ULTIMATELY, THE STORY OF HOW you started a business is not as captivating as the story about how the business took off, grew, and became successful. People who take great interest in my entrepreneurial story always ask questions aimed at uncovering deeper details about its development. What they really are asking, whether they realize it or not, is “How did it scale?” In this chapter, I’m going to answer that question, in some detail.
Scaling is how an organization grows by becoming more efficient and profitable as it generates more business. Simply put, the business is able to take on more orders or produce more product, without eating up the additional profits by adding additional resources. Scaling is at the heart of the matter and, along with leadership and innovation, it is one of the three primary responsibilities of the entrepreneur in the Running phase.
In this chapter, I’m going to give you a detailed look at the ways we scaled TRC. Every business is unique in the ways it can and must scale as it becomes a mature and fully functional venture. By sharing the details of TRC’s scaling process, I’m hoping to give you a frontline account of how one organization managed its growth in order to gain profitability and enhance its valuation. First, we’ll look at the importance of building scaling into your business plan, so that every aspect of your growth and innovation is managed within the umbrella of the overriding goal of scaling the business for increased profitability and market share. Next, I’ll describe how TRC used scaling as a tool for growing its business and for honing its competitive edge. Finally, we’ll explore the importance of scaling your skills as an entrepreneur as you expand your leadership focus and wield innovative strategies and tactics in order to keep pace with the demands of your maturing business.
Scaling isn’t something that happens by accident. You need to carefully plan for scaling and build specific scaling milestones and metrics into your original business plan and strategy. Creating an effective plan for scaling requires vision, as you must anticipate how your entrepreneurial idea will meld into a business that grows from a freeform startup into a sophisticated collection of processes and systems. Because this process requires advanced capabilities in planning and foresight, you may not have all the answers about how to scale your business while you are in the planning stage; nevertheless, you do need to develop a general conception of the model at that point. Generically, your plan for scaling should include techniques and timetables for establishing business systems, incorporating technology, and utilizing capital.
Below are four components of TRC’s original business plan that I used to scale the operation:
As you can see, our plans for scaling the business focused first on making investments in people, with investments in technology coming in at a close second. Expanding our office space, improving operations, and buying technology all went into the effort to scale.
TECHNOLOGY AND SCALING
Technology can be a significant tool for scaling by replacing human efforts, increasing efficiency, and decreasing time involved within systems. Think of your systems as the major arteries that run through your organization and connect its vital functions. Tasks are subsets of processes that form these larger systems. You will build this infrastructure with the resources on hand, and it will mature as budgets, experience, and technology dictate. Because all of these factors are dependent on available capital, you can expect to go through several phases of scaling as your systems evolve to become more sophisticated and your resources become greater.
We’ve discussed how change is constant for the entrepreneur and that you either drive change or are forced to react to change. It is likely any business will be on either end of the change spectrum during its journey. Two significant examples of TRC reacting to and driving change helped set the stage for our ultimate success—though we really did not realize the impact until our eventual exit.
TRC was dependent on cooperative advertising to generate our marketing materials. Using manufacturer dollars was like being able to market for free. Obviously, we needed to generate sales in the manufacturer’s product line in order to keep the co-op dollars flowing. When cooperative advertising started to ebb, it was a glaring sign that things were changing for TRC and the industry. We had to adjust our strategy.
Many of our competitors didn’t recognize the bigger picture behind this change. The manufacturer’s shift away from co-op advertising wasn’t just about fewer advertising dollars being spent; dealer margins were retracting, too. More competitors were entering the higher ed market, and most relied on replicative rather than innovative business models. Every dealer was focused on selling the same brands and the same products because that was the nature of the reseller business—to fulfill rather than generate demand. Our customers knew what they wanted and simply needed a place to buy it from. In that scenario, the only differentiator became price, and the products we sold were quickly commoditized.
Manufacturers started to realize that no matter how many ad dollars they threw at their resellers, those resellers would continue to sell the manufacturers’ products at pretty much the same rate they always had—except for a rare few. TRC was among that group of higher achievers because we had built our practices around customer needs and established a reliable brand. But the industry was going through a period of significant change. Since most IT manufacturers were public companies or were striving to issue an IPO or a buyout, they faced mounting pressures to grow. At the same time, the Internet was gaining stature, and manufacturers began shifting marketing dollars from legacy dealer catalogs to the Internet. Most dealers didn’t have programs to attract co-op dollars to support web activity. As TRC and the industry matured and our inside sales force grew, more of our sales were being generated from customer relationships and the web than from direct mail efforts.
