new customer, your growth is not compounding.

Here's how Sarah proposes you think about growth: in terms of virtuous loops.

At the core, building an enduring company comes down to understanding how to maximize engagement.

Level 1 – Growing Engaged Users: Focus on growing number of users who are completing the core action. The core action is the action that forms the foundation of your product.

Examples of core action for different companies:

Facebook: Making friends Pinterest: Pinning photographs
Snapchat: Sharing snaps
YouTube: Subscribing to channels
Twitter: Tweeting and following others for their tweets

The core action is most correlated with retention. In the case of Facebook, they realized that if they got a user to connect to 7 friends in 10 days, there were high chances that they'd be retained for life.

In the case of Pinterest, the company realized that if a user pinned something, s/he was likely to come back to the platform next week.

Level 2 – Retaining Users: The product should be designed so as to get better the more it’s used. This way, you build stickiness — users have more to lose by leaving the product.

How do you build your product to retain users? Create compounding benefits as a user engages, so that leaving the platform becomes harder for them with every engagement.

Put simply, "The more I use the product, the better it gets." and, "The more I use the product, the more I'd have to lose if I left the product."

The more notes you add to Evernote, the more value you get and the harder it is to leave. Same goes for pinning items and creating boards on Pinterest.

On Twitter, an increasing number of followers creates stickiness to the platform by getting you invested in your identity and social reputation built on it. The more I tweet, the more followers I gain, the more I'm likely to tweet and recommend Twitter to others.

Level 3 – Virtuous Loops: As users engage, they create virtuous loops in the product.

Virtuous loops are the flywheels that convert your users' engagement into fuel to power your company forward. A Pinterest user might share a pinned item with a friend who is now incentivized to jump onto the platform and start creating her own pins and inviting her own friends. Each new friend added will add two of her own friends. With every added user, it gets easier for Pinterest to get more users. The growth compounds on itself. 

Loops are what lead to sustainable, compounding, growth. Building a funnel without a loop means you have to keep pushing and putting in the same effort to get the same output, every single time. And, at some point, that becomes unsustainable.

Compounding in careers

The best way to see if your career is compounding is to check if with every new job opportunity or role you take up, does obtaining the next one get easier for you? Or do you have to put in the same effort every time you're looking for a new job?

Is the role you're taking up setting you up with even better roles down the line? Or is it just adding on to your list of roles without creating any new opportunities for you?

Compounding in decision-making

With every decision you take, ask yourself if it makes decision-making easier for you the next time or if that single decision gets rid of the need to take 10 other decisions.

In programming, this is often known as "composability" or the DRY (Do not repeat yourself) principle: you only need to solve each problem once.

Compounding can be similarly applied to building brands, building trust, building relationships... essentially anywhere there are repeated interactions or iterations, you can apply the mental model of compounding to see whether the activity gets easier with every iteration or if it doesn't.

So, the next time you hear someone utter the word "compounding," think about the axis on which something might compound over time, if any.

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