You'll find volumes of advice on what business strategy to follow. Almost all of it is either based on anecdote or very tactical, and should be taken it with a healthy dose of skepticism. Sure, some business owners succeed, for a time, by trusting their guts. And yes, you should definitely keep abreast of your competition.
Michael Raynor took it a step further. He and his team studied twenty-five thousand businesses and found three simple rules that the successful companies followed:
- Better before cheaper—in other words, compete on differentiators other than price.
- Revenue before cost—that is, prioritize increasing revenue over reducing costs.
- There are no other rules—so change anything you must to follow Rules 1 and 2.
There's a proviso here, though, and unsurprisingly rule 0 is: do what the data says. Prioritize making data-driven decisions.
I'll let Raynor himself explain these rules in the video below.
Posted by Thomas Hopper on Permanent link for The 3 Simple Rules for Successful Businesses on September 21, 2023.
In today's fast-paced business landscape, organizations strive for efficiency, consistency, and scalability. Standardizing and automating business processes is a strategic approach that empowers companies to optimize their operations, improve productivity, and drive sustainable growth. By establishing clear guidelines and harnessing the power of automation, businesses can reduce errors, enhance customer satisfaction, and unlock new opportunities.
An important guideline: don't automate too early. Processes that have been automated rarely get improved, and improvements to automated processes tend to focus on making them cost less to perform rather than increasing product (or service) quality and top-line revenues.
Common areas to look for opportunities to automate:
- Operations management: To keep track of the who, what, and when of your business, automate the entire logistical part of the process.
- Project management: To avoid emails, information files, or to-do lists getting lost in miscommunication, use project or task management software.
- Customer support: To save your support team from the hassle of responding to hundreds or thousands of complaints about an issue, use customer support software to automate some replies.
- Social media management: To free up precious time, use social media automation tools to schedule your posts throughout the day, week, or month depending on your preference.
To automate, follow these basic steps:
- Systematize your processes Before any standardization or automation can take place, it is essential to gain a comprehensive understanding of existing processes. Begin by mapping out each major process in your business, identifying inputs, outputs, decision points, suppliers to the process, and customers of the process. Flowcharts, swimlane charts, SIPOC diagrams, or turtle diagrams all work well for this. Start with whichever one works for you. Document your processes in a centralized repository, ensuring easy access for all stakeholders.
- Identify repetitive activities Not all activities can be automated; sometimes, you need human creativity or decision-making. Look for sequences of steps in the process that are repetitive and don't require creative or critical thinking.
- Automate repetitive activities Leverage automation tools and technologies such as robotic process automation (RPA), workflow management systems, and artificial intelligence (AI) to automate repetitive tasks, data entry, and decision-making processes. This not only reduces human error but also frees up valuable time and resources, enabling employees to focus on higher-value activities.
- Monitor, Measure, and Optimize Once the automated processes are deployed, monitoring their performance is crucial. Establish key performance indicators (KPIs) to measure the effectiveness and efficiency of the automated processes. Leverage analytics and reporting tools to gather data and gain actionable insights. Regularly review the KPIs, identify bottlenecks or areas for improvement, and make necessary adjustments. Continuous monitoring and optimization are essential to achieving long-term success.
- Train and Engage Employees While automation can streamline processes, it is important to remember that it complements human efforts rather than replacing them entirely. Invest in training programs to equip employees with the necessary skills to adapt to automated workflows. Encourage a culture of collaboration and innovation, where employees feel empowered to provide feedback and suggest process enhancements. By fostering employee engagement, organizations can maximize the benefits of standardized and automated processes.
For small businesses looking for cost-effective business process automation solutions, there are several reliable options available. These tools offer a range of features to streamline processes and enhance productivity:
Zapier: a popular automation platform that connects different applications, enabling seamless data flow and task automation. It offers a user-friendly interface and supports integration with over 2,000 apps, making it versatile for various business needs.
Trello: a visual project management tool that uses the Lean whiteboard metaphor of boards, lists, and cards to organize tasks and workflows. It provides automation features, such as automatic card creation and due date reminders, simplifying task management for small teams.
HubSpot CRM: a free customer relationship management system that automates sales and marketing processes. It helps businesses track customer interactions, manage leads, and automate email campaigns.
Google Workspace: Google Workspace offers a suite of cloud-based productivity tools, including Gmail, Google Drive, Google Docs, and Google Sheets. These applications can be integrated and automated using Google Apps Script, allowing small businesses to streamline communication, collaboration, and document management.
