My Ruby on Rails and mobile agency Zorros was born in August 2010. We build web and mobile software for our clients. In 2.5 years we grew from 0 to 7 people. We are having fun, we build exciting stuff, we are profitable, we work from home (yay!), and we are happy since we are paid to do what we like to do.
But there is something that nags us. On the long term, we will have to do project after project after project after project. We can not grow, or at least not without hiring more people. And more people means less of a young dynamic startup culture and more bureaucracy. We can not scale. And although we like building things, we are never building our own things.
In September 2012, I took an important decision. Or rather, a challenge. Here it goes:
I will switch from a service company to a products company. By september 2013 I want to be break even purely on products.
WOOOOOOOOT. HOW? WHY?
What is life like in a service business?
In a service business, you trade a certain service for a certain amount of money. Consultants, dentists, doctors, lawyers, carpenters, programmers, kinesists, freelancers. They all trade their hours for money. Typically, they have an hourly rate. For 10$, 40$, 80$ or 250$ per hour, they will provide service ABC to company XYZ. Or they accept “fixed price” projects, which is nearly the same, since the fixed price is just the number of estimated hours times the hourly rate. (Note: fixed price projects are often worse than being paid per hour, since you have to estimate and commit your price upfront for an often not so clearly defined project scope. In most cases the scope is fuzzy and appears to be bigger than originally thought, but the price not.)
So, if you trade hours for money, what do you do to earn more?
Exactly, you work more hours!
But there are only so many hours in a day. So what do you do when you are at your limit of 12 hours per day?
Exactly, you hire an employee, so you can sell his or her hours!
And what do you have to do once you hire an employee?
Exactly, you have to make sure there is enough work in the pipeline to make sure this employee is not without work, since an employee without billable work cost you a lot of money. Time is ticking!
Bottom line is that your service business is growing in headcount, in revenue and in hours sold per day. But:
- The projects pipeline is much harder to maintain. You have to make sure everyone is billable every hour. You have to deal with employee turnover, holidays, illness, company policies, new hires, urgencies, complaints, estimations, incidents, and so much more. There are much more things that need your attention.
- None of these tasks are creative and fun, but they are all on your shoulders.
- All of this extra worries for a little grow in profit.
Turnover in service companies grows in direct relationship with the headcount. And profit is a percentage of turnover. So profit grows (little by little) when your service company grows (and your agenda becomes much more busy).
There is a direct relation between time and profit. But since time does not scale, your profit will never scale.
IN A SERVICE BUSINESS, THE HARDER YOU WORK, THE MORE WEIGHT YOU PUT ON YOUR SHOULDERS AND THE MORE HEADACHES YOU ARE WILLING TO ACCEPT, THE MORE YOU EARN.
Hard work, weight, headaches for some extra peanuts? Doesn’t sound like a great deal, isn’t it?
Here below a graph of the profit growth of a typical service business over time, as the business grows and hires more employees.
In a service business, you are not investing your time. You are burning your time. Every last day of the month you have to:
- pay salaries
- find work for the next month to make sure that you’ll be able to pay salaries next month
Every first day of the month, the counter is reset to zero. You have to refill your agenda with billable days for the next month. And so on, and so on. You don’t own a company, you own a job. Congrats.
The challenge: switch to a product business
We challenged ourself in september 2012, 5 months ago, to be break even with products by september 2013.
What does that mean: “break even with products”?
In a product business, you do not sell your time for hours. Instead, you make a huuuuuuuuuuuuuuge (yes, that many U’s) upfront time investment in order to build something that can be sold over and over again. There is no direct relation between time and revenue or profit. Money keeps on rolling in, even if you take a little pauze. You don’t sell time for money, you sell something that you already have for money.
If your product price is 50$, and you sell 10 copies per month of it online, you would make 500$ per month. If one way or another (let’s say…good marketing) you get to selling 100 copies per month, you would make 5.000$ per month. Now imagine you can sell 1000 copies per month. Now, THAT SCALES, isn’t it? In a service company, scaling profit times 100 would mean to hire 100 times more employees. Good luck to plan in holidays and see your children grow up! :-)
This is the profit growth of a successful product, compared with the profit growth of a service business.
Note that in point “A”, you did invest a lot of time and money in your product, but you didn’t get any single $ yet for that time investment. You are in negative. As told before, launching a product is an upfront time investment. It takes a lot of upfront energy, time and motivation. But in point B your product starts paying itself back: it brings in as much money in as it costs per month. In point “B” you are break even.
Our primary goal is to be break even on products. That means: the monthly recurring revenue that our products bring in should be enough to cover monthly costs.
Why is break even a magic point for us?
It’s magic since it means that even with zero billable hours for several months in a row, we would survive. We would not be profitable, but we would not go bankrupt neither. We stay break even. But break even with PLENTY OF TIME to improve our products so our users will love them more. No duties. No trading time for money anymore. All time is be ours. We would be able to invest our time in more products or better products, in growing, in scaling. And without pressure, since bills are paid at the end of the month.
IF YOU CAN GET BREAK EVEN WITH PRODUCTS, YOU CAN AS WELL BECOME (VERY) PROFITABLE.
Once you are break even with your products, the hardest part is done. You are one step away from profitability. The number one primary goal of every product founder should be: break even.
So, will this work? Will it fail?
I don’t know. You will figure it out together with me…
But I now one thing for sure. I am so motivated on making this real, that I will do everything necessary to make it work. It might fail, it might work. But quite likely it will not completely fail. And with some luck (yes I know luck is not a strategy, don’t tell me) it might as well work out very good.
Over the next series of blogposts I will share my experiences with you. I’m going to be 100% transparent on all the steps I take and will document everything out on this blog.
- how did you find your product idea?
- how long did it take to build the first draft?
- where are you now? how much MRR (monthly recurring revenue) do you make now?
- what did you do wrong?
- how did you market your product?
- …and so on.