I didn't realize product mix, delivery costs, and variable rebates would affect our profitability so much

We have over 100 customers and sell the same set of products to each of them, yet some are profitable and others aren’t. I really don’t understand. They all get the same products for the same price. We have volume discounts and rebates but we show them a separate line item and can track them.

My husband’s friend works for an analytics company and took a look at our sales figures and accounts. The first thing he saw was there were significant differences in the mix of sizes between sales outlets. As the smaller sizes have higher margins it is the mix of sizes and not just the volume that affects profitability. The next thing he found was that different outlets had different thresholds where the rebates kick in. On some accounts the threshold was $45K in revenue, on others it was $65K, and one had $80K. So while we can track the total rebate we pay, we start paying earlier and this affects profitability. Finally, he said that delivery costs were assumed to standard costs, but the distance from the warehouse to the outlet varied from 1 to 150 miles. Moreover, we collected returns from some but not all outlets.

This made me realize that all revenue is not the same. I was shocked that our profitability was so affected by product/size mix, how we set rebate thresholds, and by underpricing delivery.

Investors want us to change our strategy, what should we do?

We built a platform that will allow chocolate and nut producers to bypass the middleman and wholesaler. This will give them higher margins and more liquidity. We have a partnership with FairTrade, five manufacturers, and three retailers.

Given the nature and geographic location of the producers, we created a global platform. We have invested over $100K in it and have completed beta testing.

We sent our business plan to five investors. Two said they had no interest given the size of the addressable market .The other three said that they needed proof of concept in a local market, meaning one country. Our platform and partners can’t accommodate this.

The investors told us the risk of global launch was too great. What do we do? Modify the platform and focus on one market or seek other investors?

Investors want us to change our strategy, what should we do?

We built a platform that will allow chocolate and nut producers to bypass the middleman and wholesaler. This will give them higher margins and more liquidity. We have a partnership with FairTrade, five manufacturers, and three retailers.

Given the nature and geographic location of the producers, we created a global platform. We have invested over $100K in it and have completed beta testing.

We sent our business plan to five investors. Two said they had no interest given the size of the addressable market .The other three said that they needed proof of concept in a local market, meaning one country. Our platform and partners can’t accommodate this.

The investors told us the risk of global launch was too great. What do we do? Modify the platform and focus on one market or seek other investors?

We made so many changes to the plan it confused everyone, including ourselves and our strongest supporters

We wrote our business plan for the seed round from friends and family. We sent it out to five people for feedback. We received some great feedback and modified the plan. We didn’t change much of the strategy but we made a lot of changes to the financial model.

We revised the plan and sent it to three more people for review. We got more input and didn’t know what to do when the changes suggested contradicted one another. We ended up using changes and ideas from the people we thought would invest in us. We went through this process four times and ended with a business plan, which differed from the original in many important ways.

The round was schedule to close at the end of the month so we contacted everyone we thought would be interested in investing. A number of people who had reviewed the plan along the way asked for the latest up date. They all responded that the plan didn’t make much sense anymore and they wouldn’t invest. One person asked if it was our plan or the seed investors.

We weren’t able to raise the seed round from our friends and family. We ended up alienating many of the people who were our strongest supporters. We had confused everyone including ourselves.

The MBA team consulting for us had a different agenda than ours

We felt lucky to have the help from an American business school. MBA students were scheduled to come see us in June. There was a lot of excitement around their arrival. They would stay for six weeks and work on key projects.

When they got here, for six weeks there was a ton of activity but none of it was really focused on the day-to-day running of the business. The CEO was always with the students, so we didn’t have much time with him during their stay. Priorities weren’t clear and critical decisions were postponed.

After three weeks, the students prepared an Interim Report and gave a presentation with a series of recommendations. From the first slide of their PowerPoint, my stomach started to knot up. Their recommendations were so sophisticated and conceptual that they were almost irrelevant to our company. Some failed to recognize the culture in which we operated and the way business was done here. Some relating to government engagement were simply naïve.

