This week’s guest blog by Moira Vetter originally appeared in her blog for Forbes. In it she discussed the ‘three-legged’ test that entrepreneurs should consider to make sure they have a profitable growth strategy.
Let’s say your business has been humming along, you’re enjoying healthy success and market share, and the time seems right to pursue new growth channels. It’s natural to want to build on the momentum generated by a product, service or brand that’s gaining traction. But before you forge ahead with an expanded list of customer targets and a tailored offering to match, stop and consider one very important question: Is this a profitable growth strategy?
Make sure your growth strategy passes the ‘three-legged’ test. By that I mean look at revenue generation like a stool with three legs. You need target markets, product offerings and profitability, or the whole thing crashes to the ground. There’s a tendency for entrepreneurs to overlook that third leg of profit when deciding how to approach growth. The reality is, ‘more’ is only ‘better’ when the numbers work and are sustainable.
Following are growth strategies that make sense when the proper diligence is applied to ensure that revenue generation and profitably are well balanced.
Selling to a new vertical market. There can be a high upside if you’re looking at verticals similar to where you currently play—for instance, expanding from physician practices to other types of professional services firms such as insurance or financial services. Much of the work you’ve put into developing the original product or service probably still applies; you’re just refining some particulars and marketing to someone new.
But for some industries and offerings, entering new vertical territory might not be worth the effort and expense. What you did with 5,000 retail banks might not be possible to replicate with a universe of only 50 utility companies. Or, you could find that a firm that appears to have a similar model has far more compliance concerns or special needs that would require you to do more modifications to your offering than you had projected. Consider the cost of modifying your offer, the cost of acquisition and the cost of servicing any vertical you are considering. Answering these questions can ensure your new revenue is worth the costs to prepare you for the new vertical market.
Selling upstream. Don’t presume that larger clients will always result in higher sales value. Selling to a $25K customer is not the same as selling to a $250K one.
For starters, it’s a completely different sales process, and will likely require more interaction with your senior management, additional training for your team and possibly the addition of new, well-seasoned hires. Secondly, the presumed ‘higher value’ client may be anything but that. Larger companies have supreme negotiating power and have purchasing down to a science. I know several firms that ended up doing free work for some of the biggest names in corporate Atlanta. The blue-chip name definitely looks great on the client roster, but you must know the cost to your bottom line.
The good news is that if your offering is a relatively low cost, low-maintenance solution, you may find that large clients are ideal targets. An example might be a productivity application that you sell by the seat to companies with 10 or 15 users, that can now be sold just as easily into companies with thousands of users.
The delicate balance in working with large clients is clarifying whether they are expecting goods and services or whether they are expecting a vendor partner. If they are seeking a product and your offering is scalable, that’s great. But if they’re engaging you as a strategic partner, your current staff may not be as scalable in supporting the needs of a major account. Understand all the costs of moving upstream and how quickly you can cover them before you try to swim against the current.
Selling downstream. Some businesses see potential in selling to a large number of smaller businesses at a lower price point. This may be a great way to boost your customer rolls by the hundreds or even thousands, but only if you can truly deliver profitably at the lower price. Really scrutinize the math and factor in the potential extra support that might be required of smaller customers. Implementing your software in a large business that has a dedicated IT staff might be far more efficient than an installation at a small retail outlet where users may have less technical knowledge or staff resources to call on. Those smaller customers will logically turn to you, and if you haven’t factored these costs into your offering, you could see profits rapidly chip away.
Typically entrepreneurs that sell downstream successfully, and with good profits, have a more basic, stripped down model of their flagship products with more do-it-yourself workflows built in. Eventually something like this may be a natural for you to gain greater market penetration but you will have to invest in building the do-it-yourself tools, FAQs or an online community if they don’t already exist. Make sure you’ve factored these costs in when moving down market so that your profits aren’t flushed downstream with you.
Introducing an ancillary product to existing customers. You know what they say—it costs more to gain a new customer than to keep an existing one. You might consider putting capital and manpower toward expanding your product or service portfolio within your current base, particularly as a way to protect market share if you sense competitors are broadening their offerings. As a revenue growth strategy, this can be hit or miss depending on how you’ve done your math.
If you expect to introduce something with much higher prices, you may get resistance from existing customers used to working with you at a certain price point. They may simply not have the capital to add a $10,000 product if they’ve been spending $1,000 with you. And price point aside, consider how your cost of delivery might have changed since the last time you introduced a product or service. What will the impact of development costs be on your cash flow? If it has been a few years, everything from contract labor to taxes to healthcare to office space is probably significantly higher. Even in a purely service oriented business, you’ll need time to ramp up and perfect your offering before taking it to the market. When expanding with existing customers make sure you understand the costs they will spend and the costs you can bear to ensure that a profitable offering exists that can serve you both.
Run your race with all three legs—markets, offerings and profit
Entrepreneurs that focus on markets and offerings when projecting revenue—without analyzing profit—can get a nasty surprise. A sharp uptick in sales will mean nothing if your customer acquisition cost is too high, the sales cycle is too long, your margins are too compressed or the potential customer base is too small to be sustainable over the long term. While you may have a better mousetrap than your competitors, that alone will not be enough to outrun other, well capitalized companies. Especially if they are running with all three legs and you’re only focused on two.
About the blogger
Moira Vetter is Frazier & Deeter’s Entrepreneur guest bloggers. She is also the founder and CEO of Modo Modo Agency. She didn’t get serious about business until third grade. That’s when she figured out how to work the cash register at her dad’s pharmacy. Thirty years and hundreds of clients later, her marketing counsel generates revenue for dozens of profitable brands. Her book, “AdVenture: An Insider’s View of Getting an Entrepreneur to Market” is available on Amazon.com.