Prepping for your venture
As you drive home, elated about the prospects of finally launching an Italian restaurant with your childhood friend, you are already mentally drafting the second paragraph of your resignation letter. For the last three years, you both have vented about quitting your mundane 9-to-5 jobs to live your entrepreneurial dream. Your real estate agent cousin also promised to help you find a great location in the heart of the city at a favorable rent. Today is the day you both sense a breakthrough. No more stalling. No more second-guessing. As an accountant, you are good with numbers and your friend is a brilliant cook — its a match made in enterprise heaven!
Of course we are getting ahead of ourselves and clearly enthusiasm re-calibration is needed because reality, as we know very well, is not ready to hand over the keys to our imagined kingdom so fast.
Too often, especially first-time entrepreneurs, succumb to the natural tendency of jumping into underestimated scenarios with both feet and a fast-beating inspired heart, not thinking through the ‘post-jump’ consequences.
Here are 7 questions aspiring entrepreneurs should address before embarking on their enterprise journey — a foundational framework for building clarity of thought and conviction in the plan. There is sometimes a fine line between success and failure and these questions are intended to make this line more distinct:
1. Why do you want to start a business?
Are you seeking personal freedom or financial freedom or both? Is this venture a sidekick that will supplement your income from the full-time job or have you placed all your bets on this one idea and your family is dependent on the venture’s success? In other words, how high are the stakes?
The higher the stakes the stronger the why.
Here are some sample ‘whys’ from a recent workshop I conducted:
“To develop my cooking hobby into a passion and a career. My job in marketing is uninspiring but I come alive in the kitchen — I am a different me. I will dedicate at least 1 year to plan and save for the venture and then hopefully never look back.”
“To generate at least 3–4x more income as compared to my current role as a gas station manager. I am confident I can run my own station and also offer QSR (Quick Service Restaurant) services. My challenge would be a significant time away from family, but we are collectively prepared to make this sacrifice for the next few years.”
“I am genuinely unhappy in my current and last few desk jobs — its a feeling of rotting away. I consider myself an independent spirit who is most fulfilled when traveling around the world and living minimally. I want to become a travel blogger. Its a risk I must take now, or I am afraid will live in regret.”
“My workplace is great, but I know I can earn more in a month. I want to utilize my weekdays from 5pm to 9pm daily and the weekends by starting a small side business. It doesn’t have to be something terribly demanding but just a way to generate additional cash flow that can pay the bills.”
“My father’s pension is insufficient, and I need to take care of both aging parents and my younger brother. I have tried to secure public sector employment but failed. Private sector jobs don’t pay very well with little to no long-term financial security. I just need to rely on myself now and make it happen.”
There are no right or wrong whys. Write down your why. Save it on your smartphone. Print it and paste it on the wall somewhere visible. Its a reminder and a propelling force needed during the dips of your journey.
2. What is your businesses’ value proposition?
Simply put, this ‘what’ is more of a ‘why.’ As in why should someone pay for your product or services over the competition?
Hence the question you need to answer is what do you bring to the market that customers consider a viable solution at a reasonable price? For example, a group of young men shared their mobile pet grooming idea at one of my business creation workshops. Their surveys revealed nearly 45% of their respondents were interested in client-site pet grooming services. These potential customers did not want to deal with the hassle of driving to a vet or pet store for regular cats and dogs grooming needs and also preferred the pet to be comfortable in its familiar home setting. The value added, therefore, is home service since most competitors are not offering it.
The entrepreneurs decided to invest in a van instead of renting a small store. This helped them lower overheads but also improved advertising driving around town.
In other words, try to stand out in clear terms so you can either address existing demand or even create new demand in the marketplace. It’s possible your unique offering justifies a premium to competition.
3. What is the serviceable market?
When you think about your target customer base think of it as the serviceable market. Narrow it as much as possible and quantify it.
