Last week, I met Arjun, a smart entrepreneur, working in a rural area.
Arjun is a second class science graduate who passed out in 2006. He joined a company in Nashik which designed and supplied water purification plants for industrial and domestic clients in urban towns to provide potable drinking water. He joined as a service Engineer who serviced these clients around Nashik. Because of the 'small' nature of the company, he got involved in everything: Selling it to client, designing a plant based on the quality of the input water, installing the plant at the client's site and then servicing the client after the delivery.
Because of his extensive reach in rural area, in 2009, he started his own unit of designing water purification plants for rural clients, which his company was not willing to service. Today, in 2012, he has a base of 80 clients growing at a compounded rate of 25%, with an employee base of about 6 graduates.
What was right about this business model which helped Arjun to stabilise his new company, with practically no upfront investment, in a span of 3 years? A business model with its two interacting loops - investment loop and resource loop - together determines the attractiveness and the unique challenges it throws to an entrepreneur.
Investment loop
Every business, be it running a running a mobile services company like Airtel, making and selling cars like Tata Motors, or running a company like Arjun's, primarily requires investment in two sides of a loop: To get a new customer ( i.e Customer Acquisition) and To service that customer ( i.e. Customer Delivery and Servicing). Both sides of the loop are co-related. For instance, servicing a customer, if done well, generates lot of 'repeat' sales with an existing customer or more word-of-mouth customers, which in turn reduces the need of investing in the customer acquisition.
Every business, be it running a running a mobile services company like Airtel, making and selling cars like Tata Motors, or running a company like Arjun's, primarily requires investment in two sides of a loop: To get a new customer ( i.e Customer Acquisition) and To service that customer ( i.e. Customer Delivery and Servicing). Both sides of the loop are co-related. For instance, servicing a customer, if done well, generates lot of 'repeat' sales with an existing customer or more word-of-mouth customers, which in turn reduces the need of investing in the customer acquisition.
When a new business is launched, an entrepreneur has to invest time and money to get new customers with a certain value proposition. For instance, Arjun's value proposition to his customer was " I will deliver you water purification plants at your location to convert your available water into potable water at the price of x". Sometimes you have to deliver higher value at higher price, or lower value at lower price. In other words, customers from different segments require different value proposition.
But, once the customer is found, he has to be delivered the 'promised' value. If the promised value ( be it low or high) is delivered, the customer is satisfied. Satisfied customers help you get more new customers either through word of mouth, direct referrals, or through endorsements. ( For instance, if a Sarpanch of a village installs a waterpurification plant, that becomes an endorsement!) In Arjun's business, he also had to service the customer after delivery, because the water purification plant may need repairing and maintenance. This after-delivery servicing needs more investment but also enables one to generate a constant revenue stream. Many businesses like selling soaps and stationary, for instance, do not need this servicing.
So when Arjun launched his business in 2009, he invested his time and money in getting new customers, but once he got them, he also had to invest in delivering and serving those customers. This is an investment loop which pulls entrepreneur's investment ( of time, money and resources) in two directions, often causing lot of agony for the entrepreneur.
When a business starts, in the initial period, the proportion of investment between customer aquisition and customer servicing is say, 70:30. As the business matures, the proportion shifts to 50:50 and further to 30:70. Different businesses have different dynamics though. For instance, in a product like colas, the proportion may remain as high as 60:40 even after maturity. While in a water purification plant of Arjun it may shift to 30:70, as the old customers start bringing in new customers. In Industrial products, manufacturing ancillaries of Automobile or two wheelers, it may be as lopsided as 10:90. In some businesses, huge investments may be required in both sides of the loop for a long long time. For instance, mobile service providers like Airtel and Uninor. Such businesses therefore make huge losses for a long time and must 'plan' for the losses !
For an entrepreneur to be successful quickly, investment loop has to be favourable. This means that the proportion of investment between customer acquisition and customer servicing should ideally shift from 70:30 to 30:70. (Please remember that 10:90 is not a favourable proposition, because it causes over-dependence on one customer. Witness the recession spiral in automobile ancillaries when automobile demand drops.) This is what happened in Arjun's case. With a small team, he naturally focused more on servicing existing customers. He was lucky to have no competition during this time. If he had competitors, his new customers would have been captured by them. But, as he had no competiton, he could wait for old customers to fetch him new customers. This time allowed him to deepen his skills and capabilities in Customer servicing, which in turn allowed him to get new customers. Once he started generating 'surplus' (not profit), he could then invest in increasing his team size, which in turn allowed him to spend more time and money in new customer acquisition. Now the investment loop was favourable for Arjun.
Resource loops
Arjun was also lucky to have another favourable loop: the loop of training new graduates> retaining them once they are skilled to get returns from them. Many entrepreneurs suffer from this unfavourable resource loop. They get raw resources ( graduates), train them, and once they start delivering the revenue, these trained graduates leave because they get better compensation for their skills in the skill-market. In Arjun's case, this did not happen due to several reasons. One, skills required in his team were not of very high order. He could therefore hire new graduates and make them do 'routine' parts, and slowly learn the 'difficult' parts. Two, because there were not many competitors in water purification sector, these resources stayed with him for three years, which was enough for him to get his investment loop running. (This year, Arjun has lost one key trained resource!) Morever, as he picked up 'rural graduates', they tend to stick to 'known company', rather than find another 'employer'.