Social Pilot: social media automation tool built for businesses of all sizes, from small to enterprise-sized. With this versatile tool, expect to enjoy a ton of features such as social media scheduling, calendar management, robust analytics, client management, and more.
Tidio: An easily accessible live chat widget makes your business available 24/7, while AI-powered chatbots engage your customers in real-time.
Standardizing and automating business processes is a strategic imperative in today's competitive landscape. By mapping, documenting, and standardizing processes, organizations can achieve consistency and efficiency. The integration of cost-effective automation tools enables busy, understaffed small businesses to optimize their operations, reduce manual effort, and enhance productivity.
Posted by Thomas Hopper on Permanent link for Automating your business on June 23, 2023.
There are many ways that entrepreneurs can raise money for their startup, including:
- Bootstrapping: This involves using personal savings, credit cards,
sales revenue, and other financial resources to fund the business.
- Commitment to major customer
- Crowdfunding: Raise small amounts of money from a large number of people, typically through an online platform. Crowdfunding is not only a potential source of non-dilutive capital, but is a great way to cheaply validate your business idea, and has become the most popular means of funding new businesses.
- Angel investors: These are individuals who invest their own money in exchange for ownership equity in the company.
- Venture capital: This is funding provided by firms or funds to startups in exchange for ownership equity. In Michigan, the Michigan Venture Capital Association is a great resource for connecting with both Angels and VCs.
- Bank loans: loans provided by banks or other financial institutions to businesses. Usually they'll require a business plan, a business bank account, and some collateral.
- Incubators and accelerators: These organizations provide funding, mentorship, and other resources to help startups grow. Famous examples are Y Combinator and Tech Stars.
- Government grants: These are funds provided by government agencies to support the development of new technologies or businesses. Usually they are available for businesses in specific industries that the government is interested in strengthening and growing.
- Partnering or licensing: This involves partnering with another company or licensing your technology to them in exchange for funding. Often one partner provides critical intellectual property or contacts while the other partner provides funding.
I'll cover each of these in more detail in future blog posts.
Posted by Thomas Hopper on Permanent link for Ways to Fund a Startup on June 16, 2023.
The break-even point is an important financial target that every founder should understand. It is the point at which your total revenue equals your total expenses, and you start making a profit. In other words, it's the point where you break even. If you sell less than your break-even point, you'll lose money, while if you sell more, you should be turning a profit.
To calculate the break-even point, you need to know two things: your fixed costs and your variable costs. Fixed costs are expenses that don't change, such as rent or salaries, while variable costs are expenses that vary with your sales volume, such as production costs or commissions.
Once you have identified your fixed and variable costs, you can use the following formula to calculate your break-even point:
Break-even point = fixed costs / (price - variable cost per unit)
For example, if your fixed costs are $50,000, and your variable cost per unit is $10, and you sell your product for $30 per unit, your break-even point would be:
Break-even point = $50,000 / ($30 - $10) = 2,500 units
This means that you need to sell 2,500 units of your product to cover your fixed and variable costs and break even.
Knowing your break-even point is critical because it can help you make informed decisions about pricing, production volume, and marketing expenses. By understanding how many units you need to sell to break even, you can set sales targets and adjust your strategy to achieve profitability.
FindLaw has a great breakdown of how to do a break-even analysis before you start your business.
Posted by Thomas Hopper on Permanent link for Predicting Your Business' Break-even Point on June 9, 2023.
Cash flow is another important financial metric that founders should understand when determining how much money their startup needs. It refers to the amount of cash that flows in and out of your business during a specific period, usually a month. Positive cash flow is how businesses pay their bills, so predicting your cash flow is crucial to ensuring that your business will be viable.
Cash flows are normally presented on a cash flow statement, and a good financial projections template will have one that automatically fills in for you from your projections of revenues and expenses.
To calculate your cash flow, you need to know the inflows and outflows of cash for a given period. Inflows of cash can include sales revenue, loans, or investments, while outflows of cash can include expenses like salaries, rent, and utilities.
You can calculate your cash flow for each planning period (typically a month, a quarter, or a year) using the following formula:
Net cash flow = sum of inflows of cash - sum of outflows of cash
For example, let's say that your startup received $50,000 in sales revenue and $20,000 in loans during the month, and your expenses, including salaries, rent, and utilities, totaled $60,000. Your cash flow for the month would be:
Cash flow = ($50,000 + $20,000) - $60,000 = $10,000
A positive cash flow means that you have more cash coming in than going out during the period. This is what you want; it makes it possible for you to pay the bills. On the other hand, a negative cash flow means that you have more cash going out than coming in, which will lead to using debt (e.g. credit cards) to pay bills and might ultimately have to file for chapter 11 bankruptcy in the business. When your cash flow prediction is negative, you should go back to your assumptions about pricing and what is needed to achieve desired sales. You'll need to find ways to either increase revenue or decrease costs.
