Ultimate Guide to Starting a Business: Part 1 of 2

by alan1975

This is not one of those wishy-washy online guides. This article relies upon established business principles and the experience of entrepreneurs, to present a comprehensive guide.

Starting your own business is a particularly daunting task, one that most people greatly underestimate. Below, I have compiled a thorough, two-part step by step guide to starting your own business. Part 1 will deal with the preliminary investigation while part 2 will deal with actual tips for setting up a business.

This guide is based in part on my experience, in part on the experience of the entrepreneurs that I have come to know over the years, and also in part on my education as a business graduate. But be warned however, this is not one of those superficial half-page internet guides. I have gone to great lengths to include established concepts and theories that managers and business schools would use.

Although I have done my best to list the points in a logical order, in reality these stages overlap and in some cases the order may be somewhat different.

1. Identify a market opportunity

At its most basic, succeeding with your own business will hinge on two factors:

1. Favorable market conditions/potential: For example, an unexplored niche, low level of competition, or the ability to create a new market with a revolutionary product.

2. Your ability to take advantage of this situation, preferably in the long term: For example, your expertise, your resources, your competitive advantage, etc.

Before you can start anything, you need a good idea. This idea will usually come from an area you are already familiar with. However, it is important at this stage to ask yourself what value you will be offering your customers and what will give you an edge over the competition. To do this I will introduce two very basic and very important business concepts:

Value added: Put simply, it refers to the value that you add to a product, service, or system. If I take a piece of metal and turn it into a bolt, I have added a certain value to that product. If I am a middle man or shop that imports food, I may provide packaging and distribution, or I may offer the product to consumers form a convenient location (something they are willing to pay for).

By contrast, if all you are doing is trying to exploit an imperfection in the market, for instance by locating a cheap source of product A in one location and selling it on at a higher price in another location, the chances are that your business will be short lived. Now, I am not saying that one cannot make money this way, but in most cases you will find yourself attacked by competitors from all corners as soon as this imperfection becomes apparent. I speak from experience here.

Sustainable competitive advantage: Competitive advantage essentially means: what is your edge? Competitive advantage can be anything that makes a difference, e.g. a product innovation, the ability to offer better service, a unique and valuable service package, access to a better distribution network, better efficiency that comes from a certain skill set etc. Now the question is, is it sustainable? As others try to copy your business model, will you be able to maintain your edge? Is your skill set easily learned? Is your innovation easily copied? On the other hand, will you have gathered such useful experience from your head start that competitors will have a hard time catching up?

Keep these two ideas in mind when you try to sort good ideas from bad ideas, and remember that if you do not add value and you do not have sustainable competitive advantage, market dynamics will eventually reduce your income to the point where it is not longer viable for a new competitor to enter the market, i.e. to the point where you are broke or just scraping by.

2. Learn about the market and industry

If you think your idea holds water, then it's time to look at things more seriously. You need to understand what it will take to succeed, how the market and industry will look in the future, and how hard it will be to maintain your success in the long-term,

There is a great model for this created by one of the top business gurus. It is called Porter's Five Force Model, after its creator, Michael Porter. It remains the most popular way of organizing an industry analysis, and I highly recommend it. The model looks at five "forces" or threats that will affect your competitiveness in the short and long term. The higher the threat, the more wary one should be.

1.    Threat from existing competition: What is the current competitive landscape?

2.    Threat from new entrants: Once you have entered the market, what is preventing other companies from simply following you? What if those companies are better funded? Are there entry barriers that will prevent them from entering, or give you a head start that you can turn into a long term competitive advantage?

3.    Threat from substitutes: Can your product or service be replaced by something similar? For example, if you offer translation services, what is the threat from free machine translation such as Google translate? If you sell music CDs, what is the threat from MP3 downloads? Be realistic about this – how much are people willing to pay for YOUR product. Also, even if you have a patent on a new successful product, keep in mind that companies will take your product apart and identify the smallest possible change that they can make so as to bypass your patent and create a very close substitute. 

4.    Bargaining power of suppliers: Are you at the mercy of one or a few key suppliers? If you need components that only one company can produce and they raise prices, what then?

5.    Bargaining power of buyers: Again, are you at the mercy of a few big buyers, enabling them to potentially force you to lower prices? Or are there simply so many choices for buyers that they can easily switch products if prices get too high?

This will give you a solid understanding of your industry. Use it to get a general picture and to assess whether it is worth continuing with your idea. Do not be afraid to jump ship if an idea is not viable. Also, do not assume that an idea is good just because it has a low threat level for 4 of the 5 forces. A very high level in just one may be enough to abort the mission.

Also ask yourself what stage your market is in. Products often (not always) go through four stages: introduction, growth, maturity, decline.You can read more about the product life cycle in this Wikipedia article.

3. Prepare a tentative budget… and then double the costs

You need to understand roughly how much funding you will need. Without the right funding, good ideas get nowhere. So sit down and try to think of every expense that you might have, and keep in mind that the vast majority of start-ups fail within the first few years of operations.
Think about:

-    Fixed costs: e.g. rent, phone, internet, etc.
-    Variable costs: e.g. marketing & promotional costs, costs of product components (which will presumably vary depending on the sales levels), power, gas, freelance labour, etc.
-    Personal expenses: money you need to live off for (probably) quite some time.

Remember, there will always be more costs than you anticipate. Call it Murphy's Law, call it our inability to predict the future, but that is the way it usually goes.

Now, most text books will tell you to make a forecast of your expected income. Banks want this too if you apply for a loan. In reality, only some people, i.e. those who have worked extensively in the industry or who may already have clients lined up, can actually produce figures that are not pure fiction. So beware your predictions... your banker may like them, but do not put too much stock in your own flights of fantasy. And as always, be conservative.

4. Prepare a (partial) business plan

Assuming your idea passed all the previous points, you now have a business concept that should be competitive, that adds value, that will be implemented in a favorable market & industry, and that you will presumably have the resources to execute.

The next step is to create a business plan, because it will force you to think about the specifics, including vision, goals, short term objectives, market analysis (some of which you have already done, but now you will go into details), specific marketing strategy and customer segmentation, etc. Your business plan should also include an assessment of your strengths, weaknesses, opportunities, and threats (known as a SWOT analysis). You may not have all the information, but the exercise of writing it is 75% of the benefit.

There are many guides online, for example this template for a basic business plan.

5. Final Reality Check

Now that you have all the information, do you have what it takes?

Keep in mind that, beyond the cost issue, if your start up company is not just a one man operation (or a small team), but actually involves hiring various experts, the skills you will need escalate dramatically. Suddenly, you will not only be in the role of entrepreneur, but also that of a general manager and possibly project manager rolled into one. You will have to manage your staff, put together the right teams, organize effective business processes, and generally be a good leader (if you want to read more on organizational management & leadership check out leadership & the learning organization).

So do you have, or can you acquire, the right skills, knowledge, funds, people, location, support, permits, and so on? If not, your office cubicle awaits. Otherwise, it is time to proceed to part 2 (see the link below).

This is the second part of my guide to starting your own company.
Updated: 06/13/2012, alan1975
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Tolovaj on 06/22/2012

This is good and useful general info. I see people everyday establishing new businesses and closing them after few months or one year. Lack of theory is certainly one of the main reasons.
I can say from my own experience I made A LOT mistakes but have been enough resourceful to keep the head above water. For now...

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