Transcript Managing your business to make money – my experience

Managing a business to make money – my
experience
Talk at IISc – 17th Sept 2008
“When I was young I used to think that money was
the most important thing in life. Now that I am old, I
know it is.”
Oscar Wilde
Flow of the presentation
• What is a business and why should a business make
money?
• Capital in a business – it’s nature and role
• The “economic performance” of a business –
challenges in achieving it
• Increasing chances of “start-up” success – my
experience
What is a business and why should a business
make money?
What is a business and why should
a business make money?
Capital in a business – it’s nature
and role
The “economic performance” of a
business – challenges in achieving
it
Increasing chances of “start-up”
success – my experience
What is business?
• “giving someone what they need (or want) at more
value than what it cost you”
• Sounds so simple – so what’s the catch?
– You are not so sure what someone needs
– Someone is not so sure what she or he wants
– You cannot give it to them at more value than what it
cost you – what we will talk today
– Usually it’s all of the above
What is a business and why should a business
make money?
Sounds so simple – so what’s the catch?
 You are not so sure
what someone needs
 Someone is not so sure
what she or he wants
What is a business and why should a business
make money?
Sounds so simple – so what’s the catch? - II
 You cannot give it to
them at more value
than what it cost you –
this is what we will talk
more today
• Usually it’s all of the
above in different
measures
What is a business and why should a business
make money?
Why does a business need to make money?
• If you don’t then you cannot fulfill “giving someone
what they need” on a going basis, and no one’s
happy (your customers, employees, suppliers,
shareholders, bankers, the Govt. and yourself)
• If you do then you can “give someone what they
need at higher value to them” … and do more of that
to more people and everyone’s happy
What is a business and why should a business
make money?
So how does the virtuous circle happen?
• Value to the customer (measured as Sales or Revenues) –
value to you (measured as Costs) = Profits
• Profits invested back into the business leads to:
– More of profitable customers
– Improved value of the product or service
– Generally lower cost (economies of scale, scope, learning curve
effects)
• Profits not invested back into the business, but distributed
leads to:
– More money in the hands of shareholders leading to
– More spending / investing leading to more consumption or
more production
• Profits given as taxes improves our Govt’s functioning
What is a business and why should a business
make money?
Capital in a business – it’s nature and role
What is a business and why should
a business make money?
Capital in a business – it’s nature
and role
The “economic performance” of a
business – challenges in achieving
it
Increasing chances of “start-up”
success – my experience
How do you “…provide more value than it cost
you”?
Revenue > Cost; so simple that there have to be
many catches!
Capital in a business – it’s nature and role
The catch / es
• You almost always incur cost ahead of revenues
– Why?
– Any examples where the reverse happens?
• Often times the cost that you incur would need several years of revenue
to recover
– Any examples?
• Costs are almost certain, revenues are uncertain
• Costs have a tendency to accelerate faster than revenues and often
overtake
– "Anyone who lives within their means suffers from a lack of
imagination." Oscar Wilde
– “To make a million start with two million”
• Then there is competition that wants your business (or atleast your
returns)
– “Each person in a parade decides he can stand better if he can stand on his
toes”
So what does it all imply?
Capital in a business – it’s nature and role
You need money to start a business
• This seed money is called Capital
• Your business should then generate sufficient money
(called profits – or returns) for that capital
• Your job should be to manage the business to
generate such returns
• The cycle then continues for growing a business
Capital in a business – it’s nature and role
About the seed money called “Capital”
• Usually you will not have all of it and so will borrow this capital
from someone else
• Capital always comes in 2 forms:
– A promise to return the money borrowed along with its costs, is called
debt
– A promise to share the left over capital after debt, if any, is called
equity
– Any form of Capital is debt and equity mixed in certain doses
• So what is sweat equity, intellectual capital and other “nonmonetary” capital?
• The business and the capital required are structured into a legal
entity
– a proprietorship, partnership, company etc each entity bound by the
law in the way capital is used and your profits or income are shared by
the Govt
Capital in a business – it’s nature and role
The nature of Debt and Equity
• Debt is usually given after extreme assurance it will be
returned
– “A lender is someone who gives you an umbrella when it’s sunny
and will ask it back when it rains”
– The greater the assurance the lower the cost of debt
– Examples that highlight the above?
• Equity capital essentially means sharing a fraction of the
business (henceforth called company) with “shareholders”
– “A shareholder is someone who will help buy you an umbrella
but share it with you forever”
– In effect shareholders are your ultimate bosses
– Sharing the company is done by way of issue of “shares” against
the money
Capital in a business – it’s nature and role
Reality of getting Debt and Equity in India for startups
• Practically speaking Debt unless from friends and relatives is very difficult
to get for bootstrapped.