Trovata offers a lot more detail on how to predict cash flow before starting your business, and why it's important.
Posted by Thomas Hopper on Permanent link for Planning for Cash Flow on June 2, 2023.
Operating expenses are the second of three major sources of financial expenses in your business. Operating expenses are the ongoing costs of running your business, regardless of whether any product is sold.
To estimate your operating expenses, start by making a list of the items and expenses you will need to run your business. Then, research the cost of each item and expense to arrive at an accurate estimate. Be sure to include any recurring expenses, such as monthly rent or utility bills.
Here are some common types and categories of operating expenses that you should consider when estimating your startup costs:
Rent: This includes the cost of leasing or renting office space or a storefront.
Utilities: This includes the cost of electricity, water, gas, and other utilities needed to operate your business.
Salaries and wages: This includes the cost of paying your employees, including payroll taxes and benefits.
Marketing and advertising: This includes the cost of promoting your business, including social media ads, print ads, sponsored content, and travel to trade shows or key customers.
Supplies and inventory: This includes the cost of purchasing materials and supplies needed to provide your products or services.
Insurance: This includes the cost of insuring your business against liability, property damage, and other risks.
Professional fees: This includes the cost of legal and accounting services.
When estimating your operating expenses, be sure to include all related costs, such as taxes, shipping fees, and other related expenses. It's also important to consider any seasonal fluctuations in your expenses, such as higher heating bills in the winter.
Once you have estimated your operating expenses, you can use this information to determine your cash flow needs and create a budget for your business. You should aim to have enough capital to cover at least six months of operating expenses, and ideally a year or more.
Posted by Thomas Hopper on Permanent link for Estimating Operating Expenses on May 26, 2023.
In planning for and tracking the cost of doing business, we often find that it's useful to divide the costs into two categories: fixed costs and variable costs.
Variable costs are the costs that increase with number of units sold. If sell twice as much, our variable costs roughly double. For example, if you were making a single iPhone, you would have to spend money for one screen and one battery pack. If you made two iPhones, you would need to spend twice as much to have two screens and two battery packs. Screens and battery packs are part of your variable costs.
A major component of variable costs is your costs of goods sold, or COGS.
Estimating COGS will help you understand your business' financial variability, guide you in pricing strategy, and provide a basis for establishing investor confidence.
COGS for Product-based Businesses
For product-based businesses, COGS are sometimes referred to as the production costs, and are expenses that are directly related to the production and distribution of your product. These costs can include raw materials, labor, shipping, and packaging. Understanding your production costs is crucial to determine how much money your startup needs to operate and become profitable.
Calculating actual COGS is pretty straight-forward:
COGS = Beginning Inventory + Purchases − Ending Inventory
For entrepreneurs looking to start a business, this takes a bit more work. To estimate your future production costs, you need to add up all the direct costs involved in producing your product. These can include:
Raw materials: the cost of materials that go into your product, such as components or ingredients.
Labor: the cost of the workforce involved in manufacturing or assembling your product. May sometimes include the portion of sales labor directly attributable to selling each unit of a product.
Shipping and handling: the cost of transporting your product to your customers or warehouses.
Packaging: the cost of materials used to package your product, such as boxes or bags.
Once you have calculated your production costs, you can use them to determine the price of your product and the minimum amount of revenue you need to generate to cover your costs.
For example, if your production costs for a unit of your product are $20, and you want to have a gross profit margin of 30%, you would need to price your product at:
Price = COGS / (1 - Profit margin)
Price = $20 / (1 - 0.30) = $28.57
This means that you would need to sell your product for $28.57 to cover your COGS and earn a 30% profit margin.
Knowing your production costs is essential because it can help you make informed decisions about pricing, product design, and manufacturing processes. By understanding your costs, you can optimize your production processes and pricing strategy to maximize profits and grow your startup.
COGS for service-based businesses
While the costs of goods sold (COGS) are typically associated with manufacturing businesses, service-based businesses also have costs that are directly related to providing their services. These costs can include wages, supplies, and overhead expenses, among others. Understanding your service-based COGS is crucial to determine how much money your startup needs to operate and become profitable.
To calculate your service-based COGS, you need to identify all the direct costs associated with providing your services. These can include:
Wages: the cost of paying your employees who provide the services.
