This is Craig Willett, the Biz Sherpa, welcome to the Sherpa’s Cave for episode seven. In episode six, we talked about some things to prepare in starting your business. I didn’t mean to discourage anyone from starting their own business, actually I think it’s the highest expression of freedom in our country. Our country was founded on principles that allow for an individual to reach inside of themselves, figure out their talents and their abilities, and then exercise those talents and abilities to bring about a full realization of the measure of their creation. In so doing, we can have a great time in owning a business. I think it takes preparation though, some time to sit back and look at what you’re doing, and analyze it from a perspective that will allow you to have a greater chance to succeed.
In that light though, today we’re going to get down to more weightier or more meatier matters about starting your own business. I’d like to first talk about the different aspects of starting a business, so we’re going to refer to some boards today that were created by my assistant, Annie Virga. The first one that I think all of us need to address is what problem are we trying to solve? I’m not talking about an individual problem that you may have, I’m actually talking to you about what problem you can solve for your potential customer with your product or service. If you can define that properly, you will be well on your way to defining a niche market that will allow you to exploit that market to bring about solutions for individuals that they’re willing to pay good money for, and reward you for your ingenuity.
So let’s talk about it. Let me share with you an example from my life. When I started my real estate development business, one of the issues that I wanted to solve for other people was that business professionals who spend anywhere from four to 10 or 12 years getting their education, think of doctors, lawyers, accountants and so forth, a lot of them spend a lot of time getting education and training, and have invested in themselves. When they start a business or professional practice, what they have to sell is themselves, they don’t require a lot of inventory, and usually not a lot of investment in infrastructure, but they do require a good location for their practice.
So we built the Professional Village, which allows them to buy and own their office, and our phrase that we used was “Own for less than rent.” When you look at owning for less than rent, we’re solving a problem for them. They can have their practice for 15, 20, 30 years, and rent an office and operate their practice out of it, or they can own their office. In owning their office, they avoid having a pile of canceled rent checks at the end, and really end up with the asset, perhaps a building worth a million dollars. This gives them something tangible to sell at the end of their long career.
So the problem we were solving is enhancing their retirement and avoiding them having to deal with landlords and renewing a lease every five years. That worked. In fact, the proof of it came one day when we first put up one of our first signs. A doctor called me and he said, “I’m calling on this sign that I saw, I’m out looking for a new office for my practice. I didn’t even know I could own an office.” So the phrase “Own for less than rent” really categorized for them the problem solution that we offered, and so I would start by looking at what problem are you going to solve?
And so the next question, or the next idea that I have, is what experience do you have in that field or in that market segment? This will help you define how you can attack it. Having experience is a real benefit to you, and for your customers. That is something that as you look at it, you might say, “Well gee, I’m just getting out of college,” or “I’m just starting college, I don’t have a lot of experience,” I wouldn’t let that discourage you, but look at the experiences you’ve had in your life.
For me, real estate was a no-brainer, I got my first real estate license when I was 17 years old. My dad taught the real estate school at the local community college. What he taught me at the kitchen table was more valuable than any lesson I learned in school, and I was able to pass the real estate exam at a young age and get my license. Now, I’m not recommending real estate for anyone else, but I am saying look at your experience, and even experience in exposure to something may be enough for you to get the background to be able to start and focus on your market.
The next area that I would have you consider is the uniqueness, how unique is your product or service? If it’s something you see commonplace everywhere, then you need to ask yourself, “How am I going to be different? Am I going to be different in how I deliver it?” There were offices all over the valley when I started my development business, but very few, if any, were selling the offices to the professionals, they were only leasing them. That leasing created an opportunity for me to go into my niche of owning for less than rent, allowing us to sell office buildings to the professionals, our target market.
So look at that, how are you going to distinguish yourself from everything else out there that puts them on the top of the list? I always have said that if you’re on the top three in someone’s mind when they’re going to make a purchase, you have a good chance of getting the deal, and to get there, you have to be unique, you have to be different than the others, that will put you in that top three. While they might not be familiar with who you are when you’re just starting out, if you’re unique, you’ll rise quickly to the top three on their list.
