You have built a successful business and are looking for growth opportunities. You can either invest in your existing business or consider new ventures. The following five parameters may help you decide if your business is attractive enough for you to put in additional resources.
Market size: If you want to grow fast, the market has to be big enough for you to sell your goods to large volume of customers. Sometimes, you may discover that your market is too small to be worth pursuing.
Say you are providing an online platform to hire domestic help in a particular city. The city has 10 lakh households, of which 10% or 1 lakh households are your target customers. If you can convert 10% of that eventually, you can get 10,000 customers. Assuming you earn a commission of Rs. 1000 per customer, your revenue could be at best Rs.1 crore and profit perhaps 10 lakh. That may be too small, but if you are able to replicate the same model in other cities, the business may be worth pursuing.
Customer acquisition cost and customer life time value: Customer acquisition cost refers to costs incurred in obtaining new clients. These include salaries of marketing staff, advertising spend and discounts offered.
Say, to attract 1000 customers, you spend Rs. 50,000 in advertising, deploy one sales manager at a monthly salary of Rs. 30,000 and offer discounts worth Rs. 10,000. Your customer acquisition expense then is 90,000 or Rs. 900 per customer. Your revenue per customer should be at least 4-5 times the acquisition cost for your business to be profitable. However, revenue can be spread over 5-10 years of your engagement with the customers and need not be from just one transaction. So, the more repeat customers you have, the customer life time value would be higher and so would be your profitability.
Fixed versus variable costs: Businesses have two types of costs: fixed costs and variable costs. While fixed costs such as rents, salaries, and interest do not change with the increase or decrease in sales volumes, variable costs such as raw material, transport charges vary with the number of units produced or sold.
Higher fixed costs implies that it would take you a long time before you can start making profits, but profits would grow sharply once you achieve critical mass (breakeven point).
Get to know your fixed and variable costs and breakeven point. If you have already achieved the critical mass, it’s time to stay put and enjoy better profitability.
Operating profits: Refers to profits that remain after meeting all operating costs (i.e., all above mentioned costs except interest, depreciation). If your operating profitability is declining, you would need to conduct a thorough diagnostic assessment of your business.
Return on capital employed: Operating profit alone is not enough; return has to be analysed in the context of the capital that is deployed in your business. For instance, if your average annual operating profit is around Rs. 25 lakh and the total capital deployed in the business is Rs. 5 crore, then your return on the capital is only 5%. This kind of return can also be generated by simply putting your money in a fixed deposit.
How can we help?
FineTrain enables entrepreneurs to assess and understand new business opportunities. Our services include market research, business feasibility studies and business diagnostics. We can help you assess your market, determine customer acquisition and lifetime value costs, your operating profits and return on capital, and recommend ways to improve profitability or expand your business.
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