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‘Profit’ is Spelled Repetition

08/17/2013  | Tags: , ,

People prefer interesting, varied work; investors favor boring, repetitive businesses.Repetition

This is a contradiction that is important to keep in mind when building a business. When you start out, you probably get into it because you love your field or the process of creating a business inspires you.  Initially, you are also likely to hire likeminded people, who can get as excited as you are about the prospects of your new venture.  Why else should anyone good come to work for your start-up?  You can’t afford to pay them much and won’t offer much job security either.

The initial employees will have to be competent and self-motivating to be able to drive the business to the next level, but you will not make money on them.  They will come for a piece of the cake and likely to take most of the proportionate value they generate in the form of high bonuses or shares.

When you have a good team, and a product and revenue to prove it, you must start to look for leverage, so that you can either start making money or begin accumulating equity for yourself, your partners, or your investors.  The most obvious leverage is to scale up the business and create processes that will allow comparable quality work done by cheaper employees, who work for a salary.

The more you can increase the sales of your product or service, the more you can salami underlying processes.  The thinner the slices, the cheaper will be the workforce you can hire to execute the underlying steps. (Note however, that the cheaper your staff, the tougher will have to be your quality controls to make the scale-up work, increasing the complexity of your business.) All things being equal, the more process-driven (i.e. repetitive), you can make your business, the higher your margins will be and the less you will have to rely on fickle highly skilled employees. The higher are your margins and more independent your business from key customers and employees, the higher its enterprise value going to be.

Chances are, your business will fetch the highest price from investors if you can transition it to independent management.  To the hands of managers, who are good at controlling and motivating an army of people and running and executing efficient, salami-sliced processes that churn out predictable cash flows year in, year out.

Istvan (Steve) Preda

Istvan (Steve) Preda

ispreda

Strategic Advisor and Investment Banker who helps companies grow, groom and get great investors.
Comments (2) - We would like hear your opinion too!
  1. It is very good that an investor like yourself has posted a blog on this subject. Entrepenuers think of the delivery of service to the client and in the early stages of the start-up it is the owner of the start up that is most actively involved, and generally from a 500 square foot office in their home. We are focused on delivering quality work on time and on budget in order to keep the customer satisfied and have them return. But with the young company “on time” usually means having additional “experienced” and high-paid salary help in the form of employees and “on budget” usually means do not overcharge the client even if you went over budget… eat the loss but keep the client. In the beginning, young companies have low multipliers and can eat some of that budget as long as they did not underprice themselves from the start. Eventually, young and equally capable employees (cheaper salaries) provide the less expensive repetition that is needed for profit, but that also means moving out of the 500 sqaure foot office and addiing rental expense to the bottom line and possibly a computer station and work vehicle.
    Volume becomes important but it takes cash flow to hire more employees and add more overhead. Eventually, the young company has built staff, has an office that can accomodate more and less expensive employees without moving, has learned to live within thier means and has endured the struggle. If they are frugal, then cash has begun to accumulate and the need for an investor has diminished. And this is precisely when the investor becomes interested.

    • Neeld, thanks for your comment. I am not an investor, but I agree that most investors will want to get in touch when the business has turned the corner and generates solid and sustainable profits. However, venture capitalist will be interested to come on board already in the pre-profit phase, if the company has a viable product or service and a market to conquer.

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