The next area I’d have you look at is access. How are they going to access your product or your service? Are they going to access it through the internet? Are you going to have a brick and mortar location or a store? Are you going to have a mobile unit that goes to them? Those things are critical in designing your product or service and making it unique, and so you really need to examine that question.
There are lots of ways to deliver a product. I remember a client of mine when I was a CPA, he had a really unique way of delivering a service. He sharpened surgical equipment and repaired surgical equipment. He didn’t wait for the hospitals or the surgeons to send it to him, he went to the hospitals and the surgery centers in a van and parked outside, and sharpened and sterilized the equipment and returned it to them. I thought this was a unique idea, and he did very well in that business.
I also know another business that I was affiliated with with a CPA firm I worked for, and I thought it was really unique. They had a kit that they would wear… That they would design for someone to wear on their belt, and somebody would climb up at the airport, climb up when a jet landed to change passengers and get ready for another flight, and on that kit, they had all that they needed to replace windshield wipers on it, replace buttons, and replace lights on the outside of the plane, so that they just had that kit, and it was a disposable kit when they were done or they re-serviced it, but it had everything, whether they needed it or not. I thought it was unique. But there’s lots of different ways of making it more convenient and more productive to your potential customer, so that’s what I want you thinking about, uniqueness and how they’re going to access it, how are you going to take it to them?
The other one is, that you need to consider, is how you’re going to expand or adapt that. Often, I see business owners who say, “I’ve got this new, unique product, but it’s a one-product company,” and while that might be good for starting out, you need to consider individual adaptations. How are you going to take that product to someone else? How are you going to adapt it to other uses or expand it to a product line so that you can expand your sales and your opportunity, and giving you a lifeline of longevity? Often in business, we can be caught by having a unique product, but when its product lifecycle dies out, we haven’t re-engineered the next version or the next generation, and we haven’t reached out to expand our market share, so I would consider that.
The next one is to test your market. Now, it was hard for me to test my market in real estate development, you can only imagine that. How could I build buildings in multiple states at the same time? It takes a major investment, right? But there are ways you can test your thesis, and I did see it working somewhere else, and I took it to a market where when I looked around, there hadn’t been new offices built in over 15 years, and so I knew that it was likely to succeed, the own for less than rent concept.
Now, testing your product means you have to go out and find a customer, and so that’s the next thing I’d like to talk to you about, is finding your customers. Where are you going to find that first customer? Where do they live, what do they do, what do they look like? And sometimes I’ve found that they may be different than what you’re thinking. When I developed my first set of office buildings, I had more real estate professional users than I really had planned on, I thought there would be other businesses in there, and so we redesigned our next several projects to accommodate their unique needs. So you need to test it, and the way to test it is to go out and find your customers. You may have a prototype. One way is through crowdfunding, you can have a prototype that people can buy or sign up to be your first customer, you can see relatively easy in today’s world whether your market product is going to be received well by the market.
The next thing is how are you going to get repeat customers? Now, you may say, “Craig, but you did real estate development, how did you get repeat customers, how do people need multiple buildings?” Well, I was kind of surprised. Speaking of finding customers, my wife Carol was at the pediatrician one day, and she came home and she said, “They need a new office. It’s hard to find, it’s in a bad location, but they’re great doctors.” And I said to her, I said, “Well next time you go in for an appointment, why don’t you suggest to them that they might want to consider a better location, and share with them how you feel, and just tell that just by chance, your husband happens to be doing a development that might work for them?”
She did, and they called me. They bought a building, and they liked it so well that they needed to expand, they bought another building in another part of the valley. So you can find repeat customers, you need to find a way that whether they use it again and whether they cannot use a second one, they at least refer people to you, and that’s also a repeat customer. You want to look at how easy is it for someone to refer other people to you? So the customer experience is really valuable.
The next thing I’d like to cover today is pricing. That’s one of the frequent questions I get asked, “Well, how do I price my product?” So let’s talk about for a while, compare and contrast different ways to price products, and different methods used in pricing products. There’s market-based pricing, that’s comparing what’s out there and trying to match competition, and I’ll talk to you about that. I personally don’t like that method, but other people will dispute that with me, and there’s reasons that that will work in some segments. Cost-plus, value, again, your uniqueness, and then we’ll talk about the role of incentives in pricing too, and that will help you correct any pricing errors you might make, without dramatically impacting your credibility.