For example, for an entrepreneur who was looking to start a T-shirts business my discussion with him went as follows (his responses in bold):
a. Who is your market? Anyone who wants to but a T-shirt. This is too vague and broad, so we need a narrowing of scope.
b. Who are you focusing on? Youth. Still not narrow enough.
c. Who will be primarily interested in your T-shirts? Mostly teenagers.
d. Boys or girls? I think boys.
e. Are you selling internationally or domestically? Domestically?
f. Are you selling all over the country and in rural and urban centers? No, just in the city I live, at least for now.
Good! Now, we know you are targeting teenage boys in your city as a customer base for your T-shirts.
g. How many male teenagers are in the city? Let’s say 1 million.
h. How much does it cost you to make a single shirt? Rs. 80.
i. How much are you planning to sell the shirt for? Rs. 100.
Excellent! So, your serviceable market is Rs. 100 per shirt times 1 million shirts(customers) or Rs. 100 million.
Market sizing does not have to be exact but enough to gauge the market you are pursuing. Large markets typically don’t grow very fast and certain small ones may remain small for various reasons. You may decide to adjust your marketing strategy by pivoting your focus within the overall market and still make money, e.g. shift towards middle-class male teenagers who may make up the majority of your target market. You also need to have a sense for how much market share you can reach and what level of scale you require to be optimally profitable.
4. What is the margin profile?
This question generally throws people off, but it is fairly simple to understand. If you are in the cement manufacturing business you will likely experience low margins of around 5%. If you are in the software application business you may see margins of 50% or more. Margin (in this case net margin) is what you are left with after subtracting costs and expenses from your sales or revenue.
Revenue — Costs — Expenses = Profit
Net Margin = Profit/Revenue x 100%
For the cement company, for every $100 of revenue the business is making a net profit of $5 (i.e. 5% net margin or $5/$100 x 100%). For the software company, for every $100 of revenue the business is making a net profit of $50 (i.e. 50% net margin or $50/$100 x 100%).
Higher margin business implies more differentiation for which the vendor can charge more above its costs and expenses combined. That does not mean cement is a poor business opportunity versus software. It is possible that the cement business may be several hundred times larger than the software business and provide recurring profits for years to come while the software sales may be unpredictable and choppy.
Knowing your industry’s or business’ margin profile will help you understand how to price products and manage your expenses accordingly. If as a cement manufacturer you are experiencing 2% net margins, you need to rethink increasing the price or lowering your expenses (salaries, marketing, rent, utilities, etc.) or both. Or maybe you are fine with lower margins in the early years and reach 5% margins upon achieving certain economies of scale in the future. This ties into question 3 about knowing your serviceable market and having some gauge of the overall size of the industry you are competing in. If your immediate market is too small and you are stuck in low single-digit margins, maybe you need to expand its scope to reach 5% margins.
5. Do you have access to capital?
Do you have enough money to buy any equipment, pay monthly office rent and salaries, in addition, to sustain you and your family during the startup phase? This phase will vary from business to business depending on startup and operational costs and person to person depending upon their personal financial balance sheet.
Let’s assume you need $50,000 to start a gym. You have to pay 6 months rent in advance and can procure all the gym equipment and machines, mostly used but in good working condition. This budget also includes the first two months of salaries for trainers and staff, utilities and marketing expenditures.
If all you have is around $50,000 in savings, then you will most likely explore other options for accessing capital instead of risking your entire financial safety net for the venture. These options may include the following five strategies:
a. Selling certain assets (property, car, jewelry, electronics, etc.).
b. Securing loan(s) from family & friends with or without tangible collateral.
c. Securing loan(s) from banks and other lenders most likely with collateral.
d. Raising funds by offering shares/equity in your company to family & friends investors.
e. Raising funds by offering shares/equity in your company to external/professional investors.
I have also seen young companies having a mix of all five capital raising strategies listed above. As you can imagine, this can get messy!
