Identifying and Assessing Business Opportunities
Identifying and assessing business opportunities is a key skill should you wish to set up a company. When you first identify a potential business opportunity and believe in its potential, it is important that you begin assessing its credibility through a logical approach rather than being blindsided by confirmation bias. Often there are lots of potentially great ideas out there, but you need to think about the resources you have available, the nature of the market and potential route to sustainability. Reading through this section should begin steering you in the right direction, ensuring that you don’t spend too much time or resource on an idea that in practical terms won’t work.
Identifying Business Opportunities –
The Quick Checklist
A checklist is a very simple, but very powerful tool to employ in any area of life, from picking up the right items at the supermarket to managing a project through logical sequential steps to even completing pre flight checks. I therefore like to employ a very simple checklist at the inception of an idea to avoid wasting too much time and effort on developing something that is likely just not going to work. This checklist is as follows:
Area | Description |
1. Market size and growth | How big is the market? Is it growing? |
2. Expected return | Can I charge above average pricing? Or is the market a race to the bottom? |
3. Upfront investment | How much would I need to invest to get things up and running? |
4. Cost of market penetration | How much marketing and investment will I need to reach customers? |
5. Cost of creation and delivery | How much does it cost to create and deliver the product or service? |
6. Differentiation | How unique is my idea compared to the rest of the market? |
7. Speed | How fast can you setup and get to market? |
8. Durable advantage | Is my idea easily replicated by a competitor? |
9. Passive potential | Once setup, how much effort do I need to employ to keep things ticking? |
You would simply go through the checklist and assign a score from 1-10 for each item 1 being not attractive at all and 10 being extremely attractive. I normally then dismiss any idea with a score less than 40.
For example I might think of starting a gym and my score could look something as follows:
Area | Reason |
8 Market size and growth | The fitness market is a high growth and valuable market, however there are a number of key players already established and I would need to ensure I can compete |
4 Expected return | A number of large players already exist in the market and therefore to compete my margins will need to be squeezed, there is no real opportunity to realize above normal returns |
4 Upfront investment | I would need to invest capital in equipment and potentially premises in order to start up, neither of which will be cheap. |
6 Cost of market penetration | My marketing can be targeted specifically at the local area and thus my spend can be concentrated and minimized |
6 Cost of creation and delivery | There isn’t much to create and deliver, just organizing the pricing and negotiating the costs and contracts with related suppliers e.g. Premises |
2 Differentiation | There isn’t much differentiation between gyms, many compete on using brand, price and facilities, but any blend is relatively easily replicated |
4 Speed | There is a lot of setup regarding finding the right premises, getting the equipment, marketing the concept etc. It isn’t a particularly speedy idea to set up in practice |
1 Durable advantage | Any gym can be replicated; you have little in the way to differentiate unless you build an extremely strong brand or reputation (which as a start-up I won’t have). In general though there is nothing in a gym environment you can patent or be an exclusive provider of. |
3 Passive potential | There is potential that I could grow my customer base to a level that the business ticks over in my absence and I bring on employees to manage the day-to-day running; however it is likely at least for the first few years that I will need to have a very hands on approach. |
Score is therefore 38 – meaning I would likely dismiss this idea unless I could find reason to believe one of my judgments was unfair. E.g. I could look at lease contracts and potential lease contracts for gym equipment and decide that item 3 – upfront investment is actually far more attractive than initially envisioned and should be a 7 pushing my overarching score to 41 which could warrant further investigation.
Assessing Business Opportunities –
Break Even and Price Competitiveness
To test an ideas initial feasibility it is always worth assessing its viability through the lens of cost and potential profitability (assuming this is designed to be a for profit business, however this analysis is also useful for non-profits sustainability). Often I do this through a quick break even calculation.
For example if I was going to start my own gym I would gather initial thoughts on the costs involved e.g. premises, marketing, equipment, employees etc. Let’s say:
- My premises costs, utilities and other overheads came to £10,000 a month
- My initial investment for equipment and marketing was £8,000.
- I know therefore my first year cost is going to be £128,000.
Researching other organisations in the same market reveals an average price of £45 a month membership. I decide my business is designed to be a budget offering so I want to undercut and charge £40.
With that in mind, just to break-even on a monthly basis I would need at least 250 paying monthly customers (£120,000/12/40). At that rate I would be able to cover my monthly outgoings, but could never recoup my initial £8000 investment, consequently I would need to attract more than 250 customers to my gym in order to start seeing a return.
At this stage, if I believe it simply isn’t feasible to get at the very least 250 customers, then the idea is simply not viable.
Assessing Business Opportunities –
Customer Acquisition Cost
The customer acquisition cost (also known as the allowable acquisition cost) is closely aligned with marketing. Basically it is a method of attempting to compute the amount you can invest in trying to attract a customer to your product/service whilst still maintaining adequate profitability.
If your allowable acquisition cost comes in at £200 per customer, but you are estimating that you’ll need £300 per customer to get the message out there, then the idea may not have the ability to deliver a return worth the investment from a time, capital and resource perspective.
You can calculate the allowable acquisition cost as follows:
For example let’s say:
- My expected average value from a customer is £1000 over a 2 year period;
- To deliver that to them it will cost me £200;
- My total expected overhead per annum is £100,000;
- I forecast attracting 200 customers in the period and I am looking to achieve a 50% profit.
My calculation therefore is as follows:
Average lifetime value per customer (£1000 ) minus the cost to deliver that value (£200) = £800
Overhead per customer is equal to £100,000/200 = £500
I therefore have £300 (£800-£500) in revenue per customer before marketing.
As I want a 50% margin, I can only afford to spend 50% of that £300 on attracting a new customer giving me a maximum allowable acquisition cost of £150.
From a budgeting perspective, over the 2 year period I can’t afford to spend more than £30k on marketing (£150*200). If my forecast spend is much higher than this then the idea is likely going to be too costly to attract market share in the time horizon set for it to be profitable.
Assessing Business Opportunities –
The Shadow Test
If you feel you have landed on a pretty solid idea, that passes the above tests you may be able to employ the concept of a shadow test which is a relatively risk free way to understand whether there is really a market for it.
A Shadow Test works especially well in industries where significant capital is required upfront e.g. technology. For example, Fitbit, at its inception created a website for its fitness tracking product and marketed it out taking preorders without actually having a workable product to sell. This significantly reduced their cost and their risk as they hadn’t invested capital in the creation of a product that potentially wouldn’t sell. The interest garnered through this shadow test process provided evidence of a market which enabled them to secure investment and begin mass production.
Key Takeaways
An idea is the start, but you must take care in deciding what to spend time on
Coming up with an idea is the first step in business, but you must take due care deciding what to spend time on and what to discard.
A simple checklist can put you on the right path
A simple checklist method can help sense check ideas you have and avoid wasting time on business that isn’t viable.
Pay attention to your financial metrics
Financial metrics are a quick sense check regarding viability, Break-Even analysis and Customer Acquisition are two of our favorites. Simple to calculate and provide significant and valuable insight.