So the first one is market-based. You might ask yourself, “What can the market pay?” It shouldn’t be a function of cost, so that’s why it’s different from cost-plus. I wouldn’t look at the cost, it only helps you determine your profit margin. So you need to research the uniqueness of your product to determine how you can come up with what the market might be willing to pay. This will go to helping you determine what it is that people should pay.
For me, I looked at the market when I started mine, and what I looked at is a comparable… Let’s use my professional office building for an example to continue the theme. I used what the current rents were for an office building that was similar to mine, and then I took a function of interest rate and time and figured out what their payments would be if they got an SBA loan, and then calculated that backwards into a capitalized cost, or capitalized market value, and that’s what they paid. It was more than what it cost me, but it was based on a market figure, so their payment was a factor less than rent.
So to help summarize, you need to look at other factors in the marketplace to determine where you’re going to place your product. Are you high-end? Are you low-end? Are you trying to get volume, or are you trying to get a few sales at a large margin? So that’s going to determine how you’re going to price in a market.
The next one that I see often in business are people who have contracts. They have contracts to manufacture a product or provide training for the government, and that usually is a function of cost. You’re usually able to take your cost plus your overhead and then add a profit factor to that, and on a contract, determine your cost-plus factor. In fact, this is done also in construction. When I hired general contractors to build the buildings for our company, they would do it on a cost-plus basis, they would take all of their cost, plus an overhead function, and then add a percentage to that based on the contract, that’s an example of cost-plus pricing.
Value, this is what I like the most. Look at what value you provide. If you provide a premium value to someone, then you should price it at a premium price. I’m going to use a very simple example. Go to McDonald’s, you get a dinner. Go to a steakhouse, you get a dinner. Are they priced the same? Not at all. There’s a difference in perceived value. You’re getting nourishment and you’re getting a meal, but you’re not getting the same level of satisfaction in your own perception, and so I would say that you look at what is the perceived value in determining the pricing, and you may use that as a component of your market-based pricing.
Uniqueness. Often, early-stage companies can be very unique, and they’re not even finished with their research and development, and so they may be doing some work where they don’t really have that kind of pricing, but they might do work for people that they have to price it with a large enough factor so that you can have… Cover your liability. Let’s look, for example, and this might be a stretch for most of us, but I have some experience in this with a drug development company that I was on the board of and helped start a number of years ago, you may have a product that carries with it large amount of liability.
When you’re done with all your research and development, you may have spent millions and millions of dollars. You may have an idea of how big the market is for your developed drug, but you may not. You also may have some idea of what the liability is, and you need to be able to recoup all of that, and so sometimes your uniqueness and the potentials that are out there go into you’re the only one in the market, maybe a monopoly, so to speak, because you have a very niche market that you’re going after, a very niche segment of that market, and so you need to be able to price to cover all potential costs, and so that’s another factor that you need to consider.
But you also have to consider what the consumer will pay. Ultimately, that’s where the supply and the demand that we learn in college, where those two meet is where you determine your pricing. If you have a limited supply and high demand, you can get a high price. If you have a high supply and low demand, you can have a low price, and so you need to look at the different segment that you’re after and determine what that demand might be.
You can always correct in the marketplace by offering incentives and keep your credibility, I mentioned that. One idea is you offer a sale or discount, an introductory discount for people to buy your product initially. You can see how it’s received, if it’s received well and people appreciate the discount, you may be able to maintain the pricing that you have. Often, you may be able to develop a second product and you may say, “Look, if you buy this one, you’ll get the other one half price,” so you expand your market segment.
These are ways of incentive pricing that allows you to maintain credibility and maintain that pricing that you set, so that you don’t feel like somebody comes along later and buys at a higher price and feels like, “Hey, how did these people get a better deal?” Well, they got a better deal because they bought early on, or you had an incentive for a period of time to get some initial customers. But I wouldn’t let sometimes adapting your initial pricing into the marketplace be shadowed over by the newness there. You do want to be able to set your price at a level you’re comfortable, that you’ll allow yourself to make a good margin at over the long run.
