cfoaxis_5a8ytd 24 September, 2019 1

Is “Scalability”​ merely an over-hyped jargon for growth?

Growth is a natural goal for almost all humans. In fact the desire to grow distinguishes us from other animals. The definition of Growth differs from individual to individual and also for the same individual, growth means different things at different times in his life.

In the context of business, growth is always on an entrepreneur’s mind. Normally growth would be defined to mean more number of customers, higher sales, larger portfolio of products, more employees, larger budget for spend, expanding into new markets or more number of branches, and so on.

The new buzzword in the startup world, however, is “scale”, and not growth. Scalability is what the promoters desire, and what the investors mandate. Investors across the value chain, from angel, seed, venture capital and and private equity players, demand that the startup’s business model must be “scalable”.

It is therefore very important to understand what scalability means, and how it is different from the “growth”.

Scalability is the ability to grow revenues, while constantly driving down the costs, increasing profitability and generating consistent, predictable and rising positive operating cash flows. In the old economy business models, growth in revenues was in most cases accompanied by growth in costs. This paradigm has been challenges by tech- driven startups which have shown the ability to grow exponentially without having to bear the proportionate costs.

Implicit in the “scalability” are a few aspects, that separate “scale” from “growth”.

  • Ease of acquiring customers: Traditional models of customer acquisition involved field sales representative visiting a prospect, making a sales pitch, and trying to convert a prospect into a customer. This model has inherent limitations of finding prospects, qualifying prospects, reaching those prospects, having well qualified and experienced sales team, and logistical limitations of scheduling and traveling. A larger sales team and associated higher sales cost was a per-requisite for acquiring higher customer base. If you develop a customer acquisition model that helps you acquire a customer at any time of the day and night without any of these hurdles,and without recruiting more sales persons, scalability is inbuilt in your model. Amazon, for example, acquires new customers for its AWS products fully online and the entire on boarding process is also online. The customers can sign-up anytime and from anywhere.
  • Cost of customer acquisition: A logical extension of inbuilt ease of acquiring new customers is reduced cost of acquiring every subsequent customer. Once you have built a system which acquires the customers and ensured customers are pulled in, the cost of acquisition reduced substantially. Reduced customer acquisition costs translate into higher profitability, which means higher budget can be allocated for ensuring customer satisfaction and additional marketing spend.
  • Non-linear cost structure: A scalable business may have higher upfront fixed costs, however, the variable costs associated with servicing the customers should be substantially low. This is achieved by de-linking product development, manufacturing, distribution and customer service from linear model that requires higher material and labour costs with each sale. Indian IT services industry grew for almost three decades using the linear model, and now they are in the process of de-linking the costs of servicing from the revenues.
  • Revenue momentum: The scalable business ideally has multi-layered pricing for product versions that target specific customer segments. It helps acquire customers with different spending abilities, and also up-sell superior product version to the existing customers. The product should be designed to leverage an ecosystem that enables cross- sell for acquiring higher share of customer’s wallet. The revenue streams should be diverse, and pricing should be designed to retain the customers, thus reducing the elasticity of demand. Pay-per-use models ensure that the revenues are linked to growth in customer’s business and profitability, and have higher acceptability.
  • Technology as a differentiator: Use of technology for customer analytics and product delivery has enabled the businesses acquire more business and de-link costs from revenue growth. Superior deployment of technology right from product development, customer analytics, customer acquisition, delivery and customer servicing has created today’s monstrous monopolies, where “winner takes all” has become a norm. Leveraging latest technologies such as social media, mobility, analytics and cloud, along with machine learning, deep learning and artificial learning, the scalability can be a long-term sustainable advantage.

A startup should apply these parameters to measure the scalability and ensure they are able to demonstrate it successfully to the prospective investors.

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