Supplies: the cost of any materials or supplies used to provide the services, such as software or cleaning supplies.
Travel expenses: if your business requires travel to provide services, such as a consulting or delivery service, then you need to account for expenses like gas, car rentals, or airfare.
Overhead expenses: these are the costs of running your business that are not directly related to providing services, such as rent, utilities, and insurance.
As with production-based COGS, once you have identified your service-based COGS, you can use them to determine the price of your services and the minimum amount of revenue you need to generate to cover your costs.
Posted by Thomas Hopper on Permanent link for Estimating COGS on May 19, 2023.
As a founder, determining your startup costs can be both a daunting task and critical to your success. Startup costs include all the expenses you will incur to get your business up and running, including fixed assets, operational expenses, marketing and advertising, legal and professional fees, and more. Accurately estimating your startup costs is essential to ensure that you have enough capital to launch your business and keep it running until it becomes profitable.
To determine your startup costs, you should start by making a comprehensive list of all the items and expenses you will need to launch your business. Here are some common categories of expenses you should consider:
Fixed assets: These are the physical assets you will need to operate your business, such as real estate, computers, furniture, equipment, and vehicles. The value of fixed assets should be depreciated over each item's useful life and, where applicable, that depreciated value deducted from your tax burden.
Operational expenses: These are the ongoing costs of running your business, such as rent, utilities, insurance, and salaries. These expenses are deducted as you incur them.
Marketing and advertising: These are the expenses associated with promoting your business, such as social media ads, print ads, and sponsored content. These expenses can be deducted in the year they are incurred.
Legal and professional fees: These are the expenses associated with setting up your business, such as legal fees, accounting fees, and consulting fees. These expenses can be deducted in the year they are incurred.
For each item above, estimate your cost, being sure to include all taxes, shipping costs, and other related expenses. If you are unsure about the cost of an item or expense, research it and make the best-educated guess that you can. It's not important to have perfect estimates, but to have estimates that you can plan around.
After you have estimated your startup costs, you can then determine how much initial financing you will need to launch your business. Additional financing may be needed to cover post-startup operation of your business, until you're earning more cash than you're spending.
SCORE offers a nice financial projections template to help you get started.
Posted by Thomas Hopper on Permanent link for Estimating Startup Costs on May 12, 2023.
Starting a new business venture can be an exciting but challenging experience. Entrepreneurs are constantly looking for money to run their businesses, and most feel the pain of not having enough money.
I find myself frequently advising entrepreneurs to test their business ideas early and often—to fail fast—and one of the earliest and easiest ways to test a new idea is to prepare a plan with detailed financial projections. It's a cheap way to figure out what you need to start your business, and what you'll need to keep it running. In this and several following blog posts, we will explore how founders can determine how much money their startup needs to achieve success.
1. Conduct Market Research
The first step in determining how much money a startup needs is to conduct thorough market research, as we've explored in past blog posts. Understanding the market, competitors, and customer behavior will help you estimate the costs associated with acquiring customers, launching products or services, and running your business. Market research can also help you determine how much revenue you can expect to generate in the first year of operations.
2. Determine Startup Costs
Once you have conducted market research, you can start determining the costs associated with launching your business. These startup costs are what you will spend before you start selling and delivering your product or service. Startup costs can include expenses such as legal fees, permits, licenses, rent, equipment, supplies, inventory, and marketing expenses. They can also include capital expenses like real estate, manufacturing equipment, furniture, and computers.
3. Estimate Costs of Goods Sold
Costs of goods sold (COGS), sometimes known as production costs, are expenses that are directly related to the production or creation of your product. These costs can include raw materials, labor, shipping, and packaging, and will scale directly with your sales volume. When you sell twice as many items, your total COGS will be twice as much.
While the COGS are typically associated with manufacturing businesses, service-based businesses also have costs that are directly related to providing their services. These costs can include wages, supplies, and travel expenses directly associated with delivering a service.
4. Estimate Other Operating Costs
In addition to startup costs and COGS, you need to estimate the ongoing operating costs associated with running your business. Operating costs can include salaries, wages, benefits, rent, utilities, insurance, taxes, advertising and marketing, and maintenance costs. These costs will vary depending on the type of business you are starting and the location, and they do not typically scale with the amount of goods sold.
5. Calculate Cash Flow
Cash flow is the amount of money that flows in and out of your business each month. Understanding your cash flow is essential to determine how much money you need to have enough cash on hand to cover expenses and pay bills.
