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EDEXCEL GCSE BUSINESS UNIT 1 Course Companion INTRODUCTION TO SMALL BUSINESS Essential study notes to support your Edexcel GCSE Business Unit 1 Course

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  • EDEXCELGCSEBUSINESS

    UNIT1

    CourseCompanion

    INTRODUCTIONTOSMALLBUSINESS

    EssentialstudynotestosupportyourEdexcelGCSEBusinessUnit1Course

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    CONTENTS

    TOPIC1.1SPOTTINGABUSINESSOPPORTUNITY........................................3WhatisaBusiness?................................................................................................................4UnderstandingCustomerNeeds............................................................................................6MarketMapping...................................................................................................................10AnalysingtheCompetition...................................................................................................14AddingValue.........................................................................................................................17FranchisingforStartups......................................................................................................19

    TOPIC1.2SHOWINGENTERPRISE..........................................................21WhatisEnterprise?..............................................................................................................22ThinkingCreatively...............................................................................................................23QuestionsanEntrepreneurAsks..........................................................................................27Innovation&Invention.........................................................................................................28TakingCalculatedRisks.........................................................................................................30ImportantEnterpriseSkills...................................................................................................33

    TOPIC1.3PUTTINGABUSINESSIDEAINTOPRACTICE................................34ObjectivesofaNewBusiness...............................................................................................35QualitiesofanEntrepreneur................................................................................................38RevenuesandDemand.........................................................................................................40Costs.....................................................................................................................................44Profit.....................................................................................................................................47ForecastingCashFlows.........................................................................................................50TheBusinessPlan.................................................................................................................55ObtainingFinance.................................................................................................................58

    TOPIC1.4MAKINGTHESTARTUPEFFECTIVE..........................................64CustomerFocusandtheMarketingMix..............................................................................65ImportanceofLimitedLiability.............................................................................................71StartupLegalandTaxIssues...............................................................................................74RecruitingandTrainingEmployees......................................................................................77Motivatingstaff....................................................................................................................83

    TOPIC1.5UNDERSTANDINGTHEECONOMICCONTEXT..............................85DemandandSupplyinCommodityMarkets........................................................................86InterestRates........................................................................................................................90ExchangeRates.....................................................................................................................93TheBusinessCycle................................................................................................................96BusinessDecisionsandStakeholders...................................................................................98

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    Topic1.1SpottingaBusinessOpportunityTopicoverview

    Section KeyThingstoLearn

    Whatisabusiness? Whydobusinessesexist?ThedifferencebetweengoodsandservicesTheproductionprocess

    Understandingcustomerneeds

    WhatentrepreneursneedtoknowwhenstartingabusinessHowtoresearchthemarket

    Marketmapping SpottingaviablegapinthemarketHowtosplitthemarketintosegmentsMarketmappingasanapproach

    Analysingthecompetition

    Whyunderstandthecompetition?WhatinformationisrequiredDoescompetitionbenefitcustomers?Howcanasmallbusinesscompeteeffectively?

    Addingvalue HowdoesabusinessaddvalueBenefitsofaddingvalue

    Franchisingforstartups UnderstandingthefranchiseconceptAdvantagesanddisadvantagesofsettingupasafranchise

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    What is a Business? Businessesgoodsandservices

    Wearesurroundedbybusinesses.Weinteractandtransactwiththemeveryday.Butwhat,exactly,isabusiness?

    Abusinesscanbedefinedas

    Anorganisationthatprovidesgoodsandservicestocustomerswhowantorneedthem

    Whataregoodsandservices?

    Goodsaretangiblethingsthatareproduced,boughtorsold,thenfinallyconsumed.Lookaroundyourhomeandyouwillseedozensofexamples,fromthemicrowaveandthereadymealsinthefreezer,totheflatscreentelevisionandNintendoWiiconsole.

    Servicesareactivitiesthatotherpeopleorbusinessesdoforyou.Whenyoubookaholiday,visitthehairdresseroreatinarestaurantyouareconsumingoneormoreservices.Servicesaresometimesreferredtoasintangible,inthesensethatyoucanttouchorhandlethem.

    Mostbusinessesprovideaserviceratherthanmakegoods.Thatisparticularlytrueofthesmallbusinesssector.TakeaflickthroughtheYellowPagesdirectoryathometoseethemanysmallservicebusinessesoperatingnearby.

    Therearesomeimportantdifferencesintheskillsrequiredtorunabusinessmakinggoodscomparedwithprovidingservices.Hereisabriefsummary:

    Goods Services

    Requiresaproductionlocationfactory Thelocationiswheretheserviceisprovidedeitherphysically(e.g.abuilder)orvirtually(e.g.telesalesorviaawebsite)

    Theoutputfromproductionisstockwhichcanbetransportedand/orstoredforfuturesale

    Serviceisdeliveredatapointintimeitcannotbestored!Ashophastobeopentosell.Ahairdresserhastobetheretocuthair

    Productioncostswillincludethecostsorrawmaterialsandotherinputsintotheproductionprocess

    Themaincostofaservicebusinessisthepeopleinvolved

    Requirescloseliaisonwithsuppliers Requirehighlevelsofcustomersatisfaction

    Qualitycanbuiltintotheproductthroughgooddesignandproductionprocessesdesignedtoensuretherightqualityisachieved

    Qualityismeasuredbythequalityofcustomerservice.Hardertomanage

    Quitecostlytosetup.Theproductionprocessneedstobeinplaceandworkingbeforegoodscanbeproduced.

    Relativelyeasytostartaservicebusiness,particularlyusingfranchises,whereabusinessformathasalreadybeenestablished

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    TheProductionProcess

    Businessesprovidegoodsandservices.Tobeabletodothis,theyneedtobeabletoturninputsintooutputs.Thisisknownastheproductionprocess.

    Agoodwaytothinkabouttheproductionprocessistoimagineatransformationthathappenstoaseriesofinputs,turningthemintooutputs:

    Inputsintotheproductionprocessinclude:

    Labouremployeesprovidingtheirtime,effortandskills Equipmentmachinery,buildings,computers RawmaterialsPhysicalsubstancesusedasinputs(e.g.steel,energy,ingredients) Financecashneededtobuyequipment,payforemployees,rentalocationandpay

    formarketing Enterpriseaninputthatisoftenforgotten.Thinkofenterpriseasthecreative

    energyandforcethatgetsabusinessstartedanddrivesitforward

    Manyoftheinputsintotheproductionprocessareprovidedbysuppliers.

    Suppliersprovidethegoodsandservicesthatabusinessneedsinorderforitoperate.

    Forexample,thesupplierstoaChineserestaurantwouldinclude:

    Foodingredientslikelytobefromafoodwholesaler Energyelectricity,gas,heat&light) Propertythelandlord Marketingadvertisingoutletssuchasnewspapers

    Theoutputsfromtheproductionprocessarethefinishedgoodsandservices.

    Outputsareboughtbycustomersthepeoplewhopay.Customersareoften,butnotalwaysthesameasconsumers.

    Consumersaretheactualusersofthegoodsorservice.Forexample,aparentmightbuyaPlayStation3consolegameforachild.Theparentisthecustomer;thechildisthelikelyconsumer.

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    Understanding Customer Needs Whatanentrepreneurneedstoknow

    Theentrepreneurhascomeupwithwhathe/shebelievesisagoodbusinessidea.But,howdoestheentrepreneurcheckthatthebusinessideaactuallymeetscustomerneedsandhasthepotentialtobecomeaviablebusiness?Theansweristodosomemarketresearch.

    Marketresearchforastartuporsmallbusinessneedstofocusonthefundamentalissues,suchas:

    Howbigthemarketis(measuredbysales,volumeetc) Howfastthemarketisgrowing)&themarketgrowthpotential Whotheexistingcompetitorsareandtheirshareofthemarket Howthemarketisdividedupintosegments(segmentsarethedifferentpartsofa

    largermarkete.g.lowpriceorhighquality)

    Whatkindofcustomersthereareinthemarket.Itisimportanttoknownwhattheirpreferencesareintermsofwhenandwheretheybuy,andthepricestheypay

    Themainpurposeofthemarketresearchistohelptheentrepreneurfindapositioninanichemarketthatwillenablethebusinesstochargeareasonablepriceandtoearnreasonableprofitsoncethebusinesshasbeensetupandestablished.

    Anichemarketisasmallerpartofalargemarketwherecustomershavequitespecificneedsandwants.

    Herearesomeexamplesofhownicheandmassmarketscompare:

    Industry NicheMarket MassMarket

    Holidays TrekkinginNepal BeachholidayinIbitha

    Motorcars Porsche911Turbo FiatUno

    Eatingout Exclusiverestaurant BurgerKing

    Chocolate HotelChocolat CadburysDairyMilk

    Magazines SnowboardUKmagazine Hello!Magazine

    Whyshouldstartupsandsmallbusinessesaimforamarketniche?Becausesurvivinginhighvolumeormassmarketsegmentsisalmostimpossible.Massmarketsaredominatedbywellestablishedbusinessesthatenjoylowercostsandcanchargelowerpricesthanasmallerbusiness.Inotherwords,astartupwillfacestiffcompetitionifittriestosetupinamassmarket.

    Anentrepreneurneedstobesatisfiedthatthereislikelytobeademandfortheproduct.However,atthestartupstage,fundsareofteninshortsupplywhichrestrictshowmuchmarketresearchcanbecarriedout.

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    However,dontworry.Effectivemarketresearchisnotaboutgettingholdoflotsofstatisticsordetailedreports.Itisaboutgettingtherightinformationtomakegooddecisions.

    Rememberthatasmallbusinesscanlearnmuchaboutthemarketbysimplytrading,talkingtocustomersandsuppliersonadaytodaybasisandreadingthetradenewspapersandmagazines.

    Primaryandsecondaryresearchdata

    Animportantdistinctioncanbemadebetweentwobroadkindsofmarketresearchdata:

    Primarydata:datacollectedfirsthandforaspecificpurposebytheentrepreneur

    Secondarydata:researchdatathatalreadyexistsandwhichhasbeencollectedforadifferentpurpose.

    Forastartup,itismostlikelythatsecondaryresearchwillbethemainsourceofmarketresearch.Thisisbecauseitcostlessandisquicker&easiertoobtain.Gapsinknowledgecanbefilledwithsomeprimaryresearch.

    Therearemanygoodsourcesofsecondarydata,andthegoodnewsforanentrepreneuristhatmanyofthemarefree!Herearesomeexamples:

    Google Agreatwayofgettingquickmarketresearchforfree

    Governmentdepartments

    Providedetailedinsightsontheeconomyandonmanyindustrysectors

    Tradeassociations Mostindustrieshaveanindustryassociationtheyareagreatsourceofmarketanalysis

    Tradepress&magazines Essentialreadingforanentrepreneur,particularlyifhe/shehaslittleornoexperienceofthemarket

    Competitorwebsites&marketingmaterials

    Valuableinformationonmarketingactivitiesofcompetitors

    Marketresearchreports MintelandKeynoteproduceawidevarietyofexpensivereportsthatanalyseindividualmarkets

    Byitsnature,secondaryresearchwillvaryintermsofitsusefulnesstoastartupafterall,ithasbeencreatedforadifferentpurpose,itmaybeoutofdateanditmightbebiased.

    However,secondaryresearchhasmanyadvantagestoastartup:

    Theinformationisreadilyavailable(particularlyonline)soresearchcanbedonerightnow!

    Itisgenerallycheaperthanprimaryresearch;inmanycasesitisfree Goodsecondaryresearchprovidesanexcellentoverviewofatargetmarket

    Inmostcases,astartupwillstillhavegapsinitsunderstandingofamarketevenafterlookingattheavailablesecondarydata.Primaryresearchcanhelpfillthesegaps.