This industry shift sent a message to me that was loud and clear: TRC had to retool. We had to move away from catalog distribution to the web. We decided to completely stop producing a catalog by 2004, and we were the first in our industry to make this move. It was a scary decision. Our catalog had always been our lead-generation system and a central component of our business model. Further, the decision came with a human cost. The role of the product manager, which had been core to our success as a reseller, was now obsolete at TRC. Unable to reallocate the entire staff that supported catalog operations, I had to eliminate some of these positions. These employees had done nothing wrong, and they were tremendously talented and hardworking individuals. But times had changed, and TRC needed a new skill set—fast!
This bold move was something I was driving based on my strategy and instinct. I had learned a lesson from our past: that growth and success were likely to follow proactive changes we thrust upon the market rather than reactive changes imposed by the market on us. For instance, in the early years of the dot-com era, new competitors that had never before been in our channel were emerging rapidly. Some of these competitors were selling products at or below our cost. We cried foul to our distributors and to the manufacturers for granting these players such special pricing. Their response was that there was no special pricing; our cut-rate competitors had the same structure as everyone else. It took a long while for us to realize that these lower-than-cost competitors weren’t in business to sell technology; they were in business to sell advertising. The low prices were used just to bring people to the website. Our customers, of course, didn’t care why the prices were low, and they began demanding the same price from TRC.
Scrambling to react, I had to come up with a defense—and defense and react are two words I never like to use when it comes to business strategy. This development clearly revealed that I wasn’t innovating or forcing change adequately at TRC. I was reacting to change, which, as you learned in chapter 11, meant I was in a bad pole position—behind the pack.
As my understanding of the model expanded, however, I formulated a strategy to respond. First, TRC would focus on our unique strengths, which lay in our great service and product knowledge. These new web players knew nothing of the technology they were selling; they were merely posting SKUs for a price. Their customers were advertisers, not the consumers buying product from them. Second, we would ride it out. Who knew how long this would last? These companies were competing strictly on price, and that is rarely a winning strategy.
TRC’s strategy, however, proved very effective. TRC scrapped its first custom-built e-commerce platform to shift to new, less expensive, and highly customizable development. That change enabled us to build an e-commerce platform around the unique needs of our niche audience, while many of our competitors built systems aligned with the rigid needs of their own internal legacy systems. Customers started turning to TRC in frustration over the unanswered phone calls, slow shipments, and poor customer service they’d experienced in their dealings with the web price-warriors. Few of our new online competitors were offering credit payment terms or a suitable return policy. By continuing to focus on what we did best and holding steady rather than copying our competition, we emerged from this threat. Indeed, we continued to have record sales, and those competitors silently disappeared in the course of a year.
TRC was a bit lucky that our reaction to the new breed of low-priced competitors became a successful strategy. The lasting success from our deliberate intention to abandon direct mail and to move from a basic accounting package to a mid-tier ERP software system that would manage and coordinate all the operational, informational, and process-oriented functions of TRC proved to be the proactive strategic win that would have a lasting impact. We invested in a system much larger than we needed, but that we fully intended to grow into. We designed our e-commerce and shopping functionality to draw directly from this new ERP system in ways that were innovative to our customers’ needs—something that would take our competitors years to duplicate.
As you work to grow your business bigger to gain a sense of stability and security, other factors can make it even more vulnerable, and credit is one of them. There were three primary factors that kept the credit flowing and growing for TRC: our balance sheet, my integrity, and TRC’s relationship with suppliers. With no exceptions, our balance sheet had to be sound in order for our partners to continue taking our orders. I wouldn’t say our balance sheet always was stellar—after all, we were in a low-margin business. But our balance sheet was always respectable. By making sure of that fact, my reputation for integrity grew, as did my supplier relationships. Keeping all three of those important measures intact isn’t easy, but it’s essential for your ability to scale your business successfully. The larger and faster your company grows, the trickier this balancing act becomes.
With sales exceeding $10 million and then $20 million, TRC generated a predictable flow of monthly business, but we still were on thin ice. Any interruption in our credit capacity, which was essential to fulfilling those orders, would trigger an immediate backup of orders that could result in a shutdown of our business. As an entrepreneur, you’ll find that even when your suppliers are saying, “No more orders until you pay down your balance,” your customers will continue to buy, thanks to your lead-generation system. When that happens, orders start to pile up, customer complaints rise due to late fulfillment, orders get cancelled, and your business enters a tumultuous time.