The next area I’d like to talk to you about is cost structure. We’ve talked about defining your niche market and pricing your product, now we need to look at our cost structure, because that’s going to determine future profitability. It may influence how you price your product, so gaining a good understanding of this is wise. There are two components to cost structure that you really need to consider, there’s the fixed component, fixed costs, and variable costs. I don’t want to give an accounting lesson. Yes, I’m a CPA and I’ve done this before, but this is not meant to be a rehash of your… Well, it probably is meant to be a rehash and a very short synopsis of your college experience.
Fixed costs are things that you can’t do without. You’re going to incur them, and they’re going to be recurring each month, regardless of how much you sell, regardless of how much you produce, and regardless of how much time you spend on vacation or not, you’re still going to get the bill. The first one is rent. If you’re going to rent an office space, a warehouse, or a manufacturing facility, you need… You’ll be paying rent, and that’s going to be the same every month, regardless. Your utilities, you’re going to get a monthly bill anyway, and what I’ve found with utilities, if you use them less, they still have all these surcharges, so it seems like you’re still paying just as much. You may have a peak manufacturing business and during the peak of that your use of water and electricity may go up, but for the most part, it’s a fixed cost, one you can’t do without.
Salaries. I’m not talking about production salaries if you’re in the manufacturing business, but I’m talking about your overhead. Your salary, the salary for your workers that man your store or your office, they will have a recurring expense every month. You may have a certain amount that you dedicate to your website or to your marketing costs. Sometimes that’s a variable cost, because you may spend more to do certain promotions, but there’s a certain amount each business needs to do to market itself. If you don’t market yourself, you’re in… You have a good chance of setting yourself up for failure. Let me talk about that for a minute.
I talked about government contracting, where you may get some money to be able to do some training to the government, and they pay you a cost-plus to do it. You may say, “Well, if I’ve got a good government contract, why do I need to market?” Well, that contract will come to a close, you need to be spending time and effort as you’re doing the training to video it, to interview the people that you’re training, to get testimonials from them and catalog this stuff, do it… Use professional cameras, use a crew to come in and help you with that.
Get that footage and get that information so that when you go back to try to bid for another one, you have some good information to sell your company. Put it on your website so that other companies in the private sector, you may adapt, they can see what you’ve done for the government and see the testimonials, and they may hire you too. So I think everyone should always be doing some marketing. If you’re not, you’re setting yourself up for your market to lose contact with you. You need to be in contact with the market all the time.
The last area is insurance. There are probably others, but you get the point, there are some things that you’re going to pay no matter what. Your insurance is a monthly bill, it’s going to come. Those will make your fixed component, this will help you make a budget. These are costs that you’re going to incur no matter what.
The next area is the variable cost, let’s talk about it for a second. Commissions. If you’re in the sales world, you’re going to pay staff commission-based to sell your product. Whether that’s online, whether that’s in a store, or whether that’s on the road person-to-person, you’re still going to pay a commission structure. I was on the board of a company, and we’re going to interview… You’ll be able to watch an episode with him one day, Little Giant Ladders, they started out selling ladders at state fairs. The founder of the business started out traveling with his family in a station wagon with the ladders in the back, and they would stop at the state fairs.
He spent some time in Germany in the army, and he married a German lady. He learned to yodel, so did his wife. The children would yodel, they would gather people together, and then he could demonstrate the uniqueness of his ladder. Through the years, they built a sales force that then instead of him taking his family, hauling it all around the country, because his wife said, “I’m getting tired of this,” they would pay a sales staff to go do that, they would have to pay commissions, and that’s based on per unit sold, so that’s why it’s a variable cost.
You have your production cost, that’s all the materials that go into making your product. That’s a variable cost, it will be based on the number of units that you sell. And then you have the labor to produce it. If you’re in the manufacturing business, you’ll incur that as a separate line item. If you’re just in the distribution business and you hire someone, a third party contract manufacturer to make it, you will pay them the labor, but it will be part of the component cost and you won’t necessarily know what their labor cost is. And then of course shipping. Shipping to you is a variable cost, because it’s based on the units you buy or the supplies you’re buying, and shipping to your customer is also a variable cost, hopefully you can recoup that. These are the basic structures, so when I talk about fixed and variable, you need to understand them in making a budget, because based on your growth, you’ll be able to project better what your costs will be as we get into episode eight, when I talk to you a little bit about cash flow forecasting.