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    Itisbesttothinkofprimaryresearchasthewaythattheentrepreneurgetsanswerstotheimportantcommercialquestionsthatneedanswersbeforetradingbegins.Forexample:

    Whatdopotentialcustomersthinkofmynewproductorservice? HowcanIobtainsuppliesoftherightgoodsatthebestprice? WhatpriceshouldIcharge? Whatisthebestwayofreachingpotentialcustomers?(e.g.viatheWeb,retail,direct

    mail)

    Theproblemwithprimaryresearchisthatitisusuallytimeconsumingandexpensive.Gettingamarketresearchagencytodotheprimaryresearchisoneoption,butthecostsarehighandtheentrepreneurmustwaitfortheresults.Accordingly,mostprimaryresearchbyastartupisconductedbytheentrepreneur,ofteninformally.

    Therearevariousmethodsofprimaryresearch:

    Method Comments

    Observation Watchinghowconsumersbehaveprovidesmanyinsights,butcanleavequestionsunanswered.Observationworkswellinretailmarkets;sitoutsideashopandwatchhowmanypeoplewalkby,lookatthewindowdisplayetc

    Postalsurveys Senttotheaddressofpotentialcustomerswhocompletetheformandsendbackinaprepaidenvelope.Relativelycheap,apostalsurveycancoverawidegeographicalareaandavoidsthepotentialforinterviewerbias.However,responserates(theproportionofpeoplesendingbackacompletedsurvey)areoftenverylowanditcantakebealongtimebeforeenoughsurveysarereturned

    Telephoneinterviews

    Nottobeconfusedwithtelesales(whichisamethodofselling),thetelephoneinterviewallowquickerfeedbackthanapostalsurvey.However,potentialcustomersareoftenwaryofbeingcalledandmaybereluctanttogiveanythingotherthanshortanswers

    Onlinesurveys Increasinglypopularandrelativelylowcost,onlinesurveysarewidelyusedbysmallbusinessesasawayofcapturingtheviewsofexistingandpotentialcustomers

    Facetofacesurveys

    Personalinterviewsconductedfacetoface.Acostly,butgoodwaytogetdetailedinsightsfromanindividual

    Focusgroups Groupsofpotentialcustomersarebroughttogethertodiscusstheirfeelingsaboutaproductormarket.Focusgroupsareagoodwayofgettingdetailedinformationaboutcustomertastesandpreferences

    Testmarketing Thisinvolvessellinganewproductinasmallsectionofthemarketinordertoassesscustomerreaction.Forexample,astartupcouldstartbysellingtoalimitedlocalareainordertoironoutproductissues.Softwarefirmsoftentestmarkettheirproductsbyoffering

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    betaversionsfortestingbyasmallgroupofpotentialcustomers.Testmarketingcanbeagoodpredictorofhowanewproductorservicewillbereceivedbythelargermarket(providedthatitcanbekeptsecretfromcompetitors!)

    Quantitativeandqualitativeresearch

    Thedistinctionbetweenprimaryandsecondaryresearchisreallyaboutthedifferentsourcesofmarketinformation.Adifferentwayofthinkingaboutmarketresearchistoconsiderthetwomainapproachesqualitativeandquantitative.

    Qualitativeresearch

    Qualitativeresearchisbasedonopinions,attitudes,beliefsandintentions.ThiskindofresearchdealswithquestionssuchasWhy?Would?,orHow?

    Qualitativeresearchaimstounderstandwhycustomersbehaveinacertainwayorhowtheymayrespondtoanewproduct.Giventhattheseopinionsareoftenobtainedfromsmallnumbersofpeople,thefindingsarenotnecessarilystatisticallyvalid.However,suchdatacanhighlightpotentialissueswhichcanbeexploredinquantitativeresearch.

    Focusgroupsandinterviewsarecommonmethodsusedtocollectqualitativedata.Thiskindofdataisoftenrevealinganduseful,butitiscostlyandtimeconsumingtocollect,particularlyforastartup.

    Quantitativeresearch

    Thisisresearchbasedonlargersamplesandis,therefore,morestatisticallyvalid.Quantitativeresearchisconcernedwithdataandaddressesquestionsuchashowmany?,howoften,who?,when?andwhere?

    Theresultsofquantitativeresearchwillgenerallybenumericalformforexample:

    35%ofcustomersratethenewproductasattractive 70%ofpotentialcustomersusetheInternettobuytheirhotelaccommodationin

    Dorset

    3outof5customerswillbuyanewfoodproductafterbeingofferedafreeinstoresample

    Themainmethodsofobtainingquantitativedataarethevariousformsofsurveysi.e.telephone,postal,facetofaceandonline.

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    Market Mapping Analysingthecustomer

    Aproblemthatfacesanystartuporsmallbusinessisthatcustomersarenotallthesame!

    Thinkabouthowyoubehaveasacustomer.Thethingsthatyouwantfromyourmobilephoneornightoutarelikelytobedifferentfromthosewantedbysomeoneofadifferentage,withotherinterestsandsoon.

    Sohowdoesabusinessaddressthesedifferences?Inshort,thechallengeforabusinessisto:

    (1) Identifygroupsofcustomerswhohavesimilarneedsandwants(2) Findawayofoffering(positioning)aproductwhichisattractivetothosecustomer

    groups

    Marketsconsistofcustomerswithsimilarneeds.Forexample,considerthewidevarietyofmarketsthatexisttomeettheneedto:

    Eat(e.g.restaurants,fastfood)

    Drink(e.g.coffeebars,pubs&clubs)

    Travel(forbusinessandleisure,nearorfar)

    Socialise(ascouples,withfamily,withfriends)

    Beeducated(asachild,adult,forworkorotherreasons)

    Asyoucanimagine,suchmarkets(iftheywerenotfurtherdividedintosmallerparts)wouldbeverybroadanddifficultforanewbusinesstotarget.

    Thegreatnewsforanynewbusinessisthatcustomersinanybroadmarketarenotthesame.Forexample,withinthemarkettoprovidemeals,customersdifferinthe:

    Benefitstheywant(foodquality,ambience,dietaryhealth)

    Amounttheyareabletoorwillingtopay(budget,expensive)

    Quantitiestheybuy(bulkbuyoroneoffpurchase)

    Timeandplacethattheybuy(fastfood,upmarketrestaurant)

    Itthereforemakessenseforbusinessestodivide(orsegment)theoverallmarketandtotargetspecificsegmentsofamarketsothattheycandesignanddelivermorerelevantproducts.Letslookatsegmentationinsomemoredetail.

    Segmentingthemarket

    Thereareseveralimportantreasonswhybusinessesshouldattempttosegmenttheirmarketscarefully.Theseare:

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    Bettermatchingofcustomerneeds

    Customerneedsdiffer.Creatingseparateproductsforeachsegmentmakessenseandprovidescustomerswithabettersolution

    Betteropportunitiesforgrowth

    Marketsegmentationcanbuildsales.Forexample,customerscanbeencouragedto"tradeup"afterbeingintroducedtoaparticularproductwithanintroductory,lowerpricedproduct

    Moreeffectivepromotion

    Bysegmentingmarkets,targetcustomerscanbereachedmoreoftenandatlowercost

    Gainahighershareofthemarket

    Throughcarefulsegmentationandtargeting,businessescanoftenbecomethemarketleader,evenifthemarketissmall

    Therearemanywaysinwhichamarketcanbebrokendownintosegments.

    Averypopularmethodofdemographicsegmentationlooksatfactorssuchasage,gender,incomeandsoon.Thesearedescribedbrieflybelow:

    Age Businessesoftentargetcertainagegroups.Goodexamplesaretoothpastelookatthevarietyoftoothpasteproductsforchildrenandadults)andtoys(e.g.preschool,59,1012,teen,family)

    Gender Weallknowthatmalesandfemalesdemanddifferenttypesofthesameproduct.Greatexamplesincludetheclothing,hairdressing,magazine,toiletriesandcosmeticsmarkets

    Income Manycompaniestargetrichconsumerswithluxurygoods(e.g.Lexus,Bang&Olufsen).Otherbusinessesfocusonproductsthatappealdirectlytoconsumersonlowincomes(e.g.AldiandLidl(discountedgroceries)andfastfashionretailerssuchasTKMaxx)

    Socialclass Manybusinessesbelievethataconsumers"perceived"socialclassinfluencestheirpreferencesforcars,clothes,homefurnishings,leisureactivitiesandotherproducts&services

    Anotherapproachisknownasgeographicsegmentation.Thistriestodividemarketsusing:

    Regions:e.g.intheUKthesemightbeEngland,Scotland,WalesNorthernIrelandor(atamoredetailedlevel)countiesormajormetropolitanareas

    Countries:perhapscategorisedbysize,developmentormembershipofgeographicregion

    City/townsize:e.g.populationwithinrangesoraboveacertainlevel

    Populationdensity:e.g.urban,suburban,rural,semirural

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    Itwouldbenicetothinkthatmarketsegmentationistheanswertoanentrepreneursproblems.Byspottingaclearnichemarketusingsegmentation,thestartupbusinesscanfocusallitseffortsonreachingthetargetcustomerbase.

    Limitationsofsegmentation

    Ifonlybusinesslifewasthatsimple.Itisnt.Herearesomekeylimitationswithmarketsegmentation:

    Lackofinformationanddata:somemarketsarepoorlyresearchedwithlittleinformationaboutdifferentcustomerneedsandwants

    Difficultyinmeasuringandpredictingconsumerbehaviour:humansdontallbehaveinthesamewayallofthetime.Thewaythattheybehavealsochangesovertime!Agoodexampleisthegreygeneration(i.e.peopleagedover50).Theattitudesandlifestylesofthegreygenerationhavechangeddramaticallyinrecentyears.

    Hardtoreachcustomersegmentsonceidentified:itisonethingspottingasegment;itisanotherfindingtherightwaytoreachtargetcustomerswiththerightkindofmarketingmessage

    Marketmapping

    Onceanentrepreneurhasidentifiedanappropriatesegmentofthemarkettotarget,thechallengeistopositiontheproductsothatitmeetstheneedsandwantsofthetargetcustomers.

    Onewaytodothisistouseamarketmap(youmightalsoseethiscalledbyitspropernametheperceptualmap).

    Themarketmapillustratestherangeofpositionsthataproductcantakeinamarketbasedontwodimensionsthatareimportanttocustomers.

    Examplesofthosedimensionsmightbe:

    Highpricevlowprice BasicqualityvHighquality Lowvolumevhighvolume Necessityvluxury Lightvheavy Simplevcomplex Lotechvhightech YoungvOld

    Letslookatanillustratedexampleofamarketmap.Themapbelowshowsonepossiblewayinwhichthechocolatebarmarketcouldbemappedagainsttwodimensionsqualityandprice:

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    Howmightamarketmapbeused?

    Onewayistoidentifywheretherearegapsinthemarketwheretherearecustomerneedsthatarenotbeingmet.

    Forexample,inthechocolatebarmarket,DivineChocolate(asocialenterprise)successfullyspottedthatsomeconsumerswerepreparedtopayapremiumpriceforveryhighqualitychocolatemadefromFairtradecocoa.Green&Blacksexploitedtheopportunitytosellpremiumchocolatemadefromorganicingredients.Boththesebrandssuccessfullymovedintothehighquality/highpricequadrant(seeabove)beforetoomanycompetitorsbeatthemtoit.

    Thetrickwithamarketmapistoensurethatmarketresearchconfirmswhetherornotthereisactuallyanydemandforapossiblegapinthemarket.Theremaybeverygoodreasonswhyconsumersdonotwanttobuyaproductthatmight,potentially,fillagap.

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    Analysing the Competition Understandingthecompetition

    Almostnobusiness,largeorsmall,operateswithoutanycompetitors.Ifthereisonethingthatgivesanentrepreneursleeplessnights,itistheworryingaboutwhatcompetitorsaregettingupto.Willtheycopythegoodbusinessidea?Willtheyreducepricesandgrabsomepreciouscustomers?Whatnewproductsaretheyplanningandhowwillcustomersreact?