The bootstrap model worked for TRC because we experienced rapid and continual growth that funded the business. Monthly cash flow came strictly from our monthly net income and cash received from outstanding accounts receivable from customers. We monitored the recurring costs of phone charges, utilities, rent, and other operational expenses under a microscope. Working with the monthly cash flow we received at TRC, my wife and partner Lisa would do her juggling act, closely reviewing our outstanding accounts payable to decide what bills had to be paid. Every single month for 10 years this dance went on, and Lisa was the lead.
The art of juggling accounts payable is nothing new, but Lisa’s skill was truly something to marvel at. Approximately 92 percent of our customers were given credit to pay their invoices in 30 days. This was customary and a requirement in our market selling to schools. Often our invoices required approval at monthly board meetings and then were routed through the school’s own operational process. That made it difficult to get an invoice paid within 30 days. The normal float would be more around 35 days, but some would take even longer.
What further strained our float capability was the growth TRC was experiencing. Each month larger orders were being placed with our suppliers. The average order size was rapidly growing and significantly increased once we focused on volume software licensing. The once-unusual orders of $l00k, $300k, and $500k were starting to become routine, and they hampered our credit. Add to that the costs of adding new employees, the six-month ramp-up time until they were profitable, and ongoing payroll concerns, and you have a lot of balls in the air. TRC always made payroll, although Lisa can confess to several sleepless nights spent wondering how that was going to happen. However, cash flow alone couldn’t continue to sustain TRC through its Running phase. Without credit, we would have shut down.
TRC’s rapid growth rate required our distributors to increase their own credit lines with us. The financial guys at these outfits would pour through our financial statements using a time-tested method that would calculate ratios to determine the amount of credit they could supply based on our cash flow, outstanding accounts receivable, pending obligations, and assets. Our accounts receivable balance would stay fairly consistent, and our customer base held a very low risk of default. However, we were now coming to our distributors with larger and larger orders, some topping a million dollars. Because there was no credit limit set for us to do those types of orders, our vendors had to get creative, and I had to sell like crazy—but to them, not just to our customers.
Still, the pace of TRC’s growth rapidly outstripped any new credit we obtained, and I increasingly turned to personal credit cards to supplement payment for supplier purchases. Most of our suppliers accepted credit cards and did so out of their own necessity to extend credit risk without interrupting continual customer orders. We had 12 different credit cards with varying levels of credit, all in either my name or Lisa’s, and we paid all of them, in full, every month. I was adamant about not incurring finance charges as that would have lowered our profit margins. I monitored our profits like a hawk, and literally fought any internal or external influences that eroded them.
As your business grows, you, too, will need to find ways to grow your credit without eroding profits in order to continue to scale your business. At TRC, we continually worked with our distributors to increase our credit limits throughout the life of the company. I quickly learned, for example, that I could artificially increase my credit by finding more suppliers willing to provide credit—although that could only take us so far, based on the outstanding payables on our balance sheet. The trick was to continually give more business to a supplier and pay that supplier on time (or as reasonably close to on time as possible). We could source much of the same product from multiple distributors and take advantage of various credit lines in that respect. Our continued growth kept straining the process, however, as we would pay a balance in full on one day and then completely use up our credit limit again the next day. The only relief came from the seasonality of our business, which allowed our credit time to catch up during the slow months from November through February.
Gaining this kind of support from your creditors and customers requires that your business be built on and maintain a strong reputation for ethics and honesty and impeccable business systems and records. Requesting credit extensions from TRC’s top suppliers became standard operating procedure during our peak season. Our suppliers had seen growth like ours in other resellers, and they wanted to ride those horses. Reviewing our financials, suppliers would understand our need to reinvest earnings into the business, but closely followed key metrics to monitor and ensure things were not getting too out of control. Ultimately, it came down to trust. It was everyone’s job in the company to ensure we maintained a good partnership with our suppliers, and it was my job to lead by example and establish the highest levels of personal and business integrity. That’s an important piece of the puzzle in growing any business. You can’t be so focused on yourself and your business that you disregard or take advantage of those you partner with. Remaining outwardly humble is paramount for successfully scaling your business during these periods of outsized growth.
