The 3 M's of Starting a Business
You've got a great idea for a business. But before you manufacture that product or set up your ingenious new service, you need to do your homework.
So says Elizabeth Thornton, chief diversity officer at Babson College, and president and CEO of training and consulting firm The Entrepreneurship Advantage. Thornton addressed some of the same issues in an IBM webcast during Global Entrepreneurship Week in November.
Thornton discussed what Babson calls the "three M's," beginning with:
1. Market demand. This involves understanding the customer. Thornton posed several questions a would-be entrepreneur has to answer:
- Who is your target customer?
- What is your value proposition?
- How strong is his pain point?
- What value do you provide that will make the customer buy your particular product or service?
"That's what you've got to get really clear about," Thornton says. "You really have to be very objective about trying to evaluate who's the right target market and what's going to provide them with a willingness to pay for your product above all other products that might satisfy the need in a similar way.
"Just because you think it's a good idea--that you might pay for it--doesn't mean that everyone else will," Thornton says. "You've got to quantify the number of people in your particular market."
To find that data, don't ask your friends, Thornton warns. You won't get an honest response. Instead, get creative. Depending on your product, you might approach people at the mall, at the gym or at Starbucks. You also could create an online survey using SurveyMonkey.com. and send it to whatever group you think would give you a valid response, Thornton says.
She cautions, however, that you can only trust a survey to a certain extent. "People will say, 'Yeah, I'll buy it.' But when it's time for them to have a choice between your product and something else, are they going to choose your product?"
Bottom line: Be really clear that this is something people are willing to buy, Thornton says. It has to be something they need and can't get from other places, and it has to be sustainable over time. Once you define your market and how your product or service fits that market, you'll be ready to tackle the next "M."
2. Market size and structure, which focuses on the industry itself.
Is it an emerging industry or a declining industry? Is it a fragmented or a concentrated industry? Thornton suggests you have a higher probability of success if you're in a fragmented industry because more players means more opportunities to differentiate your business.
Here are the questions you need to answer:
- Who are your competitors?
- What are they offering their customers?
- To what degree can you provide something different that's going to allow you to capture market share from this industry? What's your sustainable competitive advantage against all others?
Don't think your product is so new or unique that you won't have any competitors, Thornton warns. "You always have competition. And you need to find out who your competition is, even in a local market."
You have to differentiate your product by adding some sustainable competitive advantage, so customers will switch from where they're getting their product now, she says. Knowing market demand, size and structure, you'll be able to home in on the third and final key to your startup.
3. Money. How much is it going to cost me to produce this product or service, and can I charge enough so that I can make money?
"At the end of the day, your revenue minus your cost of goods should be around 40 percent or more," Thornton says. "You want to have at least a decent gross margin because you need to be able to fund your operating expenses out of it."
A corollary to that is how much it will cost to start the business. Suppose it's going to cost $10,000, but you just lost 20 percent of your portfolio. Can you afford to put $10,000 into this venture? "So looking at your startup expenses is part of the margin analysis when you're evaluating the opportunity," Thornton says.
Money considerations are not to be taken lightly, Thornton emphasizes. "The No. 1 reason businesses fail in my mind is because they run out of money," she says. "It takes longer than you think, it's a lot harder than you think, it costs more than you think, and people might want to pay less than you think. All those things are going to impact your bottom line."
The reality is that it's likely to take months before you generate any revenue.
Let's say it's Day One of your business. You might spend the first 60 days filing papers, printing business cards and building a website. The next month, you're going to networking meetings and making contacts, but you have no sales. "Here you are, 90 to 120 days out, and you still haven't generated any revenue," Thornton says. "A lot of entrepreneurs will underestimate how long it will take to start their business and actually generate a dime of revenue. So I always recommend, if you cannot support yourself for at least a year--if you don't have that in the bank--then you're putting yourself at risk."
Especially in today's volatile economy, "give yourself the opportunity to be flexible, because market forces change. You have to have enough stamina from a cash-flow perspective to be able to ride those waves, be flexible, execute intelligently in the moment, and try to seize and shape the opportunity."
Even if you can sell the product on Day One, Thornton says, it takes time to produce and ship it, and then wait for payment. "They might pay in 60 or 90 days. Even when you're selling a product and generating revenue, do you have enough cash flow to be able to collect the receivables and be able to sustain your operation?" Thornton asks.
Understanding cash flow is even more critical today, Thornton says, because access to credit isn't flowing as well in the economic downturn. "So today they have to be even more discerning, and really understanding what their cash flow needs are" to sustain the business through the launch."
That's especially true for women entrepreneurs. Research confirms that women have a more difficult time getting access to capital and contracts. "Networking becomes increasingly more important," Thornton says. "Having relationships with the decision makers in every single account and developing those ahead of time becomes important. You've got to call that person, you've got to meet that person--they need to be able to connect with you in a way that's not the traditional way of doing it. Women have to leverage a different approach to business because there are obstacles."