    Somebusinessesthinkitisbesttogetonwiththeirownplansandignorethecompetition.Othersbecomeobsessedwithtrackingtheactionsofcompetitors(oftenusingunderhandorillegalmethods).Manybusinessesarehappysimplytotrackthecompetition,copyingtheirmovesandreactingtochanges.

    Therearesomegoodreasonswhyanybusinessneedstokeepacloseeyeoncompetitors:

    Tohelpthebusinessunderstandwheretheycancreateanadvantage Tofindoutabout,andrespondto,competitoractions Toseeifcompetitorsareinvestinginnewandbetterproducts Tospotchangesinthewaysthatcustomersbuy

    Thereisnoexcuseforanentrepreneurnottokeepaneyeonthecompetitionthereislotsofinformationthatisreadilyavailable.

    Gettingthisinformationandputtingittogetherisabitlikedoingajigsawpuzzle.Eachindividualpieceofdatadoesnothavemuchvalue.Theimportantskillistocollectasmanyofthepiecesaspossibleandtoassemblethemintoanoverallpictureofthecompetitor.Thisenablesthebusinesstoidentifyanymissingpiecesandtotakethenecessarystepstocollectthem.

    Whatdobusinessesneedtoknowabouttheircompetitors?Herearesomeexamplesofinformationthatwouldbeveryusefulassumingitcouldbeobtained!

    Overallsalesandprofits,byproductandmarket Businesscosts(usuallyanestimate) Organisationstructure Methodsofpromotionanddistribution Keycustomersandsuppliers Productqualityandreputation

    Doescompetitionbenefitcustomers?

    Businessesmightprefertooperatewithlittle(ifany)competition.However,itiswidelyacceptedthatstrongcompetitionandrivalryinamarketisgoodnewsforcustomers.

    Thebenefitsofcompetitioninclude:

    Greaterchoiceforconsumers Pricesarekepttoasensiblelevelascompetitorscompeteonpricetoachievesales

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    Thereisastrongincentiveforbusinessestoinvestinnewproductsthroughinnovationandinvention

    Successfulbusinessesarethosethatdeliverhighproductqualityandexcellentcustomerservice

    Ifcompetitionisagoodthing,arethereanydisadvantagesordrawbacksforcustomers?Therearesome:

    Businessescanbecometoofocusedonshorttermsuccessratherthaninvestingforthelongterm

    Cuttingbusinesscoststoremaincompetitivemightmeanabusinesstakingshortcutsonimportantaspectssuchashealth&safetyandproductquality.Employeesworkinginthebusinesswouldalsosufferfromthis

    Abusinessmightneglectitssocialobligations(e.g.nottakingcareofwastedisposalorcomplyingwithenvironmentalregulations)orbehaveunethically(e.g.pressurisedsellingtechniques)

    Waysinwhichabusinesscancompeteeffectively

    Withallthatcompetitionoutthere,howdoesasmallbusinesscompeteeffectively?

    Thestartingpointhastobebyprovidingagreatproduct!Inmostmarkets,customersarelookingforthebestvalueformoney.Thismeansthataproductwhichisbetterthanthecompetition,andwhichsellsforthesameprice,willmostlikelyprovetobeawinner.

    Itisoftenthecasethatabusinessneedstohavemorethanoneproductinordertosucceedinamarket.Offeringaproductrangeenablesabusinesstoprovidecustomerswithmorechoiceandpotentiallyattractcustomerswhobuyfordifferentreasons.

    Forexample,aproductrangemightincludeabudgetorbestvalueproduct,amidrangeproduct,andahigherpricepremiumproduct.Walkdowntheaisleofanylargesupermarketandlookattheownlabelrangestoseethisinaction.

    Qualityisanothergreatwaytocompeteeffectively.Aqualityproductisonethatmeetscustomerneeds.Maybethecustomerwantssomethingthatis100%reliable,orwhichuseshighqualitymaterials.Asuccessfulbusinesscancompetebyconsistentlyachievingtherequiredqualitylevel.

    Byfocusingonahighqualityproduct,asuccessfulbusinessisoftenabletodevelopitsbrandreputation.Inmanyconsumermarkets,brandsareanimportantsourceofadvantage.Customerstrustgoodbrands,aremoreloyaltothem,andareoftenpreparedtopayahigherpricetoo.

    Customerserviceisanimportantwayofbeatingthecompetition.Buyingtheproductisonethingbutwhataboutthelevelofaftersalesservice?Isthatanareawhereasmallbusinesscangainanadvantage?Theoverallsellingexperienceforacustomercanbemadetobebetterthanthecompetitionarestaffwellinformedandfriendly?

    Priceistheothermainmethodofcompeting.Formanybusinesses,thepricechargedisareflectionoftwofactors:

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    (1) Whattheothercompetitorsarecharging(2) Whattheproductcoststomakeorbuy

    Ifabusinessoperatesefficiently,thatgivesitabetterchanceofbeingabletoofferalowerpricethancompetitorsandstillmakeareasonableprofit.

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    Adding Value Whatisaddedvalue?

    Addingvaluesoundslikeabitofbusinessjargonanditis!However,italsohasquiteaprecisemeaningwhichisimportant.Soitisworthlearningthis:

    Addingvalue=thedifferencebetweenthepriceofthefinishedproduct/serviceandthecostoftheinputsinvolvedinmakingit

    Addedvalueisequivalenttotheincreaseinvaluethatabusinesscreatesbyundertakingtheproductionprocess.

    Itisquiteeasytothinkofsomeexamplesofhowaproductionprocesscanaddvalue.

    Considertheexamplesofnewcarsrollingdowntheproductionlinebeingassembledbyrobots.Thefinal,completedandshinynewcarthatcomesofftheproductionlinehasavalue(price)thatismorethanthecostofthesumoftheparts.Valuehasbeenadded.Exactlyhowmuchisdeterminedbythepricethatacustomerpays.

    Alternatively,imagineacelebritychefpreparingamealathisluxuryrestaurant.Oncethecookingiscomplete,themealisbeingservedandsoldforahighprice,substantiallymorethanthecostofbuyingtheingredients.Valuehasbeenadded.

    YoudonthavetouserobotsorhavetheculinaryskillsofGordonRamsaytoaddvalue.Forexample,businessescanaddvalueby:

    Buildingabrandareputationforquality,valueetcthatcustomersarepreparedtopayfor.NiketrainerssellformuchmorethanHitec,eventhoughtheproductioncostsperpairareprobablyprettysimilar!

    Deliveringexcellentservicehighquality,attentivepersonalservicecanmakethedifferencebetweenachievingahighpriceoramediumone

    Productfeaturesandbenefitsforexample,additionalfunctionalityindifferentversionsofsoftwarecanenableasoftwaresellertochargehigherprices;differentmodelsofmotorvehiclesaredesignedtoachievethesameeffect.

    Offeringconveniencecustomerswilloftenpayalittlemoreforaproductthattheycanhavestraightaway,orwhichsavesthemtime.

    Abusinessthatsuccessfullyaddsvalueshouldfindthatitisabletooperateprofitably.Why?Rememberthedefinitionofaddingvalue:wherethesellingpriceisgreaterthanthecostsofmakingtheproduct.

    Bydefinition,abusinessthatisaddingsubstantialvaluemustalsobeoperatingprofitably.

    Findingwaystoaddvalueisareallyimportantactivityforastartuporsmallbusiness.Quitesimply,itcanmakethedifferencebetweensurvivalandfailure;betweenprofitandloss.

    Thekeybenefitstoabusinessofaddingvalueinclude:

    Chargingahigherprice Creatingapointofdifferencefromthecompetition

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    Protectingfromcompetitorstryingtostealcustomersbycharginglowerprices Focusingabusinessmorecloselyonitstargetmarketsegment

    Anexampleofaddedvalue

    ConsiderwhathappenstotheingredientsinapacketofTyrrellsCrisps.

    Actually,Tyrrellscalltheircrispspotatochips.Accordingtotheirwebsite:

    Wegrowourownpotatoesandturnthemintogreattasting,crunchypotatochips.We'reincontrolfrom'seedtochip',andthat'swhatmakesourchipsdeliciouslyunique.

    Themainingredientforapacketofpotatochipsis,unsurprisingly,potatoes.

    So,howmuchaddedvalueiscreatedbytheproductionprocess,turningpotatoesintocrisps(sorry,chips)?

    Itistimetodosomemaths!Welltrytokeepitsimple!

    Potatoesaresoldbyfarmersataround125permetrictonne.Thats1,000kgofpotatoes,whichequalsaround12.5penceperkilogramme.

    WhataboutapacketofTyrrellscrisps?Thetypical50ggrabbagofTyrrellscoststheretaileraround50pencetobuy(theconsumerthenpaysabout1perpacket).

    Ifthereare50gramsofpotatoinabag,thenthesalesvalueof1kgofTyrrellscrispswouldbeapproximately:50x20x0.50=500

    So,foreachtonneofpotatoes,Tyrrellsisturningsomethingthattheycouldsellfor125intosomethingtheysellfor500.

    Thedifferencebetween500and125isnotquitethetotaladdedvalue.Tyrrellshastotakeaccountoftheotherproductioncosts(e.g.labour,energy,andotheringredients).

    However,youcanseehowtheproductionprocessofturningthehumblepotatointobagsofpremiumpricedcrispsisagoodexampleofabusinessthatisaddingvalue.

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    Franchising for Start-ups Thefranchiseapproach

    Abusinessideaforastartupdoesn'thavetobeoriginal.Manynewbusinessesareformedwiththeintentionofofferinganexistingbusinessidea.Theuseoffranchisesisagreatexampleofthat.

    Thebasicideaforafranchiseisthis.

    Afranchisorgrantsalicence(the"franchise")toanotherbusiness(the"franchisee")toallowittotradeusingthebrandorbusinessformat.

    Thatmightsoundabitcomplicated!Thetrickistorememberthatthefranchisorisinchargethefranchisoristheoriginalownerofthebusinessidea.

    FranchisesareasignificantpartofbusinesslifeintheUK:

    Franchisesgeneratedannualsalesof12.4billionintheUKin2007 Thereareover800differentfranchisedbusinessformatsintheUKandthatnumber

    isrisingbyaround5%eachyear

    Theaveragesalesturnoverperfranchiseoutletis360,000 90%offranchisesarereportedtobeprofitable Afranchisehasaverageborrowingsof70,000,suggestingthatbanksarehappierto

    makeloanstofranchisebusinessesthanotherstartups

    Thetypicalfranchiseeisaged47.66%aremenand86%offranchiseesaremarried! Franchisesareparticularlypopularintheservicesector

    Examplesofwellknownbusinessesthatusefranchisingtoexpandtheiroperationsinclude:

    Subway McDonalds Starbucks PizzaHut Thorntons MollyMaid Prontaprint

    Youmighthavenoticedfromthelistabovethatnearlyallthosebusinessesprovideservicesratherthanproducegoods.Franchisingisparticularlysuitableforservicebusinesses.

    Advantagesofrunningafranchise

    Forastartupentrepreneur,thereareseveraladvantagestoinvestinginafranchise:

    Itisstillyourownbusinessevenifyouaresharingtheprofitswiththefranchisor Theinvestmentshouldbeinatriedandtestedformatandbrand

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    Thefranchiseegetsadvice,supportandtraining.Thefranchisorwillalsosupplykeyequipment,suchasITsystems,whicharedesignedtosupporttheoperationofthebusiness

    Itiseasiertoraisefinancethehighstreetbankshavesignificantexperienceofprovidingfinancetofranchises

    Noindustryexpertiseisrequiredinmostcases Thefranchiseebenefitsfromthebuyingpowerofthefranchisor Itiseasiertobuildacustomerbasethefranchisebrandnamewillalreadyby

    establishedandmanypotentialcustomersshouldalreadybeawareofit

    Thefranchiseeisusuallygivenanexclusivegeographicalareainwhichtooperatethefranchisewhichlimitsthecompetition(sinceoperatorsofthesamefranchisearenotindirectcompetitionwitheachother)

    Overall,investinginafranchiseisalowerriskmethodofstartingabusinessandthereisalowerchanceofbusinessfailure

    Disadvantagesofrunningafranchise

    Thereareseveraldisadvantagesforthefranchisee:

    Franchisesarenotcheap!Thefranchiseehastopaysubstantialinitialfeesandongoingroyaltiesandcommission.He/shemayalsohavetobuygoodsdirectlyfromthefranchisoratamarkup

    Therearerestrictionsonmarketingactivities(e.g.notbeingallowedtoundercutnearbyfranchises)andonsellingthebusiness

    Thereisalwaysariskthatthefranchisorwillgooutofbusiness Thefranchiseneedstoearnenoughprofittosatisfyboththefranchiseeand

    franchisortheremaynotbeenoughtogoround!