INDUSTRIES CREATE SOLUTIONS TO AID GROWTH
To fuel our growth and the increasing size of our transactions, TRC used a major weapon that was fairly unique to our industry. A credit vehicle called “flooring” provided a revolving line of credit on purchases made through our major distributors. Born out of financing in the automotive industry, flooring was a separate and much larger line of credit, provided through major banks, that would grant 30–45 days on purchases made at participating distributors. Whereas a distributor granted $100,000 in credit, flooring could provide $400,000. Of course, distributors gave up a portion of their margin to provide flooring as a way to reduce their exposure and credit risk. There was no cost to TRC or other participating dealers. Flooring was great for TRC, but not such an attractive business for the banks. It was extremely low margin for the banks, and we found ourselves regularly having to find a new flooring source as institutions would abandon the market in search of higher-margin opportunities. In spite of the upheaval and administrative work to establish a new flooring company, we were always able to do so, and that kept our business humming at a very low expense.
As I worked through the Running phase at TRC, I gained a fresh vision for what my company was truly meant to be, and I instituted more changes in our operation. As you’ve already learned, one of our first decisions to scale the business was to stop selling everything under the sun and focus on software. When I started TRC, part of the pitch was “over 50,000 products at the lowest prices.” Maintaining 50,000 items on our website proved to be impossible and cost prohibitive. Above all, we didn’t sell all 50,000 products; we only sold a sliver of that, and that sliver was made up of software.
My next decision was to put all of our resources and focus into being the most knowledgeable source for volume software licensing in the academic market—a process you read about in the preceding chapter. It was no accident that our strength would be in software sales since that’s where I got my training. As much as I wanted to grow by having customers think of TRC for all of their technology needs, our talent resided in software. My skills as a leader and visionary were growing along with my business, and so was my ability to hone and focus my attention and to guide TRC’s efforts and growth. As you grow in your role as an entrepreneurial leader, you’ll need to remain poised and ready to adjust your business model and processes in order to continue to scale your organization.
Successful scaling doesn’t always look like expansion; in fact, refocusing can mean reshaping and even downsizing specific areas of your operation. It’s important, therefore, that you learn to make scaling decisions based on careful planning and strategizing, rather than on outward appearances or emotional ties to past practices. Eliminating our catalog and cutting back on the variety of products TRC sold felt like I was going backward. In one sense, I was reacting to the changing environment that made it increasingly difficult to keep up with the maintenance and management of 50,000 products. But direct mail also was a less effective sales model, and TRC had to embrace the web. Based on our reliance on cash flow, rather than debt, we couldn’t maintain both models.
In fact, the decisions we made to revamp TRC’s business model didn’t drag us backward but instead propelled our business forward. Our original business model had constrained my ability to scale TRC. Specializing in software licensing allowed us to zero in on the specific subset of customers responsible for volume licensing decisions and direct all of our marketing efforts toward those customers. Our new strategy also enabled us to retool our operational procedures and sales processes to solely reflect licensing requirements. In turn, that change enabled us to excel at sales in this core category, rather than being mediocre in some areas of our sales.
This experience taught me that you have to continually scale your skills as an entrepreneur in order to successfully scale your business. During the Startup phase of TRC, I never wanted to say no to a sale. As my business matured, so did my understanding of excellence in service. To be great at serving our customers, TRC couldn’t be everything to everybody. We had to turn down some opportunities in order to focus on what we could do best. The company had matured, and so had I. But it took awhile; members of my sales team had been telling me to go this direction for some time, but I didn’t want to listen to them. So, to avoid having to respond to bids or quote customers for categories that they had low chances of winning, they had started to niche themselves before I actually pulled the trigger.
As I responded to the forces that my sales force had already been dealing with, I came to clearly see something else about my business that I had never fully understood. By bootstrapping the company during its Startup phase, I was involved in the creation of virtually every process in every facet of the company. I was thrust into sales and marketing and saw firsthand what worked, what didn’t, how customers responded, and what pain and priorities drove their decisions. That process taught me that, as a reseller, TRC didn’t create demand. We sold our customers a product that they knew they needed and that somebody else produced. As TRC scaled during our Running phase, however, I realized that, even though selling products was what we did, it no longer was why we were in business. Now, TRC was in business to consult on volume software licensing, to develop an easier method to procure licensing, to establish a process that ensured that our customers were adhering to their legal compliancy requirements, and to provide reporting and other administrative requirements throughout the process.
Clearly, the purpose I envisioned for TRC during its Startup phase was rather different from the one that drove its success as a mature organization. My understanding of the business changed as the company changed. When I stepped into the visionary role and out of the daily activity, I was able to assimilate what I had been exposed to and learned. As you grow along with your business, the clear focus and strategy you had at the beginning can be radically altered by the experiences you gain through customer engagements and trials. Your early strategies will always shape your organization; I am confident that the success of TRC and the advancements we made would not have occurred if I had taken on more debt and been less hands-on throughout the organization during the Startup phase. But things change, and you have to constantly evolve your leadership skills and strategies in order to continue to succeed as you move deeper into your entrepreneurial journey.