All money is not the same. Each strategy will present its respective pros and cons. For example, a loan doesn’t reduce your ownership/control of the business in theory and an equity investment doesn’t tie you to make annual cash interest payments as in the case of loans. But a loan may be expensive (high-interest rate) and an investor may be intrusive in decision making or may be undeserving of the profit share in your opinion.
6. Sole business or partnership?
Building upon question 5, one should carefully explore going at it alone or with a business partner. In theory, a partner may help lessen the load on you from finances to running around.
In practice, a partnership may also lead to resentment and infighting as one partner may find fault in the other’s lack of commitment and effort. I advised a startup once where both co-founders reached out to me in private essentially complaining about the other.
First: He shows up in the office at 10:30 am. I am here at 7:30 am.
Second: His controlling attitude is suffocating for me and others — he is not my boss.
First: He just put in the same amount of investment into the business as me. Since then I am the one carrying the business and he is sitting back enjoying the rewards.
Second: There is a difference between complementary and conflicting personalities. I feel like he has hijacked the idea I came up with and is projecting me in a negative light in front of employees.
Another partnership was fully bought out by one partner three years after its launch. One of the co-founders wanted to sell the company to a larger competitor while the other, having equal voting rights, wanted to stay independent and build the company’s value. In this case, both partners got along personally and professionally but ran into a key disagreement on their company’s direction. After months of back and forth, the partner who did not want to sell decided to buy out his co-founder partner by purchasing all his shares.
On the flip side, if you have a strong symbiotic relationship and a healthy level of co-dependence, you may realize you absolutely needed your business partner to manage and grow your business. Technical skills aside there are at times soft skills that help a business out, from dealing with investors to boosting employee morale to managing customer complaints. If your temperament is not suited for such situations, having a partner who thrives in these situations may prove highly valuable to you and your franchise.
7. Success rate of competitors?
Finally, you should conduct due diligence on which players in your industry have been successful and why and which ones have not.
For example, nearly 80% of restaurants in New York City fail in the first 5 years of their operations. We conducted a survey of restaurants in Islamabad and found the failure rate to be nearly inverted as compared to NYC, i.e. around 26% in the first 5 years. This may be, among other factors, due to limited competition in the market and/or rapidly rising middle-income class across various urban centers in the country.
Try to stay away from generalized and theoretical assumptions and investigate specific enterprises in particular neighborhoods. It is at times harder to find failures for a post-mortem but spend some time doing your primary market research. Grasp the local dynamics of demand, labor supply, labor costs, supply chain issues, regulatory matters, operational costs including rents and logistics, marketing approach, etc.
Look at both legacy and new competitors. Why are each continuing to add value in the market? Do the newcomers have strong financial backing? Are their business models innovative? Do they have any competitive advantage in terms of lease agreements, cost structure, industry alliances, and go-to-market strategy? What advantages can you replicate or improve upon and what may be out of your reach in the foreseeable future?
As an example, one foreign restaurant chain approached our consulting firm for advisory services. They wanted to explore setting up their first unit in one of the new shopping malls in the city. On the surface, the proposition seemed viable. Their two main competitors were also in the mall’s food court. Post feasibility assessment we discovered the client should not pursue the mall strategy and instead explore a larger stand-alone establishment in another part of the city. Our study showed that both competitors were using their mall presence for branding purposes. The mall units were barely breaking even due to the exorbitantly high rents and utilities. They had half a dozen other outlets all over the city that were financially successful but given the footfall in malls they wanted to capture mind share ahead of market share.
Since our client prioritized financial performance of their establishment over branding (similar to its competitors a few years ago), it went with our advice and is now operating a standalone outlet with plans to expand into other cities.
Do the work! Talk to different players in the supply chain, conduct primary research, surveys, FGDs (Focus group discussions), meet with all your financing sources and seek their guidance. The more comprehensive you are in the ‘pre-jump’ phase the better prepared you will be post-jump, both mentally and operationally.
Being prepared will not only help you develop a better business model but also create a stronger narrative helping recruitment and directing staff more effectively. This could be the difference between success and failure of your business in the practical arena, where it counts.