The Balance Sheet OR Profit & Loss way of building a business.

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The Balance Sheet OR Profit & Loss way of building a business.

  1. 1. By Alok Rodinhood Kejriwal
  2. 2.  I believe there are 2 approaches to building a business…  I think of them as the ‘Balance Sheet (B/S)’ way and the ‘Profit & Loss (P&L)’ way.  Each approach is unique, with its own advantages and disadvantages.
  3. 3.  A business that:  Borrows money from Investors.  Spends that money on building technology, marketing, R&D, IP creation etc.  Stuff that consumes money without making money.  Spends first, earns much later.
  4. 4.  A business that:  Begins by generating revenues from its operations almost immediately.  Spends money on salaries and other operating costs to generate revenue.  Earns revenue first, builds assets later.
  5. 5. Balance Sheet Business •Internet Platforms like Twitter, Uber •Steel Plants •Dams, Roads Profit & Loss Business •Ad Agencies •Restaurants •Taxi Services •Software Services
  6. 6. Balance Sheet Business • Spends first in buying and building assets. • Uses those assets to generate revenue. Profit & Loss Business • Generates revenue first from minimum assets. • Uses profits from the business to buy more assets.
  7. 7. Balance Sheet Business • Attracts those who can wait long periods of time in the hope of building value. • These people have the ability to manage budgets and project timelines. • Those who can RAISE lots ofVC money! Profit & Loss Business • Attracts those who like to generate revenue quickly and use the profits for growth. • People who don’t like borrowing too much money or taking large risks. • People who don’t have a track record of success
  8. 8. Balance Sheet Business • Takes a long time to build out, with many iterations in between. • Needs expert management of budgets and project timelines. It’s complex and demanding. • As the entrepreneur, you can’t abandon a venture in between.You need to commit 10 years. Profit & Loss Business • Quickly gets started. Provides instant gratification of owning a real business. • Provides lots of operating experience. Great way to start a first business. • Can be closed, or even abandoned quickly if not successful fast.
  9. 9. Balance Sheet Business • Owners of Capital – Banks, Lenders,VCs, HNIs, etc. • Investors who like large outcomes and have the appetite and discipline of waiting, watching and hoping! These are folks who can afford to risk their capitals for higher rewards. • People who CAN REFINANCE you multiple times, as you build your business. Profit & Loss Business • Friends, family & your local banker.These people are happy to get you started and to take back their money when you can comfortably return it. • The actual business starts from existing contacts and ex- employers, who need your services immediately and give you your first orders.
  10. 10. Balance Sheet Business • A big win or nothing. • VCs don’t like mediocre returns.They like spectacular returns. • Don’t do a B/S venture if it’s not going to create a 30-50x multiplication of the original investment. Profit & Loss Business • Their capital back, with interest. • Later, these financiers could get special terms to invest (longer term) in your business, given your proven success and if you are going to build assets.
  11. 11. Balance Sheet Business • Any kind of guarantees of success. • No capital back guarantee. Profit & Loss Business • High interest rates or fixed returns. • No capital back guarantee.
  12. 12. Balance Sheet Business • The financiers will begin with a 20-30% stake in your Company and progressively increase their stakes on more refinancing. • It’s fair that the entrepreneur is left with a 10-15% of stake in the business at exit stage. Profit & Loss Business • Short term capital lenders do not get to own stakes in P&L businesses. • They should remain short term financiers and have their money returned, sooner the better. • At best, give them some ‘goodwill’ shares in your business, but no defined stake.
  13. 13. Balance Sheet Business • Even though the money may be Capital, think of it as a LOAN. • Imagine all the time that you will need to repay it back (via an exit). • Do NOT SPEND on assets (like brand building via ads) when the benefit is fuzzy. • Only invest in assets that some dayWILL generate revenue. Profit & Loss Business • Invest in people and basic assets that immediately start generating revenues. • NEVER SPEND short term funds on long term assets (like building a brand or creating technology that will take years to yield revenue). Note – Investing short term loans to build illiquid assets is the most common mistake people make in building P&L businesses.
  14. 14. Balance Sheet Business • Exit via M&A, Acquisition or IPO. • The exit event happens when the assets built begin to show signs of revenue generation (e.g. facebook IPO). • The amount of valuation depends on the potential to generate revenue. Profit & Loss Business • These are easy to exit, and to IPO, since they have operating proof of income generation. • Valuations are usually tight, because the business has proven its potential and the path of scale.There is no ‘hidden’ charm to uncover.
  15. 15. YouTube founded by Chad Hurley & others in 2005 to build a video sharing platform. (Balance Sheet business) YouTube getsVenture funded by Sequoia. (The financier of Balance Sheet) YouTubeVideo platform scales massively. (The asset side of the Balance Sheet grows disproportionately in value.) Google acquires YouTube in Nov 2006. Google BUYS A BALANCE SHEET business. Google acquisition filing declares thatYouTube revenues are “not material”. Clearly ,YouTube has NO P&L. YouTube integrated within the Google ecosystem. A Balance Sheet business goes into the P&L direction. Google’s existing ad platforms and sales teams begin sales at YouTube. P&L kickoff of YouTube begins. Eric Schmidt – CEO of Google in Sept 10 says thatYouTube will break even and generate $450 mn in revenue! YouTube becomes a P&L Biz. A successful Balance Sheet business becomes a successful Profit &Loss business.
  16. 16. Balance Sheet Business • Chad Hurley and team were the ‘Balance Sheet’ guys. • They were good at building a great asset with borrowed capital. • P&L was not their forte or their interest. Profit & Loss Business • Google is a P&L business.They make serious money everyday. • They acquired a balance sheet (that they had missed building) and clearly made it P&L worthy.
  17. 17. Balance Sheet Business • If you embark upon a balance sheet business, then don’t get confused in generating a P&L from it.You will most probably fail at both. • If your financiers change their minds and want to generate P&L from what was to be a B/S business, then close the business down. Profit & Loss Business • P&L businesses take a long long time to be spectacularly cash rich. Hence, investing surplus money may never be possible. • If market forces change and create disruption e.g. travel agents (P&L biz) which get disrupted by Travel Portals (B/S biz), then you may lose your business for good.
  18. 18. Balance Sheet Business • If you want to build product, platforms, IP, disruptive technologies that may ‘someday’ be useful to ‘someone’. • If you get the RIGHT financier to fund you for 5-7 years before seeing an outcome. • NEVER attempt to build a B/S business without sufficient, deep, committed and repeatedly available capital. Profit & Loss Business • If you want to do your first venture and get your hands dirty. • If you are not sure how committed you will be as an entrepreneur – P&L businesses can be started and shut in days. B/S businesses need at least a 10 year commitment. • If short term, small sums of money is all that’s available to you.
  19. 19.  I am available on alok@rodinhood.com / facebook.com/rodinhood / @rodinhood /  Linkedin / therodinhoods.com  If you have counter arguments, opinions, views, etc., send them to me. I will be happy to review them and add them as comments/reactions to this ppt!

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