Scaling your business often requires that you take calculated risks. As TRC grew, my comfort with risk had to grow as well. To supplement their increased risk exposure, suppliers would employ additional measures of collateral, which would include my own personal guarantee—a legal document stating that I would be personally responsible and bound to meet TRC’s debt obligations. If I wanted TRC to continue to grow, that was the risk I had to take. By taking out personal credit cards and personal guarantees, everything Lisa and I owned was on the line. Further, some suppliers wanted TRC to have an open bank line of credit that we could draw upon to meet payments. In order to obtain that line of credit at our local bank, I had to use my house as collateral.
Through the success of my company, I had just formulated the perfect storm for personal bankruptcy should something go terribly wrong. I could lose everything. To an outsider, I might have looked like the classic entrepreneurial risk taker, betting the farm on his venture. All of that is true—but, I never lost a minute of sleep worrying about losing my house. In fact, I never gave it a thought. Was I just gutsy and fearless, risking everything I had, along with the future financial safety and security of my wife and three kids? Although I love the idea of being that kind of daring adventurist, the truth is bit less dramatic.
In reality, I was very careful. I simply managed risk, based on my knowledge of my business, my customers, and my industry. I understood how my customers paid; I knew how not to overextend myself and where I could cut back if needed to reduce expenses. I carried no debt, other than credit balances. I never paid interest fees to erode profit margins. I calculated every expense. I studied my financials to know my monthly income and expense and how to manage my cash float. I added employees and other expenses within a prescribed formula, never exceeding my benchmarks. The bottom line was that I was confident in my business and the control I had of it. External forces would not bankrupt me as I controlled the structure and level of risk. I knew if my doors had to close on any given day I could release my employees and pay all of my obligations based on my accounts receivable—which I knew I could collect. Every element of my plan revolved around the relationships I established with my creditors, my customers, my vendors, my partners, and my staff.
Business and life are about relationships. If you can’t communicate well with the people you are in business with, or if you don’t like working with your vendors, then get out or get someone in who can. To manage our credit, I had to constantly obtain additional credit and maintain the credit we had; that required skillful selling and a reputation for solid ethics. I had many conversations to explain to our partners our financial outlook and provide them with the certainty they needed in order to extend additional credit to TRC. I had to address these individuals with confidence, look them straight in the eye, and explain my model so that they could walk away feeling confident that they had made the right decision.
The truth is that, in nearly every aspect, growing and scaling your business successfully comes down to your reputation for trustworthiness and honesty. You can’t fool people you work with over the long haul, and you certainly can’t fool your customers and clients. Any deception you try to pull off, no matter how small, eventually grows into a sharp-toothed monster that will track you down and bite you at some point down the road. As the leader of the company, you have to always remember that your actions are under constant scrutiny. To maintain the kind of transparency you need to have in order to run your business effectively, you must earn the confidence of those around you and model the kind of ethical behavior you expect to receive in return.
The Running phase of the entrepreneurial business represents a significant milestone for both the business and the entrepreneur. The now sustainable business has moved from a customer-demand-generation mode of operation to a customer-demand-response mode, forming bureaucracy to enforce proven systems and processes that maximize efficiency. Herein lies the inevitable danger for the business to become complacent and reactionary to continual environmental changes.
This marks a critical juncture for the entrepreneur to understand and change his role in the company’s journey. Now more than ever, the entrepreneur must convey a clear vision of where the company is going and delegate tasks to those whose efforts will ultimately result in the desired goal attainment. An entrepreneur who has found how to lead in the Running phase maintains a culture of innovation that continually learns customer intelligence and drives product changes that disrupt the market.
As the company scales its growth during the Running phase, exciting and rewarding new challenges will arise and bring more change. The entrepreneur needs to recognize at this point that he will ultimately need to leave the business he founded, for a multitude of personal and business reasons. When and why an entrepreneur moves on will vary, but it is certain he will move on—and advanced planning is the only way to ensure that both the business and the entrepreneur continue to thrive and achieve their goals.
The entrepreneur’s Exit phase should represent the culmination of a strategy put in motion in the Idea phase. Although the strategy may have morphed from that early vision as the entrepreneur learns and adapts to change during the life cycle of the business, the evolving strategy for the entrepreneur and the business to exit actually creates a new phase—life after the business.