• Typically one would need security / cover for issue of debt for loans from
institutional bodies
• Equity is easier to get but you have to share a good part of the company
– Usually again from friends / relatives but at some scale would need
institutional bodies
• In any case you have the obligation to return and deliver returns on this
Capital
– The quality of a business is generally measured by Returns on Equity Capital.
– Even if you deliver good profits / profit growth, it will not suffice unless such
profits lead to “good” returns on equity capital
– Examples – retail business, hi-tech business, IT services business
• So comes the next question: How do you make your company deliver
these returns?
Capital in a business – it’s nature and role
The “economic performance” of a business –
challenges in achieving it
What is a business and why should
a business make money?
Capital in a business – it’s nature
and role
The “economic performance” of a
business – challenges in achieving
it
Increasing chances of “start-up”
success – my experience
How to deliver good returns on capital?
• Theoretical response:
– Ensure that you manage revenue and cost in such a
way that the profits earned is higher than expected
returns on capital
• Practical experience:
– It is so much easier said than done
The “economic performance” of a business –
challenges in achieving it
Business realities however complicate delivering
good returns
•
Revenue related realities
– A business, especially a new business is fully loaded with risks, i.e. a “chance that an
unwanted event threatens business”
• “If things can go wrong they will”
• Examples?
– Risks are generally higher on the revenue side:
• How do you estimate revenue for your business idea?
• “Astrology has finally met its match in Business forecasting”
• Examples?
– Generally revenue related risks are less in your control
• Intercept experience of competition and IE 6
• Examples?
– Unlike “unwanted events” , “fortunate events” i.e. events that aid the business will
likely not happen with the same probability for new businesses. If it does just seize it
with open arms
•
While you know there are risks you still have to place your bets
The “economic performance” of a business –
challenges in achieving it
Business realities however complicate delivering
good returns, Part 2
•
Cost related realities
– You need to incur costs “ahead” of revenues
• A good part of capital is deployed and running cost incurred before even a single paisa is
earned
– You also need to incur costs to “get” the revenues
• If you don’t get revenues you tend to spend more to get them, and can go out of
business
– Diffsoft example
– Examples?
– Costs, like slow poison keep expanding even when you don’t do anything!
• Cost is like entropy in the second law of thermodynamics
• A new business will suddenly realize that costs have bloated and overtaken revenues
– Controlling costs is very difficult but never hurts
– Costs are however generally more certain then revenues
• You can never be certain about that though
• Examples?
•
The big challenge lies in deciding where to spend and where to hold back
The “economic performance” of a business –
challenges in achieving it
Increasing chances of “start-up” success –
my experience
What is a business and why should
a business make money?
Capital in a business – it’s nature
and role
The “economic performance” of a
business – challenges in achieving
it
Increasing chances of “start-up”
success – my experience
So how do we increase chances of new business
success?
• Necessary and sufficient condition:
– Have lots of luck – true but inactionable!
• Necessary conditions
• Pre business
– Identify a business opportunity that has a large number of
potential customers
• Estimate demand all the while and keep refining
• Your business should deliver returns even with a 5% market share
after 3 years
– Keep thinking about how is your offering different and why
should the customer find “unique value”
• Concept of a Moat
– Expand your thinking of competition
• Examples
Increasing chances of “start-up” success – my
experience
So how do we increase chances of new business
success?
• Post business launch ( 1 – 2 years)
– Be very open to how reality is changing your
assumptions
• Both for the better and for the worse
– You can minimize risks and learn by “proofing the
concept” with as little cash as possible
• Examples
– Manage your cash flows to conserve and build as
much as possible
Increasing chances of “start-up” success – my
experience
So how do we increase chances of new business
success?
• Keep an eagle eye on finance while running your business
– Manage for cash till you have a steady of at least 3 – 6 months
of working capital covered
– Keep your cash flows under control
• Never have more than 60 days of receivables
• Try and get as much credit as possible from suppliers
• Work every cost down by atleast the rate of inflation
– Have sufficient margins (about 50% atleast) over and above your
costs to cover risks / profits.
– Be open to changing your business based on what you
experience
• Most businesses turn out different from what they set out to be
– Know and pay your taxes
Increasing chances of “start-up” success – my
experience
What are the skills I had to learn and unlearn
• Skills to learn
– Accounting
• Accounting is the language of business
• Understanding accounting and accounting standards
helps understand business economics better
– Soft skills
• Teamwork, building trust and developing
trustworthiness, an attitude to listen
• Skills to unlearn
– Moving from a yes / no way to a probabilistic outlook
Increasing chances of “start-up” success – my
experience
Thank you
For any inputs you think I can help contact me at
[email protected]