Now that we’ve covered fixed and variable costs and got that out of the way, let’s go through a real life example so I can help you understand cash flow versus profitability. This is really key, this is an area that trips up a lot of business owners. I know there’s a real temptation as a business owner to manage your business based on the balance in your checking account, or the availability of cash on a line of credit. That, I want to teach you to avoid, because that can… That’s a recipe for disaster, but we’ll talk about that later, what can happen, but more importantly, let me go through an example of a T-shirt business, if you don’t mind for a minute, and let’s just talk about how this might work.
In our T-shirt business, let’s say you sold $15,000 worth of T-shirts. That would be, at $5 a T-shirt, that’s 1,000 T-shirts at $15 retail, $5 to produce, so $15,000 in sales. Your cost of sales for accounting purposes is going to be $5,000, or $5 to produce times 1,000 shirts. Your gross profit margin is $10,000, the $15,000 in sales less your $5,000. You then have to look at your expenses. In this case, let’s say your store and warehouse rent is $3,500, insurance is $300, utilities, $425, advertising, $500, interest on a bank loan that you have, $400, and salaries, $4,000. You have total expenses of $9,125. Your net profit that month would be $875.
So you’re profitable in your first month of business, but let’s go through this and say you were expecting to sell much more than that, let’s say you produced 10,000 T-shirts in your first month, hoping to sell at least most of that, and maybe you might be a little disappointed, but I would take comfort in the fact that you made a profit in your first month in business, but let’s look at cash flow, because this is what trips up most people. It’s quite a different story.
You sold $15,000 of T-shirts, so you collected $15,000 in cash, because they were cash sales. But you produced 5,000 T-shirts, hoping you would sell 5,000 T-shirts, not 1,000 T-shirts. Now you might be disappointed, “Gee, I only sold 1,000 T-shirts,” but you made a profit your first month in business, I’d be happy. But let’s look at your cash flow, you had to pay $5 for every T-shirt you produced, and so you spent $25,000 on those 5,000 T-shirts. Then you had your expenses of $9,125, you had negative cash flow of $19,125.
Often in business, business owners get upset and say, “But I lost $19,000.” No, you didn’t lose $19,000, you sold 5,000 of your $25,000 of T-shirts, so you still have 20,000 at cost of T-shirts left, or 4,000, and if you’re selling them at $15 each, you have $60,000 worth of inventory that you have for potential future sales, so you can turn around and make a profit by selling more the next month and not producing.
How did you fund the negative sales? Well, we’re going to talk about that next. We’re going to talk about how you finance a startup, and I mentioned that there’s interest here on a loan that you have, we’re going to talk about ways that you can cover this negative cash flow that does not necessarily represent a loss.
Now I’d like to talk to you about financing your business. In our example, there was a $19,000… Over $19,000 negative cash flow in the first month of business, so in business, I think it’s unusual for people to make a profit in the first month, and it’s highly unusual to not have a need for additional cash then running your first month’s worth of operations, usually it takes quite a bit more. Sometimes six months, sometimes 12 months, and if you’re in a research and development business with a unique product, it may take even more cash than that on hand to be able to start your business.
Now, I don’t want to discourage anyone from starting their business, I remember my first business. I paid in sweat equity for my security deposit by painting the office building. I also bought a used table, and I went to the hardware store and they had a phone on sale, and I bought a cheap phone for like $35 to have on my desk. This is in the days before the cell phone, so that shows you how old I am, but you want to be… There are ways to start up, and I was in the service business, but you need to have some cash on hand.
I went to go buy a calculator, a 10-key calculator, being an accountant, and I bought a used one at the business supply store, and I remember telling the guy, he said, “Do you want to pay cash for that, or do you want to put it on payments?” And I said, “Well, I’d like to pay cash for that, but if I put it on payments, I’m not sure I’m going to be in business four months and finish paying you off,” and he said, “We can only hope,” and I’ve always remembered his take, you want to plan on success. So you plan for success, but there are ways to finance the starting of your business, so let’s talk about a few of them.
