A few years ago, a good friend of mine started a small recycling business that planned to serve corporations in larger metropolitan areas. He had what he and his investors thought was a solid growth strategy: Prove the concept in the first location and then expand by setting up new sites in additional metropolitan areas.
After a very successful first year at the initial location, he focused his efforts on setting up a second location in a city ninety miles away, only to find that the added cost of an additional operation as well as having to focus on managing two locations was not working. He subsequently shut down the second operation and looked for other ways to expand.
This is a common issue that entrepreneurs run into: How to grow their businesses without adding extreme amounts of cost and complexity to their organizations. Many entrepreneurs, even experienced ones, find that what worked as a small operation does not work well as a larger one.
They also find that what seemed like a sound growth strategy on paper does not translate into an effective strategy in practice. My advice before you consider growth is to consider your business model and how it lends itself to growth. Three areas you especially want to concentrate on are your revenue model, your operational model, and your cash flow model.
When putting together your revenue model, think about ways you can capitalize on generating revenue from your current customer base. It costs five times more to attract new customers than to retain existing ones, so if you can get your current customers to spend more with your business, you can grow sales without a proportionate increase in marketing dollars.
One way to do this is to add new revenue streams to your business that are attractive to your current customers. For example, consider a car wash that begins selling auto-related products: that business is now giving customers who have already come through the front door another way to spend money.
You should also consider how your collection methods impact repeat sales. If you can set up your revenues (or at least a portion of them) on a subscription basis, this lends well to growth as current and new customers provide predictable recurring revenue from which to build the business.
This can be as simple as charging customers a monthly fee for a service rather than on a per-time basis. If a subscription-based revenue model isn't feasible for your business, see if you can determine other ways to lock customers in to repeat sales through contracts or rewards systems to generate recurring revenue.
Your operational model will be a large determinant of how much cost and complexity will grow with an increase in sales.
If your business does everything in-house, including things like payroll, manufacturing, and sales, cost and complexity will increase as more people and volume are added to the organization. This will also be true if your growth model is to operate many locations (although this will be a necessity for certain types of businesses).
Instead, think about ways to expand utilizing outsourcing and strategic partnerships. By outsourcing functions such as payroll and manufacturing operations, you can capitalize on other firms' systems and capabilities and spend your time focusing on customers.
You also turn some of your fixed costs to variable costs, which reduces the risk associated with expansion. Through strategic partnerships, you can reach out to new locations without having to establish local operations or distribution, and can capitalize on another firm's established customer base.
Cash Flow Model
Cash flow is likely the most important thing you should consider as too often, small business owners overlook its effects on growth. For instance, if a retail or manufacturing business is paying for its inventory prior to selling it and collecting from customers, that business will require additional cash to support its inventory as it increases sales.
On the other hand, if that same business is collecting from customers before paying for its inventory, some of the sales growth can be financed through cash flow.
When preparing for growth, consider how your revenue model and operational model affect your cash flow and how changes in these areas might have an impact.
Also, consider things like using a factor (even though it is expensive) or paying suppliers on a credit card to help facilitate cash flow. The key is to understand this area so that you have enough cash on hand as you grow: one-third of businesses that fail do so in their year of highest sales growth from simply running out of cash.
To conclude, growing a business is not as simple as generating new sales. Your revenue model, operational model, and cash flow model are just three of the many areas of your business you should consider when determining how conducive your business is to growth. However, if you analyze these three aspects and make appropriate modifications prior to growth, you may be able to create a more scalable business and avoid some pitfalls that many entrepreneurs have encountered.
Jay Ebben, Ph.D., is an Assistant Professor of Entrepreneurship at the University of St. Thomas in St. Paul, Minn. This article was originally published in Inc.
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