    Therearemanygoodfranchiseopportunitiesavailableforastartup,butsomepooronestoo.Sothereisstillaneedfortheentrepreneurtodomarketresearchintothefranchise

    Afranchiseisakindof"halfwayhouse"forabuddingentrepreneur.Itisalowerriskmethodofmarketentryanditisofteneasiertoraisefinance.However,runningafranchisedoesnotofferthesamekindoflongtermfinancialrewardsthatowningabusinessoutrightcan.

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    Topic1.2ShowingEnterprise

    Section KeyThingstoLearn

    Whatisenterprise? ThemeaningofenterpriseInitiativeandrisktakingWhatisanentrepreneur?

    Thinkingcreatively SourcesofbusinessideasWhatmakesagoodbusinessidea?Deliberatecreativity

    Questionsanentrepreneurasks

    Keyquestionsforthestartup

    Inventionandinnovation ProtectinganinventionSuccessthroughinnovation

    Takingcalculatedrisks TherisksofabusinessstartupWhystartupsfailTakingcalculatedrisksRewardsfromenterprise

    Importantenterpriseskills

    Skillsneededtobeanentrepreneur

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    What is Enterprise? Themeaningofenterprise

    Thetermenterprisehastwocommonmeanings.

    Firstly,anenterpriseissimplyanothernameforabusiness.YouwilloftencomeacrosstheuseofthewordwhenreadingaboutstartupsandotherbusinessesSimonCowellsenterpriseorMichellesetuphersuccessfulenterpriseafterleavingteaching.

    Secondly,andperhapsmoreimportantly,thewordenterprisedescribestheactionsofsomeonewhoshowssomeinitiativebytakingariskbysettingup,investinginandrunningabusiness.

    Lookagainattwokeywordsaboveinitiativeandrisk.

    Apersonwhotakestheinitiativeissomeonewhomakesthingshappen.Heorshetendstobedecisive.Abusinessopportunityisidentifiedandthepersondoessomethingaboutit.Showinginitiativeisabouttakingdecisionsandbeingboldnoteveryoneislikethat!

    Risktakingisslightlydifferent.Inbusinessthereisnosuchthingasasurefirebet.Allbusinessinvestmentscarryanelementofriskwhichisthechanceorprobabilitythatthingswillgowrong.Attheworst,theriskofanenterprisemightmeanthepersonmakingtheinvestmentlosesallhis/hermoneyorbecomespersonallyliableforthedebtsofthebusiness.

    Thetrickistotakecalculatedrisks,andtoensurethatthelikelyreturnsfromtakingariskareenoughtomakethegambleworthwhile.

    Someonewhoshowsenterpriseisanentrepreneur.Soletslookatthattermnext!

    Whatisanentrepreneur?

    Therearemanydefinitionsofwhatismeantbyanentrepreneur,buttheytendtosaythesamething,whichisthatanentrepreneuris

    Someonewhotakesariskbystartingabusiness

    Anentrepreneurissomeonewhoisenterprising.Inotherwordshe/she:

    Takestheinitiativeintryingtoexploitabusinessopportunity Takestimetounderstandandcalculatetherisksinvolved Makesaninvestmenttosetupthebusiness Goesahead,despitetheriskthatthebusinessventuremightfail

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    Thinking Creatively Sourcesofbusinessideas

    Wheredoesanentrepreneurcomeupwiththeideaforhis/herbusiness?Inpracticetherearemanywaysinwhichthebusinessopportunityandideaisfirstspotted.Asweshallsee,sometimesluckplaysabigpart;atothertimesthereisaroleforapproacheswhichencouragedeliberatecreativity.

    Herearesomeofthemainsourcesofbusinessideasforstartups:

    Businessexperience

    Manyideasforsuccessfulbusinessescomefrompeoplewhohaveexperienceofworkinginaparticularmarketorindustry.Forthestartup,thereareseveraladvantagesofapplyingthisexperiencetoanewbusiness:

    Betterandmoredetailedunderstandingofwhatcustomerswant Knowledgeofcompetitors,pricing,suppliersetc Lessneedforstartupmarketresearch Entrepreneurisabletomakemorerealisticassumptionsinthebusinessplanabout

    sales,costsetc

    Industrycontacts,whomightthenbecomethefirstcustomersofthestartup!

    Alloftheabovehelpthebusinessplanningprocessandyoucouldarguethattheyreducetherisksofastartup.

    Ontheotherhand,youmightarguethatfamiliaritybreedscontempt.Inotherwords,detailedexperienceofanindustrymeansthatthebuddingentrepreneurdoesnthaveafreshperspective.Someonewhoisnewtoamarketmaybeabletoexploitapproachesthathaveworkedinotherindustriestomakeanimpactwiththestartup.

    Personalexperience

    Manyideascometoentrepreneursfromtheirdaytodaydealingsinlife,orfromtheirhobbiesandinterests.

    Forsomeofus,frustratingorbadexperiencesareasourceofirritation.Fortheentrepreneurtheymightsuggestabusinessopportunity.

    Itisoftensaidthatoneofthebestwaystospotabusinessopportunityistolookforexamplesofpoorcustomerservice(complaints,productreturns,persistentqueuesetc).Suchexamplessuggestthatthereisanopportunitytodosomethingbetter,quickerorcheaperthantheexistingproducts.

    Hobbiesandinterestsarealsoarichsourceofbusinessideas,althoughyouhavetobecarefultoavoidassumingthat,justbecauseyouhaveapassionforcollectingraretinopeners,thereisareadymarketfrompeoplewithsimilarinterests!Manypeoplehavetriedtoturntheirhobbyintoabusinessandfoundthatgeneratesonlyasmallcontributiontohouseholdincome.

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    Observation

    Simplyobservingwhatgoesonaroundyoucanbeagoodwayofspottinganidea.Oftenanideawillbelaunchedinanothercountryandhasnotyetbeentriedinother,similareconomies.WhenStephenWaringwasintheUSAattendingawedding,byluckhesatnexttosomeonewhoranahouseholdservicebusiness(treatinglawns).Aftersomebriefmarketresearch,StephenfoundoutthattherewasnosimilarbusinessintheUK,sohelaunchedone.IthassincebecomeahugelysuccessfulfranchisebusinessGreenThumb.

    Itisworthlookingatsomeotherexamplesofhowsuccessfulstartupsgottheirideasinordertoappreciatethediversityofsources.Herearesomegoodones:

    Business Entrepreneur WheretheIdeaCameFrom

    GlassesDirect JamesMurrayWells

    Jameswasfedupwithbeingchargedripoffpricesforprescriptionglasses.Heresearchedthesupplychainandfoundhecouldofferconsumersthesameproductatsubstantiallycheaperpricesbysellingdirect.

    KingofShaves WillKing Willfoundtraditionalwetshavingpainfulduetohissensitiveskin.Hisgirlfriendsuggestedusingoiltosmooththeprocess.Anoilbasedsolutiontoshavingwasdevelopedandisnowaworldleader.

    TyrrellsCrisps WillChase Willneededtofindanalternativeusefortheoutputfromhislossmakingpotatofarm.Headdedvaluetothepotatoesbyturningthemintopremiumpricedcrisps.

    Superjam FraserDoherty Fraserturnedhisgrandmothersrecipeforsugarfreejamsintoabestsellinggrocerybrand.

    BeautifulVending

    NeilMackay&RichardStarrett

    Neil&Richardspottedthepotentialforgroomingmachineswhilstworkinginentertainmentsindustry.

    JoJingles GillThomas Gillmadealifestylechoicetomoveoutofthecorporateworldandsetupherownbusiness.Shecombinedherpersonalinterestinteachingmusictochildrenwithanideaforafranchiseformat.

    Whatmakesagoodidea?

    Havinganideaforabusinessistheeasybit.Itismuchhardertoworkoutwhethertheideahaspotential.

    Goodbusinessideastendtohaveoneormoreofthefollowingcharacteristics:

    Theysolveaproblem Offeracheaperorbetterwayofdoingthingsthanexistingproductsorservices

    http://www.greenthumb.co.uk/http://www.glassesdirect.co.uk/http://www.shave.com/http://www.tyrrellspotatochips.co.uk/http://www.eatsuper.com/http://www.beautifulvending.com/http://www.beautifulvending.com/http://www.jojingles.co.uk/

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    Aresimpleandpracticable Canbedevelopedanddeliveredtothemarketquickly Haveaclearfocusonmeetingtheneedsofthetargetcustomer Anticipatemarkettrendsandexploitgrowthopportunities

    Deliberatecreativity

    Anentrepreneurisalwaysonthelookoutforabusinessopportunitythethinkingprocesstakesplaceconstantly.

    However,itcanalsobearguedthataformalprocessofcreativethinkingcanalsohelpsomeonesetupanewbusiness.Thisisoftenreferredtoasdeliberatecreativity.

    Herearesomeofthemodelsorapproachestodeliberatecreativitywhichmightbeusedbyastartup:

    Blueskiesthinking:

    Thisisakindofbrainstorminginwhichthethinkingprocessallowsnolimitsinwhatissuggestedandnopreconceptionsaboutwhattheanswermightbe.Blueskiesthinkingencouragescontributorstothrowinasmanyideasaspossible.Onlywhentheflowofideashasstoppeddoestheprocessgoontoconsiderwhichideasmighthavecommercialpotential.

    Lateralthinking

    OriginallycreatedbyEdwardDeBono,lateralthinkingisaboutreasoningthatisnotimmediatelyobviousandaboutideasthatmaynotbeobtainablebyusingonlytraditionalstepbysteplogic.Lateralthinkingissometimescalledthinkingoutsidetheboxittriestocomeupwithnewandunexpectedideas.

    Sixthinkinghats

    AnotherapproachtocreativethinkingfromDeBonothisisathinkingtoolforgroupdiscussionandindividualthinking.

    Theapproachidentifiessixtypesofstylesofthinkingwhichcanbeusedtocomeupwithideasandfocusthegroupongoodideas:

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    Neutrality(whiteHat)

    Consideringpurelywhatinformationisavailable,whatarethefacts?Quantitativedataonamarket(e.g.sales,existingproducts)wouldbeconsideredwiththishaton.

    Feeling(redhat) Instinctivegutreactionorstatementsofemotionalfeeling(butnotanyjustification).Manyentrepreneursrelyontheirinstinctiveorgutfeelwiththeirbusinessidea.

    Negativejudgement(blackhat)

    Logicappliedtoidentifyingflawsorbarriers,seekingmismatch.Theblackhatencouragestheentrepreneurtothinkaboutthethingsthatmightgowrongwithanidea.

    PositiveJudgement(yellowhat)

    Logicappliedtoidentifyingbenefits.Thisistheoppositeoftheblackhatwhatareallthepositivesorupsidesfromtheidea.Whatisthebestthatmighthappen?

    Creativethinking(greenhat)

    Statementsofprovocationandinvestigation,seeingwhereathoughtgoes.Thisisthehatwhichencourageslateralthinking.