The first one is personal savings. In my instance, I had put our last bit of savings down as a down-payment on our first house, and then decided to start a business, so my wife was on for a ride on the rollercoaster with that one. The next one is looking to friends and family. They make good initial investors, they’re a good gauge whether they believe in you or not. If they’re willing to lend you the money or invest for a stake in your company, will tell you whether you have the experience, whether you’ve developed a product that’s convincing enough to your friends or your family, that they’re willing to put money into it. It’s a great source, and one of the easiest sources, and one of the highly recommended sources for new startups.
Bootstrapping. What is bootstrapping? Okay, bootstrapping is what I just told you. I paid for my security deposit on my first office building by doing the work. I paid sweat equity, I painted the office, because they told me they were going to hire someone to do it and I said, “Oh, you’re going to hire someone to paint the office? I used to have a house painting business to pay my way through college, will you allow me to do it instead of paying a security deposit?” Which they did, and I’m grateful for it, that extra couple thousand dollars went a long way for me and my family in those first months of being in business.
The next area is bank loans. There’s two different types, there’s a term loan, meaning you get a specific amount of money and have to pay it back over, let’s say, five years, at an interest rate in a fixed monthly payment. The next one is a line of credit. Line of credit will help you smooth out seasonality, or in the case of our negative cash flow that I just talked to you about, will allow you to draw on to build up your inventory, and then as you sell it, you take some of the proceeds and pay back down on the line of credit for your costs on it. It helps smooth out the big swings in cash flow based on inventory, production, and seasonality of sales.
These are hard to get as a new business owner. You think it’s hard to convince your family and friends, imagine what it’s like to sit down with a banker and convince them why they should go with you on your business. I’m not discouraging you from doing this, in some cases… I can think of one business that I started, but because I had a lot of background in accounting and a lot of background in real estate, and a good relationship with the bank, they went with me for a bank loan on my first real estate development. This isn’t always the case, I was fortunate. You may have the opportunity to do that too, but it’s hard.
Next one is credit card, and you may say, “Craig, you seem pretty conservative, why are you recommending I be irresponsible and use a credit card to start my business?” I’m not recommending it, I’m only putting it on the list because I saw it one time. I had a client come to me and he said, “You know, I want to start one of these blended juice businesses.” Okay, mind you, this is 25 years ago. And he told me of something he saw in California, and he wanted to start a business. He started the business, I said, “How are you going to pay for it?” He said, “I have three credit cards, I’m going to max them, and I’m going to start the business.”
To today, he has my admiration. He sold this business to a national company in a number of years later, and he’s also started several other businesses since then, and they’ve been successful. I don’t recommend it, they’re a lot higher interest rate than the bank. Credit cards, go look at what they charge you. 19%, 22%, 25%, they don’t even apologize on the interest rate that they charge you. It’s a good tool if you use it and then pay it off each month and not carry a balance over. It can be a way to smooth out the cash flow, so don’t get me wrong. But it is a unique way to do it, and if you believe in yourself and no one else does, you may want to try it, just be careful.
SBA has a program, you think about it, Small Business Administration. Here’s where they really came through this year. During the pandemic, we saw the Payroll Protection Plan loans. That was mainly run through the banks, but it was an SBA-administered loan program from the government where they forgave you the loan proceeds that you got, but you had to have already had the business running before the pandemic started, but they forgave you for your payroll, your rent and your utilities, and some other costs too, and so it ended up being a grant. They can be a great source, but they’re difficult. Usually they want you to have two-year track record in your business.
There may be other reasons to do it. You may have additional collateral, you may have equity in your home, and therefore a bank term loan or home equity line of credit would work for you, or you may be able to get the SBA to go with you. Let’s say for instance that you served in the military, and you became a specialist in a certain area and you have a lot of experience in that area, and now you’re starting a business to do some training in the private sector on that specialty that you have, but you need some funds to be able to start your business. There are programs in the SBA that you could qualify for that will give you some of that seed capital that you might need, and so I don’t discourage you from looking at that, quite the contrary, I just give the warning that they usually require the experience, but there are compensating factors that you can use to help sell yourself to the bank.
