How to Start a Business – Ideation Phase – Part II

“So I think I have an idea for a business that would have a customer following and solves a problem that people genuinely have but now what I do?” I hear this multiple times a week from the individuals that I counsel.

In my last post https://thefinancialstoic.com/?p=331 I laid out what I would call is the pre-development stage of a business idea.  Coming up with an idea that has Product-Market Fit, Niche Identification, identifying your Ideal Customer Avatar (ICA) and refining your idea to match Psychographic and Ethnographic profiles of a potential customer base. 

The Lean Startup Methodology – This is NOT your Father’s old Business Plan

Once we’ve satisfied these initial threshold elements of our business idea, it’s time to move on and figure out what to do next. 

Where in the old days we might have been taught to take the next 6 months pontificating within a few hundred page business plan, the Lean Startup movement has completely discredited that approach with the empirical data to prove it. 

Essentially what the Lean Startup approach is all about is getting your business idea in front of your customers and having them provide a continuous stream of feedback whereby they essentially co-create the final product or service with you. 

This process is known as Design Thinking and Human Centered Design in other crowds but within the entrepreneurial community it’s now known as the Lean Startup methodology.

The first step in the process of refining our idea before we start to build it or establish a business around it is to develop a Problem Statement that we want to test.  We’re not trying to be overly creative here per se but much more to the point as to what we are trying to identify as the exact opportunity in the market place. 

As an example, I might have identified what I believe is a niche for a line of clothes for women who work in industrial settings.  In this case my Problem Statement might be as follows:  I believe that women that work in industrial settings would prefer a line of clothing that is stylish but durable yet appropriate in the setting that they will be worn in. 

Don’t do anything until you know what the Problem is

At this point, in the old days of entrepreneurship before Lean Startup you were told to go out and hire a designer and start manufacturing your clothing line.  The problem with this approach is that it becomes an all or nothing proposition. 

You literally get it wrong or you get it right.  But here’s the kicker.  When you get it right, it may not be entirely right because it might not have been the exact type of offering that the potential customer base was ultimately interested in…slightly wrong design, wrong cut, poor color choice, etc…which inevitably reduces the potential market and possible success right out of the gate. 

However, starting out with our Problem Statement first we actually get to find out if we are completely on target with what we are going to offer or if we have to do a little work to get it completely right. 

So what do we do?  Well for starters I can tell you what we DON’T do!  We DON’T ask our friends, our relatives or our Mom if they think we have a good idea!  THEY are not our Ideal Customer Avatar and with all due respect, they do not reflect who our customer is. 

All we need are 20 individuals that ‘look’ like our customers

Instead, we find at least 20 individuals who are the perfect composite of who we envision our actual customer to be, our ICA.  Once we find these individuals we run our initial Problem Statement by them and see how they react.  We want to find out if they in fact actually have the problem or the pain that we think they do.

At this point we are not interested in telling them how we’re going to solve their problems or relieve their pains.  Huh?  Isn’t that why we’re doing this?  NO!  Actually, what we’re doing is ‘listening’ to our customers to find out to what degree they have the problem that we think they have and the degree of complexity of that problem. 

Instead of finding the solution to their problem we’re actually trying to find out every aspect, angle and variable of their problem that is possible. 

This may not make much sense to most people but at this stage in the game we’re not trying to find the solution…we’re trying to find the EXACT problem!  Huh? 

The reason for this is that if we have the right idea as to what we think the problem ‘might be’ and we start to ask questions surrounding this perceived problem we’re going to understand it at such an intimate level that it’s going to allow us to be open to multiple solutions when the time comes. 

Fall in Love with the Problem

If we ‘fall in love’ with our solution right off the bat it’s human nature for us to work hard to force our solution onto our customer regardless of what they tell us. 

Instead, fall in love with the problem because it is the problem that is what is the star of the show. 

The solution is merely a by-product of finding the highest state of our customer’s problem.

So alright.  We now have fallen in love with our customer’s problem and after hearing from a solid sampling of our ideal customer we think we now have a good outline of what our business idea should be. 

However, we STILL are not ready to start making our product and developing a business.  Instead, we now need to figure out if we can have a business that can make money. 

Oh great…here’s where we start talking about the boring business stuff.  Well, truth be told, creating the product is the sexy stuff.  It’s the creative part of the process and of course it’s what most of us entrepreneurs want to do all the time. 

That said, if we don’t have an idea that can make money we are merely pursuing a hobby and that’s NOT what we’re trying to do.

How large is the market

So the first thing we now want to do is figure out how large our market is so as to determine if we can make any money from this business idea.  Easy!  Roughly 108 million people in the United States are women over 18 years of age and we estimate that approximately 10% of them work in an industrial setting which works out to be about 10 million women.  Done!  Our market for our product is 10 million potential customers.  We’re going to be rich!

Now this sounds ridiculously juvenile but once again, in the old days that was basically the process of determining the potential market for a product.  The reality was that it was thought that EVERYONE who fell within the demographic layer of our potential customer base might be interested in our product and it wasn’t debated rigorously. 

With the observation of psychographic and ethnographic data, we slowly started to understand that not every 18 year old or older woman working in an industrial setting was exactly alike.  As individual human beings, low and behold, they have different interests, preferences, tastes, cultural practices and styles.  Therefore, there is no possibility that EVERY person who meets our initial profile is ever going to be a customer.

That said, we need to figure out what a plausible sized market might be for our business idea.  What also needs to be considered is that not all is what it appears to be when identifying the size of the market. 

What exactly am I trying to say?  The point here is that even if we identify the initial size of the market correctly, it is not necessarily the size of the market that is the limiter it is OUR ability to serve that market that is the limiter. 

Different levels of the market

In other words, we have to first understand the most realistic size of the market before we figure out if we can service it.  As an example, we first have to look at what is called by the Total Available Market (TAM).  This is the total market demand for our particular product or service. 

From there, we need to be completely sure how many of those individuals within that market that we can actual get our product or service to.  This is what is known as the Serviceable Addressable Market (SAM). 

From the SAM, we now can identify how many customers we can reasonably reach with the resources, labor, distribution, marketing and finances that we can control. This is called Serviceable Obtainable Market (SOM).  

As mentioned, it’s not the size of the market that will ultimately limit us it will be one of those aforementioned factors that limit how successful we’ll be.  As an example, if we identify that our SOM is 10 million customers if we only have enough resources to make 200,000 items a year than no matter how many more potential customers that are out there and available, we can only essentially service 200,000 customers. 

Conclusion

Now that we know we have an upper limit of 200,000 customers at any given time we now have what we need to figure out if this would be a worthwhile venture.  Using some very basic math we multiply the cost of our product, let’s call it $50, times 200,000 for an upper total of a $10,000,000 gross Total Market Value (TMV). 

More specifically, in the most ideal situation if we had the ability to sell all of our annual production for $50 per item we have the potential of grossing $10,000,000 in a year.  In the event that we enjoy a 30% margin we could net roughly $3,000,000 dollars.

Now let’s take a more realistic approach to determine whether this venture makes financial sense to pursue. 

Let’s further assume that of our SOM of 200,000 that only 50% or 100,000 would be active customers of ours annually. 

So now we know that we could reasonably expect to gross $5,000,000 and with a 30% margin we could net $1,500,000 annually.

So when we are considering whether or not to pursue an entrepreneurial idea, not only do we need to identify if there is a large enough customer base, we need to identify who is our ideal customer AND if it is going to be profitable. 

It’s one thing to have fun making something but it’s another thing entirely to make money at making something!