    Processcontrol(Bluehat)

    Thinkingaboutthinking.Thebluehatencouragestheentrepreneurtoconsiderandevaluatetheideascomingfromtheotherfivehats!

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    Questions an Entrepreneur Asks Keyquestionsforastartup

    Anentrepreneurstartupupabusinessforthefirsttimeisfacedbymuchuncertainty.

    Itisworthwhiletakingaquestioningapproachtothestartupprocesssothatthekeyrisksareidentifiedandmanaged.

    However,ontheotherhand,anentrepreneurneedstobewaryabouttakingtoolongoverthesequestions.Itisusuallybettertobedecisiveratherthanditheroverquestionswhichmaynotbetooimportant.

    Amongstthekeyquestionsthatanentrepreneurshouldcertainlyconsiderare:

    DoIhaveaclearideaaboutthevisionforthebusiness? AmIreallydeterminedandcommittedtomakingthebusinesswork? DoIappreciateandacceptthepersonalchallengesandsacrificesthatIwillhaveto

    make? CanIhandletheinevitablefeelingofisolationandinsecuritythatastartupbrings? CanIaffordtofail?Whatarethefinancialimplicationsifthebusinessdoesnot

    succeed? Willcustomersreallybuytheproduct,assumingthatIgetitright? Whoalreadyprovidesthisproduct(orsomethingsimilar)andcanIdoitbetteror

    cheaper? HowwillIknowifthebusinessissucceedingorfailing? Ismybusinessplansufficientlyrealistic,particularlyintermsofcashflowsandlikely

    startuplosses? CanIaccesstheresources(cash,supplies,distribution)thatareneededtomakethe

    ideawork? DoIneedtoobtainlegalprotectionfortheidea?

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    Innovation & Invention Invention

    Aninventionissomethinggenuinelynewsomethingthathasnotbeendonebefore.Itcouldbeasubstance,aproduct,aprocessetc.

    ManyoftheentrepreneurswhoclimbthestepsleadinguptotheDragonsDenbelievethatnotonlyistheirinventionunique,butthatitalsohasgreatbusinesspotential.SeveralquestionsusuallyfollowfromtheDragons:

    Istheinventionreallyanoriginalidea? Haveanyalreadybeensold(i.e.isthereanyevidenceofdemand?) Canitbe,orhasitbeenprotectedbypatentstopreventcompetitorsfromcopying

    it?

    Inventionsariseafteraperiodofresearchoftentakingmanyyears.Theresearchprocessisusuallycostly,bothintermsofcashspentandtimetaken.Soitseemsreasonablethatagenuineinventionshouldbecapableofprotection.Foraninvention,theprotectioncomesfromapatent.

    AcommonquestionaskedofapplicantsonDragonsDenis"haveyougotpatentprotection"?However,therearesomestrictrulesthatmustbeappliedinorderforapatenttobegranted.Inorderforapatenttobegranted,theinventionmustbe:

    (1)New(2)Beaninnovativestep(i.e.notobvioustootherpeoplewithknowledgeofthesubject)(3)Becapableofindustrialapplication(i.e.itcanbemadeandused!)(4)Notbeexcluded(certaintypesofinventiondon'tcounte.g.scientifictheories,artisticcreations)

    Ifgranted,apatentgivestheownertherighttotakelegalactionagainstotherswhotrytotakecommercialadvantageoftheinventionwithoutgettingthepermissionofthepatentowner.Apatentcanlastforupto20years.

    Akeybenefitofapatentistheabilityofthepatentownerto"licence"therighttousetheinvention.Forexample,apatentownercouldgrantalargermanufacturingbusinesstherighttousetheideainaproduct,inreturnforaroyalty.

    Innovation

    Inventingsomethingnewisonething.Butmakingitcommerciallyviableisquiteanother.Thatiswhereinnovationcomesin.Innovationisaboutputtinganewideaorapproachintoaction.

    Innovationiscommonlydescribedas'thecommerciallysuccessfulexploitationofideas'.

    Successfulinnovationismainlyaboutcreatingoraddingvalue.Itdoessoeitherby:

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    Improvingexistinggoods,processesorservices(processinnovation),orby Developinggoods,processesorservicesofvaluethathavenotexistedpreviously

    (productinnovation)

    However,bothkindsofinnovationrequireabusinessto:

    Challengethestatusquo Haveadeepunderstandingofcustomerneeds Developimaginativeandnovelsolutions

    Innovationcancomeinmanyforms:

    Improvingorreplacingbusinessprocessestoincreaseefficiencyandproductivity,ortoenablethebusinesstoextendtherangeorqualityofexistingproductsand/orservices

    Developingentirelynewandimprovedproductsandservicesoftentomeetrapidlychangingcustomerorconsumerdemandsorneeds

    Addingvaluetoexistingproducts,servicesormarketstodifferentiatethebusinessfromitscompetitorsandincreasetheperceivedvaluetothecustomersandmarkets

    Whateverformittakes,innovationisacreativeprocess.Theideasmaycomefrom:

    Insidethebusinesse.g.fromemployees,inhousedesigners,salesstaff

    Outsidethebusiness,e.g.suppliers,customers,mediareports,marketresearchinsightsorfromcontactsatlocaluniversitiesorotherresearchorganisations

    Successfulinnovationcomesfromfilteringthoseideas,identifyingthosethatthebusinesswillfocusonandapplyingresourcestoexploitthem.

    Thebenefitscanbesignificant,including: Improvedproductivity&reducedcosts Buildingabrand Establishinganadvantageovercompetitors Highersalesandprofits

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    Taking Calculated Risks Risksofabusinessstartup

    Whatisrisk?Riskcanmeanseveralthings

    Thechanceoflossordamage Theprobabilitythatsomethinggoeswrong,leadingtoaloss Whenahopedforoutcomedoesnothappen

    Ifsettingupanewbusinesswasriskfree(i.e.adeadcert)thenwedalldoit.Thebadnewsforentrepreneursisthatinvestinginastartupishighlyrisky.

    Whatistherisk?Themainriskisthatthebusinesswillfailandthattheentrepreneurwilllosehis/herinvestment.Inthecaseofasoletraderorpartnership,theentrepreneurmayalsoenduppersonallyliableforthedebtsofthefailedbusiness(animportantreasonwhysavvystartupsuseprivatelimitedcompaniesastheirformofbusinessorganisation).

    Anotherriskisthatafailedbusinesswillleavetheentrepreneurstrugglingtofinanceanotherbusinessorgettinganormaljob.

    Andyetanotherriskisthestigmaoffailureitself.Thereisnoreasonwhypeopleshouldbeashamedoffailinginbusiness,butinrealitytheyare.

    Takentogether,youcanseewhytheserisksareoftenthemotivationforanentrepreneurtokeepgoing,evenwhenthebusinessisstrugglingbadly.Whenyouareriskingitallthenyouputheartandsoulintomakingthebusinessasuccess.

    Learningthelessonsoffailure

    Agoodwayofthinkingabouttherisksbeingtakenistoconsiderwhystartupandsmallbusinessesfail.Ifyoucanlearnfromandavoidthesemistakes,thenthenewbusinesshasagreaterchanceofsurvivalandsuccess.

    Herearethemainreasonswhynewbusinessesfail:

    Poormanagement Plainandsimple.Poordecisionsaretaken;costsarenotkeptundercontrol;managementdontunderstandtheirmarket&customerswellenoughandofferapoorqualityproduct

    Saleslowerthanexpected

    Itisveryeasytooverestimatethesalesthatwillbeachievedbyastartup.Thebusinessplancanbeoveroptimisticaboutthepricethatcustomerswillacceptandthevolumestheywillbuy

    Startupcoststoohigh

    Anothercommonweaknessofstartupbusinessplanning.Sometimescostsaresimplymissedoutaltogether.Alternativelytheamountisunderestimated.Thisisabigconcernatthestartupstage,wherefinanceislimited.Adelayedproductlaunchisoftenthecauseofstartupcostoverruns.

    Unexpectedshocks Thesecancomeinvariousformse.g.thefloodsintheUKduring2007ortheSwineFlupandemicin2009

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    Tooreliantonasmallnumberofcustomers

    Astartupthatistooreliantononeorafewcustomersisatgreaterriskoffailurethanonewhichhasabroader,morediversecustomerbase.Ifthecustomerrelationshipbreaksdown,orthecustomeritselffails,thenthebusinessisatrisk.

    Poorquality Thisislinkedtopoormanagement.Persistentpoorqualityproductsorserviceswillultimatelykillabusiness.

    Overtrading Sometimesasmallbusinesscangrowtooquicklyand,asaresult,itrunsintoseriouscashflowproblems.Abusinesswhosesalesgrowrapidlymightfindthatcustomerstaketoolongtopaytheirdebts,whereasstocksbuildandsuppliersdemandpaymentontime.Theresultcanbeabusinesswhichappearstobesuccessfulandprofitable,butwhichrunsoutofmoney.

    Takingacalculatedrisk

    Anentrepreneurcannotavoidriskinastartupandeveryoneknowsthatalargeproportionofnewbusinesseseventuallyfail.Thetrickistoassess:

    Whatthemainrisksareinanewbusiness(e.g.unexpectedcosts,lowerthanexpectedsales,failuretosecuredistribution)

    Theprobabilityoftheriskshappening(thishastobeanestimate) Whatwouldhappeniftherisksoccurcost,cashetc

    Thethirdpartoftheassessmentaboveisperhapsthemostimportant.Forthesmallbusiness,oftenstarvedofcash,evenarelativelysmalleventcanprovedisastrous.Theentrepreneurhastoassessthepotentialimpactonthebusinessofarisk,butalsoassesstheupside(wherethingsturnouttobebetterthanexpected).

    So,acalculatedriskcanbedefinedasfollows:

    Ariskthathasbeengiventhoughtfulconsiderationandforwhichthepotentialcostsandpotentialbenefitshavebeenweightedandconsidered

    Entrepreneurstakecalculatedriskseveryday,sincetheytakedecisionseveryday.Eachtimetheytakeadecisiontheyareweighingupthesignificanceoftheoptionsand(oftenintuitively)workingoutwhethertogoahead.

    Rewardsfromenterprise

    Thatsenoughaboutthenegativesideofsettingabusinessup.Whatabouttherewards?

    Welookedearlieratthemotivationsforsettingupabusiness.Manyoftheintangiblerewardsthatarisefrombeinginbusinesshappenbecausethesemotivesareachieved.

    Asenseofsatisfaction Buildingsomething Beingincontrol Makingthatfirstsale Openinganewlocation

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    Employingmorepeople Gettinganindustryawardorgoodpublicity Gettinggreatfeedbackfromcustomers

    Thesearethekindofnonfinancialrewardsthatgiveentrepreneursabuzz.

    However,ultimately,itisthefinancialrewardsthatjustifytheeffortandmaketakingtheriskworthwhile.

    Toillustratethepotentialfinancialrewards,herearesomeexamples:

    KarenDarbysoldherbusinessSimplySwitch,aserviceallowingconsumerstocompareratesforgasandelectricitysuppliersamongotherthings,totheDailyMailfor22million

    LindaBennett,oneofBritainsmostsuccessfulfemaleentrepreneurs,soldherwomensfashionchain,LKBennett,totwoventurecapitalistsfor70million

    GerryPackstarteduphisbusinessHolidayExtrasprovidingairporthotelroomsandparkingwithjust100.Hesolditin2005for43million

    DarrenRichardsstarteduphisonlinedatingagency(DatingDirect.com)withjust2,500andsolditeightyearslaterfor30million

    Youshouldalsorememberthatthereisastrongtraditionofentrepreneurswhohavebuiltandsoldonebusinessforasubstantialamountgoingontobuildothersuccessfulbusinesses.Theyneverlosetheentrepreneurialbuzz.Suchpeoplearecalledserialentrepreneurs.

    http://www.simplyswitch.com/http://www.lkbennett.com/http://www.holidayextras.co.uk/http://www.datingdirect.com/

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    Important Enterprise Skills Skillsneededtobeanentrepreneur

    Thepersonalcharacteristicsofsuccessfulentrepreneursarewelldescribedinmanybooksandarticlesonstartups.Characteristicssuchasresilience,determination,persistenceandenergyareseenaskey.