I mentioned earlier in our podcast that crowdfunding is a good source. I won’t spend a lot of time on it, I’m not an expert in it, don’t claim to be, but I have seen people who have started… Come up with a prototype of the product, posted it on a crowdfunding site, and been able to see how many people are willing to invest in the business or buy the initial product when it’s produced. It’s usually a good test market. It’s a great way, without having to go out and build multiple prototypes, be able to get sales and gauge your niche and target market early on. Now, the product needs to fulfill the promises that are made, but I think it’s a great source.
Another source are grants, but you need to hire a grant writer, and you have to be expert at it, but there are certain types of training, certain types of businesses, who can qualify for private or government grants, from foundations that want to fund usually not so much for-profit business, but some startups who bring some educational aspects or some training aspects with it, and so grants are a great source as well to look to.
Another one would be incubator labs, we see these for business startups all the time, they’ve become very popular. That way you don’t have to commit to a five-year lease term, you can get a little cubicle in an office that you can go to and have a presence. There’s some support staff there, typically some other people to collaborate with, and I think they represent a great low-cost way, when you consider the fixed costs we talked about earlier, you can really reduce those fixed costs in an incubator and allow you time to develop your product or your service.
I had an experience with one such company. I had a friend, quite frankly, his wife was our nanny at one point, and we stayed in touch through the years, and one summer we got together for dinner when we were in town where they happened to live, and he said, “You know, Craig, I want to start a business.” And I said, “Really? Tell me about it,” and he told me about it. He’s a scientist, I didn’t really understand the science, but I believed in him and I decided that I would invest in the business, but I told him, “There’s some other things you need to do before you can start it.”
And he went back and he did those, and he called me one day and I said, “All right, now that you have that, where are you going to operate? Because there’s a lot of costs that are going to be incurred, and I really don’t want to spend a lot of money in the initial phases of this business paying for a lot of what would be lab space and office space.” And he started looking around, and he and his partner went out and applied to Johnson & Johnson, they had an incubator lab that had just opened in their town. Of the 500 applicants, he was one of 30 that was selected to be the initial ones in that incubator lab. Today, that company’s a public company, but it allowed them to have access to the equipment they needed, without incurring hundreds of thousands of dollars in the early stages when it was a two-employee founder company.
There are angel investors, that’s the next one on the list. These are usually high-net-worth individuals or clubs who get together and will invest in companies, usually not totally startup, unless again you have compensating factors, were with a major company, were responsible for a certain line in that company and you have a new approach and a new market segment that you want to develop, you might be able to convince some angel investors.
The last area I’ll mention to you, but I don’t want to spend a lot of time on it today, it’s a fairly highly sophisticated area and you’ll want to hire advisors to get into this area, and that’s venture capital. Venture capital serves a great point in this market, in fact, today a lot of companies get pretty far along the way of proving their product with venture capital-backed financing before they go public. This is a highly sophisticated area where you can get dollars from a company, but you usually have to know your product and your market segment well, you usually have to have a very good educational background and very good connections to be able to tap into these types of resources.
I’m grateful that you would spend time and be patient with me today as I walked through some of the more technical aspects and the meat of starting a business. I think there are two aspects, one is an emotional and personal preparation to own a business, because I think it takes being the best you can be to be able to be successful in business, and the second one is to be educated or skilled or disciplined in some of the areas that we talked about.
Now, I know you can hire an accountant, I know you can hire other experts to help you, but when you’re starting up, resources are scarce. I hope some of the things that I shared with you today on fixed versus variable cost, on different funding sources, will help lead you down a path that will help you start your business and launch what will be a very rewarding and successful career in business for you.
I’ve enjoyed my business career. I’ve met a lot of people in my career as customers, and as people who I’ve hired as consultants, and they’ve richly blessed my life. I hope that as you apply some of these principles today, you will be more successful and that your life will be blessed and enriched, and bring you the rewards that you’re seeking and the satisfaction, both emotional and tangible, when it comes to profits. This is Craig Willett, the Biz Sherpa. Thanks for joining me today in the Sherpa’s Cave.
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