A New Definition on What it Means to Scale a Company.
“I’m Trying to Scale My Company”
I keep hearing entrepreneurs talk about their desire to “scale their companies”. We also hear lots of discussion around “scalable business models”, but what do these things mean, and how can we think about “scaling” in a constructive and deliberate way? Better still, what if there was a tool or framework that helped deconstruct the complexity of scaling a company which a team could use to set priorities and make decisions? Some companies are naturally good at this. It’s probably the main characteristic of companies featured on the Inc5000 list: they have learned how to scale. This is why the average growth rate of those 5000 companies over three years that qualifies them for the list is around 350%. Nonetheless, even those companies can hit a plateau and a large percentage struggle to stay on the list for consecutive years. Since 1981, only 3,291 companies have been featured on the list more than once, a tiny 2.1% of the 160,000 companies listed during that time period. Only 903 companies (0.6%) have been listed 5 times. So consider this situation: you’ve been in business for a while and have found a market. You know exactly who your customer is and have refined your value proposition. The company is experiencing growth and your sales are profitable, but now you want to go bigger, make more money, and have a greater impact. The question is, how? What should you do next? How can your company develop a plan to achieve scale?
Let’s Define Scalability
Unfortunately, there does not seem to be much clarity on the concept of “scalability”. The Lean Startup movement suggests startups are in search of a “scalable and repeatable business model”, but do not go much further into explaining that idea. Accordingly, the discussion is not complete without a proper definition on the meaning of scalability. Traditional definitions of “scalability” relate to the performance of systems.
“A characteristic of a system, model or function that describes its capability to cope and perform under an increased or expanding workload. A system that scales well will be able to maintain or even increase its level of performance or efficiency when tested by larger operational demands.” – Investopedia
“Scalability is the ability of a system, network, or process to handle a growing amount of work in a capable manner or its ability to be enlarged to accommodate that growth.” – Wikipedia
Business definitions include:
“A scalable company is one that can maintain or improve profit margins while sales volume increases.” – Investopedia
“The concept of scalability is desirable in technology as well as business settings. The base concept is consistent – the ability for a business or technology to accept increased volume without impacting the contribution margin (= revenue − variable costs)” – Wikipedia
In the business context, the major challenge is to maintain profitability while increasing in size. If costs go up faster than revenues, the company is not truly scaling. Otherwise stated, gross margins must at least remain as sales increase.
A New Definition
I would like to propose a new definition: Scalability = Fuel – Friction In conversations about scalability, I have heard people talk about “picking up speed” or “building momentum”. There are formulas for these things:
Acceleration = Change in Speed / Change in Time Momentum = Mass x Speed
In both cases, you want to pick up speed, you want to go further in less time – while generating a sustainable build up of energy that makes the company unstoppable. That leaves us with a core question: how do you increase speed?
1) Add Fuel 2) Remove Friction
Scalability = Fuel – Friction
Think of a company with lots of friction. It’s not going anywhere. It’s slowing down, decelerating, stagnating, dying slowly. A different company with equal amount of friction and fuel will stay exactly where it is right now – they are experiencing Fuel – Friction = 0, the point of zero acceleration. On the other hand, a highly scalable company will have significantly more fuel propelling it forward than friction holding it back. This is my definition of scalability (and the foundation for the Scalability Canvas I introduce in this article). This simple formula is designed to make scalability easier to talk about amongst a team, and make it easier to define growth strategies. For all companies, the balance of these forces change over time, but the formula stays the same. The beauty is that any change to the Fuel/Friction balance will improve the scalability of the company
Scalability & Business Models
Scalability is often a matter of design. At a fundamental level this means design of the business model; at a tactical level, it means design of the marketing/sales engine with execution support from systems/skills. The influence of a company’s business model on it’s scalability is significant. Some business models are fundamentally unscalable. Service-based businesses, for example, are renown for their inability to scale: the billable output (fees) is directly connected to physical input (hours). The inability to scale is compounded by the fact that output is non-recurring, customized client work (legal, accounting, consulting). Restaurants are similar: you go to a place, sit down, have a meal made in a kitchen that can only produce a maximum number of meals per hour. Restaurant revenues are fundamentally constrained by the way they produce their product. However this can be changed. There is a maxim in Startupland that it’s not products which are disruptive, but business models. It’s not always what you do, but how you do it that disrupts a market. Today, many companies are developing business models which redesign the Fuel/Friction mix in their industries. Business model design should be a central area for the team to investigate when exploring ways to improve scalability.
“Scale” vs “Scalability”
A careful distinction should be made between these two words: there’s a big difference between “scale” and “scalability”. Scale refers to absolute size; scalability is the inherent ability to increase in size. Scale is found in operational efficiency; Scalability is found in business model design. Teams exploring growth options can seek to increase either Scale or Scalability – both help the company have a greater impact on its market. However the true prize is adjusting the company so it can scale frictionlessly. Thinking about “scale” is easier because it’s linear: another 10 customers equals another 10 sales. Scalability is much harder because it affects more fundamental issues of business model design. However, the process of exploring scale can uncover frictions that signal opportunities to adjust the business model, thereby achieving true improvements in scalability. For example, let’s assume a company has discovered it takes 3 months to fully train and onboard it’s staff. The problem is that entering new markets is slower, more expensive, and riskier, because the company can’t start establishing a foothold in the market until the new office’s staff are fully up to speed. Now, the root cause might be that the work is too complex, or that the training process is inefficient. Either way, there’s Friction, and if it’s removed the company will be able to scale faster. This where the distinction of Scale vs Scalability comes in. A possible answer to removing this friction is to hire more trainers to reduce class size and speed up the training process. It might also be a one-off effort to get into that market faster. The improved operational efficiency of training faster contributes to increasing “scale”, but it does not necessarily improve long term “scalability”. If the company found a way to systematically onboard staff within 2 weeks (without affecting product/service quality), it could enter more markets per year, therefore fundamentally improving the scalability. Consider this second example. A graphic design studio specializes in customized wordpress templates so companies can quickly create websites. However their staff are not utilized 100% year round. In the downtimes, the company could eat the cost of their time, or ask them to design templates which can be sold through platforms like wordpress.com or themeforest. By adding a second product offering, the company becomes more scalable – the marginal cost of selling one more template is virtually zero but they can sell an infinite amount. Templates are a more scalable product than custom design, and by introducing this offering the company becomes more scalable overall.
The Scalability Canvas
With these foundations in place, I have designed a framework – The Scalability Canvas – to assist teams as they think through these challenges. It’s a tool to help teams think through the scalability of their company and develop strategies which can take them to the next level of growth.
Adding true scalability is achieved in the business model design. It is more than operational issues of efficient execution; it’s about how the company fundamentally produces and delivers it’s product or service. The key question is “What Fuels or Frictions are embedded in our business model? How can we make change to the Fuel/Friction balance to enable frictionless growth? Answer those questions well, and the sky’s the limit.I encourage you to check out the Scalability Canvas. Let me know what you think.