    Butwhataboutthespecificskillsthatareimportanttosuccess?Herearesomeofthemainones:

    Planningandthinking:

    Athoughtfulbusinessplanandtakingtimetoanticipatepotentialproblemsandmarketchangesarebothexamplesofgoodplanningandthinking.Anentrepreneurisalwaysthinkingaboutwhetherhe/shehascoveredtherisksintheexistingbusinessandhasspottedthenewopportunities.

    Decisionmaking:

    Indecisivenessinbusinesscanbefatalthereisrarelyroomforanentrepreneurtobeaditherer!Ifaprojectorproductislosingmoneyandshowsnosignsofbeingturnedaround,thenitshouldbeditched.Businessdecisionsshouldbetakenonthebasisofthebestavailableinformationbuttheimportantthingisthatdecisionsaretaken!

    Makingconnections:

    Usingtoolslikemindmapsandotherthinkingandplanningapproachesaregoodwaystoensurethattheentrepreneurhasconsideredalltheissues.

    Showingleadership:

    Thisisassociatedwithpersonalcharacteristicssuchaspersuasiveness,driveanddetermination.Anentrepreneuroftenneedstoshowleadershipinordertobringpeoplewithhim/her.Staffmayneedtobepersuadedtojoinabusinessthatlooksrisky,asdosuppliersandfinanceproviders.

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    Topic1.3PuttingaBusinessIdeaintoPractice

    Section KeyThingstoLearn

    Objectivesofanewbusiness

    FinancialandnonfinancialmotivesforstartingabusinessSocialenterprise

    Qualitiesofanentrepreneur

    RoleofentrepreneursKeycharacteristicsofsuccessfulentrepreneurs

    Revenuesanddemand CalculatingrevenueFactorsthataffectdemandProblemswithestimatingrevenuesAchievingrepeatbusiness

    Costs TypesofcostProblemsestimatingcosts

    Profit MeaningandimportanceofprofitHandlingaloss

    Forecastingcashflows Whatiscashflow?MaincashinflowsandoutflowsinasmallbusinessWhystartupssufferfromcashflowproblemsRoleandimportanceofacashflowforecastActionstoimprovecashflow

    Thebusinessplan WhatisabusinessplanBenefitsofbusinessplanningWhatthebusinessplanshouldincludeandcover

    Obtainingfinance KeychoiceswhenraisingfinanceforastartupMainsourcesoffinanceforasmallbusinessWhyusepersonalsourcestofundthestartup

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    Objectives of a New Business Whatmotivatessomeonetobecomeanentrepreneur?

    Moneyofcourse!Thechancetoearnsignificantprofits,buyayacht,takenumerousholidays,buydesignergoodsandsendthekidstothebestprivateschools.

    But,waitaminute!Ismoneyandpersonalwealthreallythemainmotivation?

    Evidencesuggeststhattherearemanymorereasonswhysomeonewantstostartabusiness.

    Everybusinessstartssmall.Butbytakingonsomecalculatedrisks,alotofdeterminationandsomeluck,astartupbusinesscanbecomeverylarge,profitableandvaluable.However,noteveryentrepreneurwantstobuildabigbusinessandearnafortune.

    Theobjectiveswhenstartingabusinesscanbebroadlysplitintotwocategories:

    Financialobjectives,and Nonfinancialobjectives

    Themediatendtofocusonthefinancialobjectivessoletsdealwiththesefirst.

    Financialobjectives

    Mostbusinessstartupsbeginwithonemainfinancialobjectivetosurvive.

    Whysurvival?Becausealargepercentageofnewbusinessesdonotsurvivemuchbeyondtheirlaunch.Theentrepreneurdiscoversthatthebusinessideaisnotviablethebusinesscannotberunprofitablyoritrunsoutofcash.Startupshaveahighfailurerate.

    Survivalisaboutthebusinesslivingwithinitsmeans.Tosurvive,thebusinessneedstohaveenoughcashtopaythedebtsofthebusinessastheyarisesuppliers,wages,rent,rawmaterialsandsoon.Tosurvive,abusinessneedstohave:

    Sufficientsourcesoffinance(e.g.cash,abankoverdraft,sharecapital) Aviablebusinessmodeli.e.onewhichcanmakeaprofit

    Ifsurvivalcanbeassured,thenprofitisthenextmostimportantfinancialobjectiveforanewbusiness.Aprofitisearnedwhentherevenueofthebusinessexceedsthetotalcosts.Theentrepreneurcanchoosetoreinvest(akaretain)theprofitinthebusiness,ortakeitoutasapersonalpaymentordividend.

    Formanysmallbusinessowners,profitisthereturnforallthehardworkandriskstaken.Profitistherewardfortakingariskandmakinganinvestment.Ideally,theprofitearnedissufficienttoprovidetheentrepreneurwithenoughincometolive.Inmanycasesitwillbemorethansufficient,oncethebusinesshasbeentradingsuccessfullyforafewyears

    However,itisimportanttoappreciatethat,tomakeasustainableprofit,anewbusinessneedstobeableto:

    Addvalue

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    Sellintoalargeenoughmarket

    Anotherfinancialobjectiveispersonalwealth.Someentrepreneurshaveanobjectivethatgoesbeyondwantingtoearnanadequateincome.Theyaimtobuildavaluablebusinessthatcansubstantiallyincreasetheirpersonalwealth.

    Nonfinancialobjectives

    Contrarytopopularbelief,startingabusinessisnotalwaysaboutfinancialobjectives.Veryoftenanewbusinessisstartedwithother,nonfinancialobjectivesinmind.

    Herearesomeofthenonfinancialmotivesthatareoftenquotedbyentrepreneurs:

    Morecontroloverworkinglifewanttochoosewhatkindofworkisdone.Theneedforgreaterindependenceisamajormotivator.

    Needamoreflexibleandconvenientworkschedule,includingbeingabletoworkfromorclosetohome.Thismotiveisanimportantreasonbehindthemanyhomebasedbusinessstartups

    Feelthatskillsarebeingwastedandthatpotentialisnotbeingfulfilled Wanttoescapeanuninterestingjoborcareer Adesiretopursueaninterestorhobby Fedupwithbeingtoldwhattodowanttobetheboss! Wantthefeelingofpersonalsatisfactionfrombuildingabusiness Wantagreatershareoftherewardsfromtheeffortbeingputincomparedwith

    simplybeingpaidbyanemployer Fedupwithworkinginabusinesshierarchyorbureaucraticorganisation(people

    withentrepreneurialcharacteristicsoftenfeelstifledworkingandhavingtocoexistwithothers!

    Asaresponsetoashockorothermajorchangeinpersonalcircumstancese.g.redundancy,divorce,illness,bereavement

    Socialenterprise

    OnekindofbusinessstructurethathasgrownrapidlyintheUKinrecentyearsisthesocialenterprise.Socialenterprisesarethemostcommonformofnotforprofitenterprises.

    Theclueinthephrasenotforprofittellsyoumuchabouttheaimsandobjectivesofsocialenterprises.However,itisimportanttoappreciatethatasocialenterpriseisnotacharity.

    Socialenterprisesaredefinedas:

    Businesseswithprimarilysocialobjectiveswhosesurplusesareprincipallyreinvestedforthatpurposeinthebusinessorcommunity,ratherthanbeingdrivenbytheneedtomaximiseprofitforshareholdersandowners.

    Inotherwords,asocialenterpriseisaproperbusinessthatmakesitsmoneyinasociallyresponsibleway.Theseventuresarenotnecessarilyformedtoreinvestallprofitsintothecommunities.Socialentrepreneurscanmakeagoodprofitthemselves.However,theirbusinessmodelisalsodesignedtobenefitothers.

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    Socialenterprisescompletealongsideotherbusinessesinthesamemarketplace,butusebusinessprinciplestoachievesocialaims.

    Afewthingsallsocialenterpriseshaveincommonare:

    Theyaredirectlyinvolvedinproducinggoodsorprovidingservices Theyhavesocialaimsandethicalvalues Theyareselfsustaining,anddonotrelyondonationstosurvive(i.e.theyarenot

    charities)

    WellknownexamplesofsocialenterprisesincludeDivineChocolate,theEdenProjectandfairtradecoffeecompanyCafedirect.

    Recentgovernmentdatasuggeststhattherearemorethan55,000socialenterprisesintheUKwithacombinedturnoverof27bn.Socialenterprisesaccountfor5%ofallbusinesseswithemployees,andcontribute8.4billionperyeartotheUKeconomy.

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    Qualities of an Entrepreneur Introduction

    Inrecentyearsthemediahaveglamorisedthechallengeofstartingandgrowingabusiness.AquicksearchonAmazon.co.ukwilldisplaymanybooksbyentrepreneursandotherbusinessexpertsdescribinghowtheymadeit,myfirstmillionetc.PrimetimetelevisionshowssuchasDragonsDen,RiskingitAllandTheApprenticehaveprovedhugelypopularbyshowcasingthechallengesfacedinsettingupabusiness.EntrepreneurssuchasLordSugar,SirRichardBransonandSirJamesDysonhaveearnedenormousfortunesandprovideinspirationforthenextgenerationofbuddingbusinessleaders.

    Entrepreneursplayanimportantroleinsociety.Theymakeamajorcontributiontoeconomicactivity.Imaginehowmanyjobsarecreatedbythethousandsofnewbusinessesthataresetupeveryyearandbythesmallbusinessesthatprosperandtakeonmorestaff.

    Entrepreneursencourageinnovationthroughinvestmentandrisktaking.Manyoftheproductsandservicesyouuseeverydayhavebeendevelopedthroughentrepreneurialactivityratherthanintheresearchlaboratoriesorboardroomsoflargemultinationals.

    However,itisimportanttorealisethatstartingabusinessisrarelyglamorous.Infactitisnearlyalwaysveryhardwork.Foreverysuccessstorytherearealmostcertainlymanymorebusinessfailuresorbusinessesthatdontmeettheexpectationsofthepeoplewhosetthemup.

    Entrepreneurstakeonthechallengeofstartingandgrowingabusiness.Whatcharacteristicsarerequiredtohelpthemsucceed?

    Notsurprisingly,muchresearchhasbeendonetoexaminethepersonalityandothercharacteristicsofsuccessfulentrepreneurstoseeifthereisaprovenmethodorroutetosuccess.Youwillfindmanylistsofwhatistakestobeanentrepreneur,buttheytendtosaythesamethings.Sohereisasummaryofthekeyfindings!

    Keycharacteristicsofsuccessfulentrepreneurs

    Successfulentrepreneurstendtohaveoneormoreofthefollowingcharacteristics:

    Passionateabouttheirproductorserviceandaboutgettingthingsrightforthecustomer

    Visionarytheyhavefaithinwhattheyaretryingtodo.Theytendtonotgettooboggeddowninthefinedetailofdaytodaybusiness

    Energeticanddrivenpreparedtoworkconsistentlylonghours,especiallyintheearlystages

    Selfstartinganddecisivetheydontwaitforotherstotakedecisions.Entrepreneurstendtotaketheinitiative,spottingopportunitiesearlyandtakingdecisionsquickly

    Calculatedrisktakersnotreckless;theyarepreparedtotakeariskinordertomaximisetherewards

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    Multitaskerabletotakeonmorethanonerole(productdevelopment,selling,recruitment)

    Resilientanddeterminedabletohandleproblemsandovercomehurdles.Settingupabusinessisdifficultandtimeconsuming

    Focusedsetscleargoalsandselfimposedhighstandards Resultsorientatedtakepleasurefromachievingtargetsandsettingthebar

    higher.Entrepreneurstendtosetclearobjectivesfortheirbusinesswhichthenfeedintorelevantbusinessplanning

    Persuasiveentrepreneursaregoodatbringingotherpeopleandbusinessesalongwiththeidea;persuadingsupplierstosupplyanewbusiness,oranemployeetoleaveacurrentjobandjointhestartup

    Leadershipanentrepreneurleadshisorherownbusiness(oftenworkingaloneintheearlystages).Asthebusinessdevelops,theskillsofleadingothersbecomeevenmoreimportant

    Luckynottobelaughedat!Everybusinessneedssomegoodlucke.g.beingintherightplaceattherighttime.ButremembertheadviceofawellknowngolfertheharderIpractice,theluckierIget

    Theimportantthingtorememberaboutthelistaboveisthatanentrepreneurisunlikelytopossessallthesecharacteristics!