Summary
In the initial period of starting a business unit, an entrepreneur has to be smart enough to make these two loops favourable for him: One is the Investment loop and another is the Resources loop. Almost all business models have unfavourable factors that make them less attractive; they have to be made attractive by the smart entrepreneur.
The investment loop may be unfavorable because of external factors: high competition for the same customers, or inability to reach customers at low cost because customer is fragmented, or because the investment required in servicing is too high or the customer payment cycle is too long. Or it can be unfavorable due to internal factors such as inadequate resources even to do the basic work, insufficient investment even to accomplish one side of loop such as customer acquisition, and inability to understand the dynamics of the loop.
Similarly resources loop can be unfavorable because of external factors: competition in skill-market, alternative choices for the resources, time required to train the resource is too long. It is unfavorable due to internal factors: Inability to share revenues with key resources, inadequate understanding of how to do the training when the skill is difficult, or insufficient use of processes to manage the delivery ( thus making the delivery prone to many costly errors). More often than not, it is the resources loop which pull down the entrepreneur.
A smart entrepreneur intuitively understands the dynamics of these two loops to survive the initial difficult stages of an enterprise. If an entrepreneur fails to read these signals, no amount of intelligence and willpower can help him. If however, he is able to 'read these loops' in his business model, he not only can survive the initial growth pangs of a small company, but can grow the enterprise rapidly.
How is your business model?
When a business starts, in the initial period, the proportion of investment between customer aquisition and customer servicing is say, 70:30. As the business matures, the proportion shifts to 50:50 and further to 30:70. Different businesses have different dynamics though. For instance, in a product like colas, the proportion may remain as high as 60:40 even after maturity. While in a water purification plant of Arjun it may shift to 30:70, as the old customers start bringing in new customers. In Industrial products, manufacturing ancillaries of Automobile or two wheelers, it may be as lopsided as 10:90. In some businesses, huge investments may be required in both sides of the loop for a long long time. For instance, mobile service providers like Airtel and Uninor. Such businesses therefore make huge losses for a long time and must 'plan' for the losses !
For an entrepreneur to be successful quickly, investment loop has to be favourable. This means that the proportion of investment between customer acquisition and customer servicing should ideally shift from 70:30 to 30:70. (Please remember that 10:90 is not a favourable proposition, because it causes over-dependence on one customer. Witness the recession spiral in automobile ancillaries when automobile demand drops.) This is what happened in Arjun's case. With a small team, he naturally focused more on servicing existing customers. He was lucky to have no competition during this time. If he had competitors, his new customers would have been captured by them. But, as he had no competiton, he could wait for old customers to fetch him new customers. This time allowed him to deepen his skills and capabilities in Customer servicing, which in turn allowed him to get new customers. Once he started generating 'surplus' (not profit), he could then invest in increasing his team size, which in turn allowed him to spend more time and money in new customer acquisition. Now the investment loop was favourable for Arjun.
Resource loops
Arjun was also lucky to have another favourable loop: the loop of training new graduates> retaining them once they are skilled to get returns from them. Many entrepreneurs suffer from this unfavourable resource loop. They get raw resources ( graduates), train them, and once they start delivering the revenue, these trained graduates leave because they get better compensation for their skills in the skill-market. In Arjun's case, this did not happen due to several reasons. One, skills required in his team were not of very high order. He could therefore hire new graduates and make them do 'routine' parts, and slowly learn the 'difficult' parts. Two, because there were not many competitors in water purification sector, these resources stayed with him for three years, which was enough for him to get his investment loop running. (This year, Arjun has lost one key trained resource!) Morever, as he picked up 'rural graduates', they tend to stick to 'known company', rather than find another 'employer'.
Summary
In the initial period of starting a business unit, an entrepreneur has to be smart enough to make these two loops favourable for him: One is the Investment loop and another is the Resources loop. Almost all business models have unfavourable factors that make them less attractive; they have to be made attractive by the smart entrepreneur.
The investment loop may be unfavorable because of external factors: high competition for the same customers, or inability to reach customers at low cost because customer is fragmented, or because the investment required in servicing is too high or the customer payment cycle is too long. Or it can be unfavorable due to internal factors such as inadequate resources even to do the basic work, insufficient investment even to accomplish one side of loop such as customer acquisition, and inability to understand the dynamics of the loop.
Similarly resources loop can be unfavorable because of external factors: competition in skill-market, alternative choices for the resources, time required to train the resource is too long. It is unfavorable due to internal factors: Inability to share revenues with key resources, inadequate understanding of how to do the training when the skill is difficult, or insufficient use of processes to manage the delivery ( thus making the delivery prone to many costly errors). More often than not, it is the resources loop which pull down the entrepreneur.
A smart entrepreneur intuitively understands the dynamics of these two loops to survive the initial difficult stages of an enterprise. If an entrepreneur fails to read these signals, no amount of intelligence and willpower can help him. If however, he is able to 'read these loops' in his business model, he not only can survive the initial growth pangs of a small company, but can grow the enterprise rapidly.
How is your business model?
