This 2-part series of articles explores the difference between growing and scaling the revenue in your small business. Part 2 explains revenue scaling, which is an often-confused term, but in our context here it refers to your ability to increase revenue without increasing resource costs (or increasing resource costs at a lesser rate).
Many small business owners, particularly first-time entrepreneurs, are rightfully focused on growing their business – but maybe not in the best possible way to achieve maximum profitability. I was one of those when I founded my company. Because I was so focused on that business model – and also because I didn’t know any better – I wasted several years on a growth path that was similar to a hamster in a running wheel.
The background. My business was entirely service oriented, starting with me as the only revenue generator for the first couple of years, teaching mainframe software classes at very large computer centers around the U.S. This is very common for very small start-up businesses, where the owner/founder is working night and day to keep the doors open, customers satisfied, creditors at bay, and learning the basic ropes of running a small business. There’s so much involved in those tasks that stepping off the running wheel for even a few hours can be difficult.
During the first two years, I was working 80 hour weeks, traveling 300 days a year. With that workload I had virtually no extra bandwidth or company resources to do justice to any other tasks. I was heads-down, focused intensely on building business that would fill my available schedule. My only business planning thoughts were about how to do more of what I was already doing – thinking that would be the key to my success.
Most notably, building any kind of honest-to-goodness sales and marketing capability was out of the question – specifically because the cost was prohibitive. Instead, I worked every extra minute building a strategic alliance with a large multi-national partner, one that already had a mainframe software education and training business, and would funnel subcontract business to me. Sure enough, by the third year of my business, my schedule was chockablock.
When I faced the enviable reality of having to turn down business – which I was loathe to do, as any business that I had to decline meant customers who wouldn’t return to me for repeat business. Instead, I spent lots of extra effort finding additional instructors, first one, then two, then three . . . and so on. I managed these instructors in my evening hours, in hotel rooms all over the world, via phone and a nascent intranet e-mail system that my alliance partner allowed us to use.
It took me a long time (much longer than it should have) to realize that all I was doing was running faster and faster on the same running wheel. I was making pretty good money. I built my company up to 14 total instructors, plus an office administrative staff of two, who managed customer contracts, course material printing and shipping, invoicing, and bookkeeping.
But was it a real success story? I’m sure even a hamster has to take a break from the running wheel after a while. No doubt, I took some pretty good vacations, but I was still traveling 300 days a year, and I was getting burned out.
Because this was totally a service business, with my brain, my speaking ability, and my course packages as the only source of revenue generation – plus, of course, the same from my other instructors – and with all of our customer acquisition created through an alliance partner – there was never an exit strategy that would allow me to jump off the running wheel. I couldn’t sell the business. I couldn’t build it any further along the lines of the current business model. All I could do was stay with it for the never-ending future.
My situation probably sounds totally unique, but it isn’t. The truth is, a very large number of start-up ventures have the same problems. They rely on growth to get where they want to be, when putting an emphasis on scaling your business to achieve your goals might be a better way.
So, let’s explore that definition above of “scaling”. What steps can you take to add revenue faster than you’re adding resources? And besides, even if you can, what’s the advantage? These are all good questions.
In my example above, I was adding lots of revenue, but it also required that I continually add highly paid technical instructors as revenue generators, making the company’s bottom line profit increases quite small. How could I transition from revenue growth to revenue scaling – and at the same time transition to a less service-oriented business that provides a better owner/founder exit strategy?
The forces behind my business model transition aren’t important to this, so I’ll just say that my company reached a point where expanding growth as I had been was no longer possible – OK, I’ll say it, the bottom fell out of the software education business, and I was left with a stable of highly valuable technical staff (14 of us), and if I didn’t do something drastic my company would be in the tank. Let’s just look at the outcome.
The key was to create a revenue engine that wasn’t directly tied to the number of hours that each of my technical staff worked – i.e., software products that, once developed and made marketable, could be sold over and over again. Presto! We began adding revenue much faster than we were adding resources. Sure, we had to add sales and marketing resources to make this all happen, but in general, the cost of these resources was much lower and they were all part of the scaling engine. Our profitability increased, which allowed us to plow more money back into further product development, which had an even greater scaling effect.
Was my business situation unique? Definitely not. Many first-time small business entrepreneurs start out with service-oriented businesses (mainly because they have a low cost to entry). Almost by definition, these business models lend themselves to a growth method only (as described above), and not to scaling. Here are some examples, though, of how you work towards a transition:
- You have a microbrewery operation where the only source of revenue is selling glasses of beer to customers sitting around a tap room bar, plus the occasional takeaway growler. And if all of your efforts are spent in increasing what you can do along that line, then you’re simply growing the business.
A better option is, after you get up and running successfully, you hire an inexpensive bar person to work the day-to-day customers, then devote all possible efforts to a scalable business model. Let’s say, creating a distributorship so that your craft beer can be sold in pubs all over the region, or even better, developing a bottling capability so that retail outlets of all kinds can sell your brews. In doing this, you’re now scaling revenue growth, at a minimal increase in resource costs.
The fundamental problem with the original business model is that you’ve created a product (which is exactly what you need for a scalable business), but then your revenue strategy relies on a service-oriented business model to generate revenue. And this may be all you can do at the start-up, as you’re woefully under-capitalized. Worse, obtaining investment capital to take you directly to a scalable business might prove difficult or impossible, plus you stand a serious risk of losing control of your most valuable asset – your brewing secrets.
So, initially opening your business doors as described above may be the best way to start up. You can then organically grow enough money in the bank to bootstrap your transition to the second phase.
- You’ve developed the world’s best Cuban pulled pork sandwich, and the lines are down the block at your food truck, no matter where it’s parked. You figure the road to success is to eventually replicate your food truck ten times, and you’ll be a millionaire in no time. But again, all you’re doing is growing the business – spending huge amounts of money (resources) to incrementally grow the revenue, but not scaling for great profits.
This might be pretty good . . . but is it the best you can do? Like the previous example, what if you build up the initial food truck business, maybe adding one, or two, or three trucks to get a small pile of money in the bank. From that base, you might then be able to internally fund the transition to a truly scalable business model – maybe a franchise or licensing arrangement. Maybe you create a factory production capability to churn out sandwiches by the thousands that can be sold through every Trader Joe’s, or in every Whole Foods deli area.
- You’re an architect specializing in custom residential home design. You’re doing pretty well, gaining more and more business through word of mouth and from builders that you work with. But the only way to grow your business is to incrementally add junior architects. But again, this model doesn’t lend itself to scaling, which is where you could really start to make some money. An alternative (although you may be selling your design soul to the devil) might be to design a series of spec homes that you can license to builders who have development projects that number in the hundreds or thousands.
In each of these examples, the key to scalability is creation of a product that you can sell multiple times, and expending product development resources fewer times (or at lower cost).
Which method you choose to increase revenue depends on your strategic goals. It’s quite possible, though, that developing a scalable model will result in greater revenue, and very likely a business that you can sell as an exit strategy at some point in the future. If you’re so inclined, it can also result in a business model that outside investors are interested in.