6. Determine Break-Even Point
The break-even point is the point at which your revenue covers your expenses. The break-even point will tell you how much revenue you need to generate to cover your costs.
7. Finish the Financial Plan
Once you have estimated your startup costs, operating costs, cash flow, and break-even point, you nearly have a complete financial plan for your startup. Add projected income (a.k.a. profit and loss) statements to calculate profit margins and balance sheets for the first year of operations, and you're done! A detailed financial plan can help you make informed decisions about how to allocate resources and manage cash flow.
So what do founders get wrong? Too often, when they make their ask for investment--whether from angels or VCs, or at a pitch competition, or just for a bank loan--they haven't done the work above to know how much they need and when they need to spend it. Haje Jan Kamps has some additional insights for you.
Posted by Thomas Hopper on Permanent link for Founders get this wrong on May 5, 2023.
Entrepreneurs and intrepreneurs developing new products are inevitably asked "how much does it cost?"
To answer this, we need to distinguish between price—how much the customer pays—and cost—how much it costs you to put it in the customer's hands. We also need to distinguish between how much it costs right now and how much it will cost at volume.
If you're talking to potential customers, who are interested in buying, they really mean "what's the price, right now?" You'll need an answer for them, because you want them to buy. You need that market validation. So what's the right price? Ideally, it's a premium price point, but early price points should have no relation to actual costs. You're testing the market; not your operational efficiency.
If you're talking to potential investors or internal stakeholders, they usually want to know about the cost at volume. Volume is a bit tricky. You cannot possibly obtain an accurate cost estimate to produce a product design that doesn't exist yet in volumes you can only guess at, and at a manufacturing site that you haven't selected. But that's o.k.! You don't need to know the exact costs of every component; you only need to know which components of production drive the bulk of your cost, and roughly what those components cost at volume. What we're really looking for is just a fair estimate, at the highest volume that makes sense. If you're developing the next whiz-bang smartphone, where the total market is running around 1.5 billion units per year, you don't want to estimate volumes of 10 billion units per year. But around a hundred million a year could be the basis of a perfectly reasonable volume cost estimate.
Let's try an example of part of your operation. Suppose you're manufacturing your next-gen smartphone in China and shipping to the U.S. west coast once a month. Your product is small and you can fit 500 units to a pallet. Shipping rates for that pallet will probably run you around $1,000 (mid-2022 prices), or $2 per phone. When sales grow enough to utilize an entire 40-foot shipping container, you'll spend $10,000 but ship 20 pallets, or 10,000 units, lowering the cost per phone to $1. If you could reach volumes of around 120 million phones per month, you can buy the capacity of an entire container ship, which a google search or a phone call to a major shipper tells you will cost around $100,000 per day. With shipping times of around two weeks, you'd spend about $1.4 million per month to ship those parts, but the cost per part would be just 1 penny. When an investor or stakeholder asks you "how much will it cost," your answer should not be "$1,000 for a pallet of 500 phones;" your answer should be "we estimate 1 cent per phone at volume."
If your investors instead want to know how much it costs today, you'll of course tell them that at today's very low volumes, shipping costs about $2 each to port; just $500 per month.
One startup manufacturer I'm familiar with had a product where the bulk of the cost came from labor and certain metals in the product. That manufacturer's answer to "how much does it cost" assumed production would (someday) be someplace where labor was cheap and that volumes would be sufficient to buy an entire mine's-worth of metal production—this resulted in the lowest potential costs. In the present day, their actual costs were many times higher, with production in the United States where it was easier to manager during scale-up and with lower volume metals purchases.
This cost-volume relationship holds for just about every product or service that a business provides. The more you do, the more your costs are dominated by variable costs rather than fixed costs, and cheaper the variable costs get per unit.
For this reason, early-stage startups should (almost*) never be trying to sell into cost-conscious mass markets. You should be looking for the high-value customer segments, those who are willing to pay a premium price for a premium product or service. As your volumes increase, you can work on reducing costs and then reducing price while holding your margins (or letting margins slip while raking in large revenues, the way oil companies do). We'll cover this more in a future blog post.
* almost never: there are some great market opportunities in cost-conscious markets, where customers are under-served or not served and cannot afford current offerings. Startups can offer a lower-margin substitute with fewer features at lower prices, staving off competition from established companies while gaining market share. Examples include the early personal computer market, transistor radios, and shared mobility (e.g. Uber). Harvard Business Review offers some additional insight.
Posted by Thomas Hopper on Permanent link for Product Cost Modeling, Target Markets, and Pricing on April 14, 2023.