Companies evolve, at times diversify and rarely morph into a completely new avatar all by itself. While the second and third scenarios aren’t commonplace, it is absolutely essential for a company to evolve as it grows. What isn’t evolving is simply dead—or on its way there.
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There is usually a confusion among entrepreneurs between what is perceived to be a business model and the revenue model of the company. While the revenue model of an enterprise is about the product offering and the client and who pays for it, the business model of a company is the implementation plan on executing the grand vision of living up to the mission while being profitable.
There are three fundamental milestones that a business crosses as it’s growing from a founder known concept, to a startup and then to a small and medium enterprise. The business models of ventures is closely linked to each one of these stages.
Stage 1: Ramen Profitability
Any entrepreneur who is setting out on a new venture and does not have the experience that comes with building companies and managing cash flow has the first milestone to achieve. While being ramen profitable or breaking even might not have the lure and glamour of the bigger and fast growing companies, this is a very crucial milestone. And while investments into the future are important, this takes precedence to validate the fact that you are a viable business. The standard equation that is given to validate a business by the expression ‘revenue minus cost equals profit’ is where this venture stands—simple, uncomplicated and a viable goal to aim for.
Stage 2: Sustainable Margins
Once you get profitable, the next step is to start thinking about what are the things that you can do to optimize your margins, keep competition at bay and also start looking at new sectors that you can diversify into in the future. Most enterprises struggle at this, because this is the stage where you have to start measuring everything that can be measured—from the average margins, the bad debts incurred through failure of collections, the cost of sales, the cost of delivery of the service, the cost of maintenance, the cost of customer support—each and every element of the business has to be measured and monitored.
Three things usually help at this phase—automation, technology and processes. Automation removes the human element and thus removes the fallacy that comes with it. Technology helps create a cohesive environment to keep an eye on how the entire system flows while processes ensure that you lay the ground work for the future.
The equation of revenue minus cost equals profit still holds here as well. What you also come to realize is that that cost is a variable and you can, in fact, control some of it, and not so much the rest of it. Identification of these is what happens at this stage.
Stage 3: Non-Linear Growth
Practically speaking, most companies never get past stage two. In this stages your margin goes astray, systems are not complied with and your target segment gets disrupted.
Every assumption you had made till this point goes out of the window. So, you are required to redefine your revenue model, revamp teams and go back to stage one all over to get it started—or at least for bits of it.
If you are talking to any reasonable venture capitalist who is honest enough to tell you what is it that they are exactly looking for—it’s the companies that can actually get past stage three. And statistically speaking, less than 2% of companies founded will actually qualify for this—even lesser when they are just startups and haven’t seen the reality of turning profitable and managing their margins.
An enterprise reaches its third stage when it can increase revenues while keeping the linear cost component low. The key to the code is--keep the cost of customer acquisition as low as possible and the delivery costs at a fraction of it. An enterprise should also try to keep the cost of customer support low and yet deliver a stellar product or service.
This is where intellectual property based firms and also product companies have a significant leverage as they can build a product once and sell it repeatedly, thus keep the costs low and enjoy a non-linear return.
However, the world is changing with the advent of several innovative business models such as cloud computing, time-share models, shared infrastructure, pay-per-use model, etc. Today, there is an opportunity for quite a few businesses to take advantage of such models but the reality remains that most do not succeed. And the ones who do, change the face of the industry.
There are three reasons why I thought it was quite crucial to write about this. Firstly, it has to understood that most businesses can be very successful and enjoy healthy profit margins, grant you everything you aim for financially, and still not get past the second stage of business model evolution.
Secondly, as an entrepreneur, especially early stage, you have to realize that predicting the projections or future of a stage three business without even going through the first two stages—or having any experience of building a business before—are mostly empty promises made and a lot of time wasted pitching to raise money.
The third is what I hope you’d take away from this—India is a land known to have built several businesses which looked like stage two businesses but soon turned out to be stage three businesses as they morphed and diversified—the likes of Bharti to Reliance are living examples of it. But if you set your eyes on a non-linear return business without the experience and patience of knowing the steps, the journey could get frustrating. As they say, there is no easy way to build a business. It takes time and it is always a hard way.
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Vijay Anand is a serial entrepreneur, the founder of Proto.in, and the Vice President (Incubation) at IIT's RTBI. He tweets at @vijayanands. To write to the author, please send an email to dare@cybermedia.co.in with the subject line 'Vijay Anand'.
Disclaimer: The views expressed here are that of the author and do not represent the magazine's.
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written by nike air max bw, March 21, 2011
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