    Anyonewhostartsabusinesshasstrengthsandweaknesses.However,thesavvyentrepreneurrecogniseswherehis/herweaknesseslieandtakesstepstoaddressthem(e.g.recruitsomeonewiththerightskills).

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    Revenues and Demand Revenue

    Abusinessexiststoprovidegoodsandservices.Thoseproductsaresoldtocustomers.Whenacustomerbuysaproduct,thattransactionbecomesasaleforthebusiness.Thatswhatbusinessesdotheymakesales.

    Thevalueofsalesmadeistherevenueofthebusiness.

    Youwillcomeacrosssomedifferentwaysofdescribingsales.Alternativetermsforsalesinclude:

    Revenue(theofficialaccountingterm) Income Salesturnover Takings(oftenusedbyretailers)

    Soweknowthatsalesarisethroughthetradingactivitiesofabusiness.Howaresalesmeasured?

    Thevalueofrevenueinagivenperiodisafunctionofthequantityofproductsoldmultipliedbythepricethatcustomerspaid.Totalrevenuecanbecalculatedbythisformula:

    Totalrevenue=volumesoldxaveragesellingprice

    Abusinessthatwantstoincreaserevenueneedstoeither:

    Increasetheamountorvolumesold(higherquantity), Achieveahighersellingprice,

    Or(ideally)bothoftheabove!

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    Calculatingrevenue

    Toseehowtherevenueformulaworks,letslookatanexample.

    Sheilarunsawebdesignbusiness.Herbudgetedrevenuefornextyearisasfollows:

    Quarter Numberofjobs

    AveragevalueperJob

    Totalrevenue

    JanMar 6 2,500 15,000

    AprJun 7 2,500 17,500

    JulSep 5 3,000 15,000

    OctDec 8 2,750 22,000

    Total 26 2,673 69,500

    Intheexampleabove,Sheilaisbudgetingtoachievetotalrevenuesof69,500.Thesesalescomefromatotalof26jobs,withanaveragesellingpriceperjobof2,673.

    HowmightSheiladobetterthanherestimatedrevenuefornextyear?

    Winningmorejobsmighthelp,although26jobsalreadylooksalotofwork.Sheilamayfindithardtohandlehighersalesvolumes,unlesssheisabletoraisecapacitybyemployingextradesigningoroutsourcingelementsofthework.

    InSheilascase,thesolutiontohighersalescanprobablybefoundintheaveragesellingpriceachieved.Byfocusingonsmallernumberofhighervaluejobs,Sheilamaybeabletoincreaserevenuesanddeliverabetterservice.

    Forexample,ifSheiladidjust20jobsnextyear(6fewerthanbudget)atanaveragepriceof4,000perjob,thenhertotalrevenueswouldbe80,000(20x4,000),anincreaseovertheexistingsalesbudgetof10,500.

    Demand

    Demandisdefinedas:

    Theamount(quantity)thatcustomersarepreparedtobuyatagivenprice

    Ascustomers,inanidealworldwewouldbeabletobuywhateverwewanted.However,wearerestrictedbyasimpleproblemwedonthaveunlimitedmoney!

    So,economistsoftenprefertotalkabouteffectivedemandwhichmeansthequantitythatcustomersareabletobuy.

    Effectivedemandisallabouttheabilityandwillingnessofcustomerstopayorhowmuchtheycanafford.

    Normally,thequantitydemandedforaproductwillincreaseifthepricefalls.Conversely,anincreaseinpricewillnormallyleadtoafallinquantitydemanded.

    Therelationshipbetweenquantitydemandedandpricecanbeshowngraphicallybydrawingademandcurve,asillustratedbelow:

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    Factorsthataffectdemand

    Thedemandforaproductwillbeinfluencedbyseveralfactors:

    Price Themostimportantfactorthataffectsdemand.Productshavedifferentsensitivitytochangesinprice.Forexample,demandfornecessitiessuchasbread,eggsandbutterdoesnottendtochangesignificantlywhenpricesmoveupordown

    Incomelevels Whenanindividualsincomegoesup,theirabilitytopurchasegoodsandservicesincreases,andthiscausesdemandtoincrease.Whenincomesfalltherewillbeadecreaseinthedemandformostgoods

    Consumertastesandpreferences

    Canhaveasignificanteffectondemandfordifferentproducts.Persuasiveadvertisingisdesignedtocauseachangeintastesandpreferencesandtherebycreateanincreaseindemand.Agoodexampleofthisisthesurgeinsalesofsmoothies!

    Competition Competitorsarealwayslookingtotakeabiggershareofthemarket,perhapsbycuttingtheirpricesorbyintroducinganeworbetterversionofaproduct

    Fashionsandtechnology

    Whenaproductbecomesunfashionableoroutdated,demandcanquicklyfallaway.TherapiddeclineinsalesofCrocsisagreatexample

    Problemswithestimatingrevenues

    Oneofthehardesttasksanentrepreneurfaceswithastartupbusinessiscomingupwitharealisticestimateofrevenues.Themainproblemsconcerntheuncertaintiesabout:

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    Thesizeoftheavailablemarkethowmuchdocustomersalreadyspendinthemarket?Noteverymarketiswellresearched,particularlythosewhichdonotinvolveretailingorwhicharenotcoveredbyofficialstatistics.

    Thepricethatcustomerswillbepreparedtopayforanewproduct.Anewbusinesswilloftenassumethatcustomerswillpayahigherpricethantheyactuallywill.Anewproductintoamarketoftenhastobeofferedatadiscount(lowerprice)inordertoencouragecustomerstobuyforthefirsttime

    Thetimingandsourceofsales:wherewillcustomersbuyandwhichmethodswilltheyuse(e.g.fromaphysicalstore,marketingleafletoronlinestore?)

    Theeffectivenessofmarketingactivitiesbydefinition,newbusinessesstartwithoutanestablishedcustomerbase.Launchmarketingactivitiesoftendonotgeneratetheexcitementandcustomerbuzzthatisintended!

    Theresponseofcompetitorshowwilltheyrespondtoanewchallengerenteringthemarket?Astartupbusinesscannotexpecttoenteramarketwithoutachallengefromtheexistingoperators.

    Ingeneral,experienceshowsthatstartupstendtooverestimatetheirexpectedrevenuesinthefirstyearortwo.

    Achievingrepeatpurchase

    Abusinessinvestsalotofeffortandcashintryingtogetacustomertopurchaseaproductforthefirsttime.Thisisknownasproducttrial.Muchadvertisingisaimedatencouragingcustomerstotryanewproduct,orswitchfromanexistingcompetitor.

    Afteranewproducthasbeentriedonce,itssuccesscanbemeasuredinhowquickly,howoften,andinwhatquantityitisrepurchased.Repeatpurchasereferstothenumberorpercentofcustomerswhopurchaseasecondtime,ortohowoftentheybuyagain.

    Theproblemwithadvertisingisthatitisveryexpensive.Abusinessisunlikelytobesuccessfulandprofitableifithastokeepadvertisingheavilyinordertogeneratedemandfromnewcustomers.Itismuchbetterifcustomerscanbeencouragedtobecomeloyaltotheproductevenbetter,torecommendtheproducttotheirfriendsandfamily!

    Achievingahighlevelofrepeatpurchaseisgoodnewsforabusiness.Sowhatisrequired?

    Firstly,theproductshouldbeoftherightquality.Asubstandardorlowqualityproductissuretodisappointfirsttimecustomers.Theyareunlikelytobuyagainorrecommendtheproducttoothers.

    Secondly,abusinessshoulddoallitcantodevelopaneffectrelationshipwithexistingcustomers.Thisincludesactivitiessuchas:

    Regularcommunication(e.g.emailnewsletters) Incentivesforloyalty(e.g.promotionaldiscounts) Researchintocustomerneedsandwants(e.g.throughcustomersurveys)

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    Costs Whatarecosts?

    Costsaretheamountsthatabusinessincursinordertomakegoodsandprovideservices.Everybusinessincurscosts,buttheyvaryintermsoftheirtypeandamount.

    Foranewbusiness,estimatingwhatthelikelycostsaregoingtobeisoftenverydifficult.However,researchingthelikelycostsofthebusinessisveryimportant.

    Infact,successfulentrepreneursareusuallyobsessedwithcosts.Inmostcasestheywanttoensurethatcostsarekeptaslowaspossible.Theyrunaverytightship.Entrepreneurswillwanttoknow:

    Whatitcoststoproducetheproductorservice? Whatthecostofmarketingtheproductis? Howhigharetheoverheadsofthebusiness? Whatthepotentialcostsofabusinessdecisionare?

    Whytheobsessionwithcosts?Becausecosts:

    Arethethingthatdrainsawaytheprofitsmadebyabusiness Arethedifferencebetweenmakingagoodandapoorprofitmargin Arethemaincauseofcashflowproblemsinasmallbusiness Changeastheoutputoractivityofabusinesschangestheentrepreneurneedsto

    knowhowthesearelikelytochange

    Agoodstartingpointistoconsiderthedifferencebetweenthetwomaintypesorcategoriesofcost,namely:FixedcostscostswhichdonotvarywithoutputVariablecostscostswhichchangeasoutputchanges

    Fixedcosts

    Fixedcostsdonotchangeasoutputvaries.Inotherwords,theyarefixedevenifoutputmovesupordownfromperiodtoperiod.

    Examplesoffixedcostsinclude:

    Rent&counciltax Wagesandsalaries Marketing(advertising,marketresearch) Insurance,banking&legalfees Software Consultantandadvisercosts Designanddevelopment Heating,lightandotherenergycosts

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    LeasedequipmentchargesNotejustbecauseacostisclassifiedasfixed,thatdoesnotmeanthatthecostwillstaythesame.

    Forexample,therentalofanofficeorshopwillbepaidtothelandlord.Therentstaysthesameforaspecificperiod(e.g.5years).However,therentmaychange(upordown)whentherentalagreementisrenegotiatedwhendue.

    Theimportantpointaboutacostlikerentbeingfixedisthatithastobepaid,whateverthelevelofsalesachieved.

    Fixedcostsareparticularlyimportantwhenitcomestocalculatingthebreakevenoutputofabusiness.Abusinessneedstogenerateenoughcontribution(akindofprofit)tocoveritsfixedcostsinorderforittobreakeven.

    Thehighertheleveloffixedcostsinabusiness,thehighermustbetheachievedoutputinordertobreakeven.

    Asaresult,agoodstrategyformoststartupsistofocusoncontrollingandminimisingfixedcosts.

    Variablecosts

    Costswhichchangewhenoutputchangesarecalledvariablecosts

    Variablecoststendtobethoserelatingdirectlytotheproductionorsaleofaproduct.Goodexamplesinclude:

    Rawmaterials&boughtinstocksandcomponents Wagesbasedonhoursworkedoramountproduced Marketingcostsbasedonsales(e.g.%discountsofferedonasalesprice) Agentandothercommissions

    Totalvariablecostscanbecalculatedbyasimpleformula:

    Variablecostperunitxoutput

    Totalcosts

    Thetotalcostsofabusinesscanbecalculatedbysimplyaddingtogetherthevariablecostsatdifferentlevelsofoutputtofixedcosts.

