Entrepreneurs are risk-takers by nature. Often that means putting aside safety but, it doesn’t have to. Thinking a little more like an investor can mitigate risk and build some security into your business.
In my last article, I talked about Maslow’s hierarchy and its impacts on consumers (or overall market), your customers, and the people inside your business.
A business also has a hierarchy of needs distinct from the people in it.
For example, human physiological needs correspond to the parts of a company necessary to make it viable at its most basic level. Functions like converting resources into revenue imply both sales and the ability to deliver something of value to a customer. Generating cash is the most common method of replenishing the resources necessary to keep a business running.
A Model – The Business Hierarchy of Needs
In his new book “Fix This Next,” Mike Michaolowiczm presents a business hierarchy of needs with the following five levels (the matching Maslow’s hierarchy levels are in brackets):
- Sales (Physiological)
- Profit (Safety)
- Order (Social)
- Impact (Ego)
- Legacy (Self-Actualization)
Models are an excellent tool for understanding a complex world and making better decisions. However, they all have some limitations because they are simpler than the thing they represent. Using multiple models and understanding each one’s strengths and weaknesses are the best solution.
For this post, I will focus primarily on the first two levels – sales and profit. I’ll also add some parts that I feel transcend a layered model, bring a business to life, and increases business safety.
Sales – Generate Cash
Like your body needs food, air, and water – a business requires money and other resources to become feasible. As it uses resources, it needs to develop a method of replenishing them to become viable longer-term.
Most businesses start with an infusion – small to large – of cash and other in-kind resources. If you are bootstrapping, you are donating your time. Time is money.
Unless your parents gave you replenishing buckets of money, eventually you will run out. Investors and banks will want it back. So will your relatives and friends. So should you.
You have to sell something to generate revenue.
It could be any combination of products and services.
That means you also need to have customer fulfillment or operations as part of your business. Initially, this could be you doing the work. Or maybe you have a few co-founders or employees.
Neither one sale nor a single customer makes for a viable business.
You have to repeat the process over and over while balancing delivery with sales. Initially, you will probably earn less revenue than the full costs. If you are working for free or less than market rates, you are still bootstrapping your business.
Don’t fall for the illusion of false profits. If you are subsidizing the business in some way, they aren’t real. Yet.
Managing the cash inflows and outflows becomes a thing. Making sure you get paid is a necessity.
For most businesses, as sales increase, so do expenses.
Your thing needs to be valuable to someone so that they will give you money. That means you need to put energy into making sure you create value and can compete in the marketplace.
Over time, you will need many customers.
You will run out of immediate network and friends. So, you’ll probably need some decent marketing to acquire more leads. The other option is to go out and find your new customers via outside sales or prospecting. Or both.
As you sell more, client fulfillment and customer satisfaction become more difficult and complicated.
But, you can’t stay here on the first level of the hierarchy either.
Once you have the basics nailed, you need to move up a level and start thinking about profit.
Profit – Keep Cash
As the organization grows and your initial cash on hand dwindles, you have to focus more on keeping some of your money in the business. This goal means consistently generating profit which equates to business safety.
Profit = Revenue – Expenses
We are talking about the money you keep overall; we won’t get deeper into the accounting side. To increase profit, you can either bring in more money or spend less.
If you can’t generate profit predictably and consistently, you will probably have to inject more cash. If not, you will eventually run out and become insolvent. Not fun.
Continually finding more cash is not easy, and diverts energy from fixing the problems.
Plus, injecting more money has a cost. You dilute ownership, pay interest, and generally have more fingers in the pie, more expectations, and more stress overall.
Borrowing money to cover ongoing operational costs is not a wise long-term strategy.
Shift your perspective to one of being an investor. Only borrow funds that will make you more money over the longer-term – faster and with managed risk.
You increase your investment returns through profits and long-term equity. To cash out your business, it needs to sell to a buyer.
Profit means getting better at running your business. You start defining and improving your processes and reducing wastage. Then, you get better and more efficient at sales. You create more perceived value and price at a premium.
Profits can fund your future growth. They increase the net worth of your company. They are the primary method of generating shareholder income that exceeds the base pay shareholders working in the company draw to keep afloat.
Profits Lead to Business Safety
Profit is one of the best ways to increase business safety and, conversely, decrease investment risk.
When you start making a profit, it tempting to spend them – double down or take them out of the business.
But the slightest economic bump can put the business at risk.
If you set aside some of your profit to pay down debt, to build cash reserves, and if you can pay for most growth and capital expenditures without taking on excessive debt – you have the safety to weather an economic storm.
Safety means having the time to react consciously and strategically to rapidly changing market dynamics without the panic or damage a knee-jerk reaction causes.
Once you have a reasonable level of profit, you can move onto the next level of the hierarchy while continuing to build the two foundational levels.
Always shore up the foundation to support more growth.
The Glue Between Levels – True Business Safety
When threatened, safety and survival become largely fear-driven.
We often make terrible decisions under fear.
A business is an artificial construct and has no inherent values, ethics, or rules bounding it.
This glue is the piece missing from a simple mapping of Maslow’s hierarchy onto a business.
People are real. Inherently, our genetic and environmental makeup govern us. We are bound by rules imposed by nature and society.
A business needs a set of rules to play by, or nothing is out of bounds.
The government creates laws and rules, which then generate best practices and customs. Violations can get you into legal and financial trouble.
After that, there is quite a bit of a grey area. This wiggle room is not good.
It is up to the people who run the business to decide on the more detailed rules. It is best you establish those rules upfront. These boundaries allow you to move up the hierarchy of business needs more quickly with less risk.
Culture and Core Values
The way to encapsulate the rules is to have a set of core values and build a strong company culture to reinforce them. You don’t break your core values.
If you allow people to bend the rules a little during good times, you can bet they will cheat a lot when survival and safety are at risk.
There are plenty of corporate examples like Enron out there. Where winning became the only objective, and shareholders lost $74 billion in value as a result.
Decide early on how you will deal with generating revenue, treating people, and making a profit.
A well-defined culture and set of core values reinforce the business safety and survivability. Corruption and scandals seldom end well.
Legacy and Self-Actualization
Even if I didn’t end up in prison, I wouldn’t sleep well cheating.
Hiding the truth and lying to people require much work. You have to keep it all straight and deal with the angry mob that figures it out.
Honesty and integrity are good for business, especially over the long-term.
“It takes 20 years to build a reputation and five minutes to ruin it. If you think about that, you’ll do things differently.” ~ Warren Buffett
Not to mention, you won’t get to the higher levels of the pyramid in business and personally if you get stuck on the lower levels.
The higher levels are where true fulfillment lives.
Creating wealth, impact, and legacy – true business safety.