Why scaling a business is so difficult
Written by: Peter Messana - CEO
Scaling a business is very difficult. Many get to a level and then it tapers off and they struggle, especially if you aren’t funded by a Venture Capital group. I’ve been lucky enough to scale a bootstrapped company, a VC backed company, and now a Venture Equity backed company, each have their challenges but there is a common thread.
It’s difficult, very difficult.
I’ve stated the obvious but let me backup a bit. My brother and I bootstrapped a small retail company that we bought in 2005 and sold in 2015, we grew it 42% CAGR and sold it to a Private Equity company. Scaling a bootstrap business is super difficult, you don’t have excess working capital, every dollar we had was getting reinvested in the company, typically into inventory. The problem with scaling is people and money are typically not overly prevalent.
What happens to many businesses is that they get to a point where they are too big to continue the path they are on, but they don’t have the capital to hire the right team that they need. They are personally doing multiple jobs. I personally was the CEO, CFO, and CTO. That is not sustainable. But if you assume $200k for each C-Level, we didn’t have $400k in excess working capital, it was all invested in inventory. You either bite the bullet and hire on the “professionals”, or you stall or grow very slowly, which isn’t a problem if you are content with it as a lifestyle business.
I will be honest, in 2005 I thought I wanted a lifestyle business. But over time, my drive took over, bigger was always better and the race started to be number one.
This same pattern emerges with SaaS startups, it isn’t isolated to retail companies, especially where they are founder-run. They typically run to a point where there is a decision on lifestyle business or scale. Scaling is a tough decision, you aren’t guaranteed any sort of return, it is a large bet that many founders don’t want to make.
When you are VC backed you have the money to scale, but that doesn’t mean you know what to do, where to invest correctly. For instance, you should invest forward in Sales and Marketing but play catch up with operations and other areas. If for example Sales and Marketing is running at 15% of revenue, you would invest up front, taking that percentage up to maybe 20% and then wait for revenue to whittle it back down closer to 15% and invest again. On the flip side, for non demand aspects, you want to play catchup. We would watch operating labor, and if we wanted 10%, we would wait for it to get to 9% and then add. This allowed us to leverage the current workforce and gain efficiencies. If our engineering and product teams were doing it right, we could always do more with less so it was always leveraging slightly.
In retail, the golden egg was always inventory turns. We targeted 6 turns of our inventory and oftentimes operated in the 7-9 turns range, this freed up a lot of capital to invest in other areas. Times have changed quite a bit over the last 5 years, with many retailers not even holding their inventory and doing drop ships or leveraging Amazon FBA, and lowering warehousing investment and operating costs. In SaaS, it is gross margin, if you are efficient then you free up a lot of working capital to invest.
Whatever the type of business, the game is still the same, the cost buckets are just different. Scaling requires understanding where to invest, committing to that area, and having a plan on how to continue to add or when to pause to grow efficiently.
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