    Totalcosts(TC)=Fixedcosts(FC)+variablecosts(VC)

    Letslookatanexample:GrahamsvanrepairbusinesshasthefollowingcostsandsalesoutputforMarch:

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    Variablecostsperjob 75

    Garagerent&rates 500

    Wages 1,500

    Advertising 100

    Otherfixedcosts 400

    Expectednumberofjobsformonth 100

    WhatarethetotalcostsforMarch?

    Startwiththevariablecosts,whichequal75x100(i.e.VCperjobtimesthenumberofjobs)=7,500

    Fixedcoststotal2,500(i.e.500+1,500+100+400)

    Sototalcostsare10,000(i.e.VC+FCor7,500+2,500)

    Problemsestimatingcosts

    Abusinessstartupisfacedwiththechallengeofestimatingwhatthecostsofsettingupandoperatingthebusinesswillbe.Itisnotalwayseasy.

    Somecostsareprettystraightforwardtoestimatemostofthemareinthefixedcostcategory.

    Forexample,abusinessthatrentsitslocation(e.g.ashopunit,aroominasharedofficecomplex)willknowwhatthecostwillbe.Itiseasytogetaquotefromthelandlordbeforesigningthelease.

    Somebasicmarketresearchwillsoontelltheentrepreneurwhatitwillcosttodesign,printanddistributesomemarketingleaflets.AcalltothenewspaperorYellowPageswillquicklygetaquoteforthefixedcostsofanadvertisingcampaign.

    Wagesandsalariesarealsoprettyeasytoestimate.Theentrepreneurknowswhatheorsheispreparedtopayandtheactualamountwillbeagreedintheemploymentcontract.Anentrepreneurcancontrolhourlywagesbyrestrictingtheamountofovertimeavailable.

    Itiswithvariablecoststhatestimationbecomesabitharder.Itiseasytogetquotesforthepricethathastobepaidforrawmaterialsandcomponents.However,itmightbethatthebusinessdoesnotoperateefficientlyforexamplesufferingahighdegreeofwaste.Thatwouldincreasetheaveragecostperunitproduced.

    Anotherproblemcomeswhenanentrepreneurentersamarketinwhichhe/shehaslittleornoexperience.Forexample,thebusinessmaydiscoverthattherearehiddenmarketingcosts(e.g.commissions)whichneedtobetakenintoaccount.Sometimesthestartupbusinessplansimplymissesoutacostcategoryduetoinexperienceorlackofcareinputtingtheplantogether.

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    Profit Meaning&importanceofprofit

    Profitisaveryimportantconceptforanybusinessparticularlyastartup

    Profitisthefinancialreturnorrewardthatentrepreneursaimtoachievetoreflecttheriskthattheytake.

    Giventhatmostentrepreneursinvestinordertomakeareturn,theprofitearnedbyabusinesscanbeusedtomeasurethesuccessofthatinvestment.

    Profitisalsoanimportantsignaltootherprovidersoffinancetoabusiness.Banks,suppliersandotherlendersaremorelikelytoprovidefinancetoabusinessthatcandemonstratethatitmakesaprofit(orisverylikelytodosointhenearfuture)andthatitcanpaydebtsastheyfalldue.

    Profitisalsoanimportantsourceoffinanceforabusiness.Profitsearnedwhicharekeptinthebusiness(i.e.notdistributedtotheownersviadividendsorotherpayments)areknownasretainedprofits.

    Retainedprofitsareanimportantsourceoffinanceforanybusiness,butespeciallystartuporsmallbusinesses.Themomentaproductissoldformorethanitcosttoproduce,thenaprofitisearnedwhichcanbereinvested.

    Profitcanbemeasuredandcalculated.Sohereistheformula:

    PROFIT=TOTALSALESlessTOTALCOSTS

    Hereisanexamplewhichillustratestheformulainaction:

    Howprofitisused

    Profitariseswhentotalsalesexceedtotalcostforaperiod.

    Onceaprofithasbeenmade,theownersofthebusinesshaveachoice:

    (1) Taketheprofitoutofthebusiness(e.g.payadividendtoshareholders)

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    (2) Retaintheprofitinthebusinesseitherincashorbyinvestingtheprofitintonewassets

    Mostentrepreneursreinvestedorretainprofitsinabusiness.Why?

    Profitisthemostimportantsourceoffinanceforabusiness.Itisdefinedasbeinganinternalsourceinthesensethatitisgeneratedfromwithinthebusiness.

    Whyisprofitimportantasasourceoffinance?Becauseitisentirelywithinthecontrolofthebusinessitisnotprovidedbyoutsiders.

    Anotherreasonisthatretainedprofitsarerelativelycheap.Theydohaveacostwhichisthereturnthatthebusinessownerscouldobtainbytakingthemoneyoutofthebusiness.However,thetruecostofretainedprofitismuchlessthanpayinginterestonabankloanoroverdraft.

    Whatcanprofitbereinvestedin?Essentiallytohelpthebusinessgrow:e.g.

    Additionalproductioncapacity Investmentininformationtechnology Tobuymorestocksofrawmaterialsandcomponents

    Thealternativeuseforprofitistopayitasarewardorreturntothebusinessowners.Forshareholdersinacompany,thismethodisknownasadividend.

    Adividendprovidesashareholderwithonepartofhis/herreturnoninvestment.

    Thesecondpartofthereturncomeswhenthevalueofthesharesinthecompanyincreases.

    Handlingaloss

    Alossariseswhentotalcostsaremorethantotalrevenuesinaperiod.

    Overtime,lossesgenerallyresultinacashoutflowfromabusiness.Ifthebusinessdoesnothavesufficientsourcesoffinancetofundtheselosses,thenitwillnotsurvive.

    Itisimportanttorememberthatlossesarefairlycommoninbusinessparticularlyforstartupsorforbusinessesthatareinvestinginanewproductormarket.

    Itisoftenthecasethatabusinesshastoincursubstantialcosts(e.g.research,design,promotion)beforeitisabletogeneraterevenuesforanewbusinessorproduct.

    However,sustainedorsubstantiallossesplaceabusinessintrouble.Ahighproportionofstartupsgooutofbusinessbecausetheyfailtoreachprofitability.Inotherwords,theydonotmanagetoreachthebreakevenoutput.

    Whymightabusinessexperiencealosswhenthebusinessplanorbudgetexpectedaprofit?Themainreasonsare:

    Revenuesarelowerthanexpected(themostlikely)entrepreneurstendtobeoveroptimisticwiththeirforecastsforrevenues

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    Thebusinessprovestobelessproductiveorefficientthanplannede.g.itsuffersfromahigherdegreeofwastageduringproduction,orsuffersfromtoomuchcapacity

    Unexpectedcostsariseethercoststhatwerenotplannedatall(e.g.acustomerorsupplierdispute)orwherecoststurnouttobemuchhigherthanexpected

    Thebusinesssuffersfromunexpectedchangesoutsideitscontrole.g.ariseinbankinterestrates,asuddenchangeinconsumerconfidence,poorweather

    Theresponsetoalossshouldinclude:

    Reviewingtheprofitandcashflowforecaststoensurethatthebusinesshassufficientcashtoremainviable

    Lookingatallmajorcostcategoriestoseewheresavingscanbemadewhichdonotdamagerevenues

    Renewedmarketingactivitiestoboostrevenuesparticularlyintheshorttermifcashflowisaproblem

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    Forecasting Cash Flows Cashflow

    Cashflowdescribesthemovementsofcashintoandoutofabusiness

    Whenyoulookatthebankstatementofanybusiness,yousoonrealisethatcashflowisadynamicandoftenunpredictablepartofbusinesslife.

    Inbusiness,cashisalwaysonthemove

    Cashflowsintothebankaccountwhencustomerspayfortheirsales,whenaloanisreceivedfromthebank,interestisreceivedorwhenassetsaresold

    Cashflowsoutofthebankaccountwhensuppliersarepaid,employeewagesandsalariesarepaid;interestispaidtothebankandsoon

    Youneedtobeabletodistinguishbetween:

    Cashinflows:movementsofcashintoabusiness Cashoutflows:movementsofcashoutofthebusiness

    Thedifferencebetweenthecashinflowsandcashoutflowsduringaspecificperiod(e.g.aweek,month)isknownasthenetcashflow.

    Thechallengeforanybusiness(particularlyastartup)istoensurethatitmanagesitsnetcashflowtoensurethatitdoesnotrunoutofmoney.

    Maintypesofcashinflowandoutflow

    Themaintypesofcashflowcanbesummarisedasfollows:

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    Whystartupssuffercashflowproblems

    Startupsandsmallbusinessesareespeciallyvulnerabletocashflowproblems.Herearesomeofthemainreasons:

    Firstly,ittakestimebeforethebusinessmakesitsfirstsalesthepretradingperiodofteninvolvesincurringcostswithoutgettinganyrevenueinreturn.

    Forexample,beforeitcanbegintotrade,anewshophastopayfor:

    Shopfittingandmerchandisetofilltheshelves(stocks) Theinitialrentoftheshop(noteitmightbepossibletonegotiatearentfree

    period) Thewagesofshopstafftogetthestorereadyfortrading

    Suppliersmayalsodemandimmediateorearlypaymentfromthestartupasthebusinesshasnotdevelopedatrackrecordforpayingbillsontime.

    Anewbusinessusuallyhastospendupfrontonexpensessuchasmarketingandproductdevelopment.Thedevelopmentphaseofcomingupwithanewproductmaytakesometimeresearch,design,testingandsimilaractivitiesallconsumecashwithoutgeneratinganyrevenues.

    Finally,thenewbusinesswillnothavereservesofcashbuiltupfromprofitabletradinganimportantsourceofcashknownasretainedprofits.

    Duringtheearlymonthsoftrading,therefore,astartupbusinessfacesitsmostsignificantchallengesinmanagingcashflow.Withoutcarefulmanagementandplanningofcash,thebusinessmayrunoutofmoney.Youcanprobablyseewhycashflowproblemsareamajorcauseofbusinessfailureamongststartups.

    Thecashflowforecast

    Thecashflowforecastpredictsthenetcashflowsofthebusinessoverafutureperiod.

    Theforecastestimateswhatthecashinflowsintothebankaccountandoutflowsoutofthebankaccountwillbe.Theresultofthecashflowforecastisanestimateofthebankbalanceattheendofeachperiodcovered(normallythisisforeachmonth).Anexampleofasimplecashflowforecastisshownbelow:

    '000 Jan Feb Mar Apr May Jun

    Cashatstartofmonth 25 20 15 5 10 20

    Cashinflows 20 25 20 15 20 25

    Cashoutflows 25 30 30 10 10 20

    Netcashflow 5 5 10 5 10 5

    Cashatendofmonth 20 15 5 10 20 25

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    Abusinessusesacashflowforecastto:

    Identifypotentialshortfallsincashbalancesforexample,iftheforecastshowsanegativecashbalancethenthebusinessneedstoensureithasasufficientbankoverdraftfacility

    Seewhetherthetradingperformanceofthebusiness(revenues,costsandprofits)turnsintocash.

    Analysewhetherthebusinessisachievingthefinancialobjectivessetoutinthebusinessplan(whichwillalmostcertainlyincludesomekindofcashflowbudget)

    Whythecashflowforecastissoimportant

    Ifabusinessrunsoutofcashandisnotabletoobtainnewfinance,itwillbecomeinsolvent.Itisnoexcuseformanagementtoclaimthattheydidntseeacashflowcrisiscoming.

    Soinbusiness,cashisking.Cashflowisthelifebloodofallbusinessesparticularlystartupsandsmallenterprises.Asaresult,itisessentialthatmanagementforecast(predict)whatisgoingtohappentocashflowtomakesurethebusinesshasenoughtosurvive.

    Herearethekeyreasonswhyacashflowforecastissoimportant:

    Identifiespotentialshortfallsincashbalancesinadvancethinkofthecashflowforec