Right after the presentation I told the CEO and we needed to get control of their work and refocus it. At first he didn’t want to listen but then I other team members joined me so he had to act.

The first issue he wanted to address was how to manage the professor who was sponsoring the visit. He was the CEO’s informal mentor. He wanted the visit to support some research he was doing. We quickly realized there were conflicting agendas.

Will simplifying my business reduce my costs?

My mentor told me that the only source of cost in a business is activity. He also said that complexity was the biggest drivers of cost. Is that right? Does this mean if I drive complexity out of my business, i.e. do things simply, my costs will come down?

Should I wait to make my advisory board until I can attract more accomplished people?

I wanted to appoint an Advisory Board. I thought it would be great to make introductions and provide us with advice. I thought one of my professors would be helpful but I didn’t know who else to ask. I talked with my brother who suggested that I write down the type of advice I needed and then find the right people. I followed his advice and thought I needed at least four people- finance, strategy, retail/wholesale, and government relations.

We are a startup and when I approached well known people in each area, they said they didn’t have enough time but they liked the idea and I could contact them in the future to keep them updated. I took this as code for we aren’t big or exciting enough for now.

I followed up with others who said they would be happy to help but they had limited contacts and access. I realized if I appointed them now, there wouldn’t be room for the people I really wanted in the future. Should I delay appointing an Advisory Board?

We didn't want to sacrifice our principles for growth

Our business was doing $5M in annual sales and we were making $800K pre tax. We were growing at 15% per year and had 25% operating cash flow. We were the market leader in our segment and enjoyed an excellent reputation as an employer. Our CFO went back to his grad school to speak at a conference. When he came home he said we had to grow faster. Growth is the most important thing and we should aim for $30M in sales in the next three years.

None of us agreed with this. It would change the whole company, put the company at risk, and destroy our culture. The CFO wouldn’t give in and had his professor visit us. He was really nice but spent all his time telling us to grow faster. He told us we could grow to over $125M in sales if we followed his plan. He would be happy to become our advisor and had great connections all over the world.

When he left we were all exhausted and confused. We went to a bar to talk. None of us wanted to follow this path. This wasn’t who we are and not why we started the business. We wrote to the professor to tell him; our CFO said he would quit if we sent the letter.

We stuck to our plan and today, sales are $8M, margins remain high, cash flow is positive, and we stuck to our principles.

The financial model that got funded isn't one we're committed to

I’ve been working on the financial model for over a month. We’ve been over and over it and I think we have it pretty much right. We included it with the business plan to a range of investors. The first response focused on the gross margin and our pricing strategy. We answered all the questions and modified the model. The second investor was concerned about the growth and working capital requirements. The third investor wanted us to lease our equipment rather than buy it.

All three wanted to invest subject to their concerns. When we factored all their input into the model the results were very different from our original ideas. Their input meant the cash flow was better but margins were depressed and the cash flows remained negative for a longer period. 

We sent the revised model back to the investors. They all had additional questions and suggestions and wanted more modifications. We then went to the investor who we hope would lead the round to see if we could get some consensus and agreement around one model. The investor agreed and we closed the round, but it took three months longer than we had planned for, took up a lot of time, and left us with a plan that we weren’t that committed to, but we did have the money.

The breakeven number we need doesn't exist; does this mean my business model is flawed?

At school, we learned about the economies that could be achieved in a service business when there is density in terms of customers. When customers are closer together it is cheaper to serve them as the operating/logistics cost are less. One professor said the ideal would be a really tall building where you had all your customers. We discussed clusters.

As part of our support for guesthouses we provide facilities management including repairs, laundry, and food delivery. We started with 12 guesthouses, all within a few kilometers of one another. We could offer them rapid response at a realistic cost. As we added more guesthouses, distances grew until we were working in a 6 km radius. This was in a dense urban area where 6 km is a large distance and rapid response became almost impossible with the traffic. Service levels declined.

We modeled the cost of opening a facilities management depot and it was too high. It appeared we needed 30 guesthouses to cover the cost of a depot. There weren’t 30+ unit clusters anywhere in the city. Does this mean our business model is flawed?