Friday, 25 May 2007

Don't Let Overheads Grow Faster Than Your Business

Easy to say. Harder to execute.

This was one of the cornerstones of our business mantra: Cash belongs in the bank not in the warehouse. Stock is the enemy. You can't grow your way out of a hole. Shrink to survive. Don't let overheads grow faster than your business. If you build it they will come. Positive churn positive churn positive churn. Pick your fights. Only get in the ring if you know you can win.

And we stuck to this one for three years. For three years it was easy.

In year one and two we didn't grow our way out of the hole, we shrank. So we kept turnover tight and churned our margin up.

In year three we planned to relocate in September so kept a lid on growth. We didn't want to be executing a formidable relocation project in the middle of a growth surge so we kept business steady.

I can honestly say that in those three years we did not openly sell. We acquired no new customers. We concentrated on trading up and churning the portfolio. Doing a better job for our customers today than yesterday and better tomorrow than today.

So we could control people costs very tightly. We could control expenditure and investment on our terms.

Once we had moved, it all changed.

We needed to grow. We needed new revenue. We knew that we had a couple of pieces of business in very mature markets that would be vulnerable to price erosion if not collapse within 2 years. We had to move on.

As the R&D cupboard was fit to burst by this point we had plenty of ammo. So tentatively wandered out into the world and picked a fight or two.

Sales took off. Rocketed. This put a huge pressure on an organisation that had been perfectly scaled to the first three years.

It quickly began to creak.

We realised that we had crossed a line. Below that line the organisation as configured for years 1-3 could cope. Beyond it it could not.

But what if the cost of an organisation that could cope with the growth curve meant overheads growing faster than turnover? And would it be affordable if we entered a storm or if the new revenue slowed and erosion in the mature portfolio accelerated?

As it turned out it took us six months to recruit the new talent that we needed. There had been some leavers along the way so we applied the positive churn principle. I expressed this at the time as our needing to churn the mean intellect of the business upwards. That is not to demean the people who moved on. We lost some real stalwarts. People who were a real part of the family but who were moving on for reasons of their own unrelated to our journey as a business.

The way the people churn phased meant that the year came in at the same ratio to turnover as the previous year. Big tick perhaps but ephemeral. This meant a big increase in spend that was back ended that would show itself as a big upward lurch in people costs if top line growth slowed in 2007.

Which is exactly what happened in the first quarter. The erosion that we had foreseen back in 05 was now washing through and eliminating the effect of the soaring new business growth.

If I compare my first quarter nos for 06 and 07 people costs growth is running ahead of turnover. Twice as fast in fact.

But, my latest forecast says this will even out by the end of the year and will be more or less in line with last year. So I am holding my nerve.

Overall if I compare the baseline yr1-3 with 07 to date turnover has increased marginally faster than overheads, but the consensus is that with the new team in place, we are now operating a the lower level of potential.

By which I mean that the team is more or less fixed until the next ceiling which is probably at about 40% growth on current turnover.

We just have to make that happen.