Monday, 19 December 2011

When startups are really multiple businesses

There are all sorts of traps that lie in wait for people starting a small business.  I've written a bit already on strategy and on bad reasons to start a small business, but now I want to talk a little about the scope of a small business idea, and why it's important to not take on too much at once.

See, a few years ago, before an MBA was even remotely on the horizon for me, I was reading through a book called Growing a Business by Paul Hawken. I don't quite remember why I was reading it, but it was one of the first influences that started me thinking about business. One concept from that book in particular that has stayed with me ever since has been to start only one business at a time.

Multiple businesses

So many times I've encountered fresh startup ideas from entrepreneurial types that incorporate multiple businesses in their pitch.  Most people don't even realize that that's what they're trying to do. They just combine ideas, trying to find something that will be unique, or will save them money, but it ends up being more than can be reasonably handled.

The example that Growing a Business used was that of a farmer who wanted to slaughter his animals himself to save money and sell the meat at a stand by the road.  This would be opening three businesses at once: A farm, an abattoir and a retail butcher shop.  All of these businesses require very different skills and capabilities and could easily overwhelm the farmer. I've seen my own examples too, including:
  • Aspiring authors who self-publish their book
  • A coffee shop or restaurant that also sells fine artwork on consignment
  • A restaurant that also does catering
Just recently I found someone on the Internet who had programmed a database with details on retro computer games. He wanted to make a business that offered access to this database, a portal that allowed people to access multiple online communities to discuss the games, and an auction site that would be like eBay with a different auction feedback system.  Talk about biting off too much at once!

Why is starting multiple businesses a problem?

  1. It's too much to do
  2. You are up against too many competitors
Running a business is all about matching resources and capabilities that your business has to customer needs in the marketplace.  When a business is starting, it has zero capabilities and very limited resources. Everything has to be developed or purchased and that takes a lot of effort.

Let's imagine, for example, a new magazine company that is starting that also wants to open their own retail magazine stands to sell directly to customers.  This way they don't have to pay a distributor and can get a higher percentage of the profits.  Well to produce a magazine people will read requires:
  • Stories and journalism
  • Photography and graphics
  • Layout and typesetting
  • Administration
  • Marketing
  • Printing
  • Distribution
To open retail stands requires very different capabilities including:
  • Finding locations
  • Hiring vendors (HR)
  • Constructing kiosks
  • Supply chain management
  • Processing payments
And any number of other capabilities.  This is a huge mountain of work and would take dump trucks full of money to get going.  In addition, now instead of competing with other magazines for sales, the company is also competing with other magazine sellers as well. This type of startup would likely not last very long at all.

Oh, and did I mention my new fire extinguisher and used footwear mail order?  

I have such good business ideas
I call it SmoulderFoot!

Questions to ask

At first glance it might be hard to tell if you're actually starting multiple businesses or if you just have a unique offering. To be able to tell, ask yourself these questions:

1. Is my business idea actually just a vertical integration of a traditional business?

Vertical integration is when you are your own supplier or your own distributor.  This is what was going on in the example of the magazine company who wanted to have their own retail stands, or the farmer who wanted to butcher and sell his own meat.  Vertical integration is a way of reducing costs and keeping a larger percentage of profits.

2. Is it possible to split my business idea into two ideas that need different capabilities to run?

If you are a retail hardware store selling hammers and nails. That's still one business.  If you split it into two, a hammer store and a nail store, both stores require the same capabilities.  Purchasing supplies, having a location, selling supplies, etc.  If, however, you have a coffee shop that sells art on consignment, and you split those two ideas up, the differences in the two businesses become more obvious.  There are differences in obtaining supplies, in tracking inventory, in the way items are sold, in the price points what is for sale, and in what the customers want. 

3. If I split my business idea into two ideas, would they appeal to different customers?

Again, a hammer store and a nail store will attract the same types of customers.  A restaurant and a catering company will attract very different customers.  Trying to market to two types of customers at once is a strain on your marketing.  It's often not appropriate to reach everyone with one business, so rather than adding to the business, start with a segment of the market, and establish the company first.

If you have answered yes to any of these questions, you are trying to start a corporation, not a business. Vertical Integration, or diversifying by having multiple product-markets is not a bad thing, and are in fact examples of corporate-level strategy but if you don't start with a simple business, you will never get to the point where diversification will work.


Anonymous said...

Great insight! Love the "smoulderfoot!"

Anonymous said...

good piece of writing. I like how the conclusion brings in some theory from MBA 622 - Business Strategy ( in John Molson School of Business )that relates very well to the overall article!

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