Growing Fast — and Smart

By Donald N. Sull

June 15, 2007

Much of the literature on entrepreneurship focuses on how to find and evaluate opportunities. But for many entrepreneurs and managers, seeing the opportunity is the easy part. The real challenge lies in seizing it.

Those who have identified a gap in the market often stumble because they can’t scale their organization to meet booming customer demand before competitors encroach. To use a military metaphor, a general must not only spot an opening in the enemy’s defense, but also marshal the resources to execute an attack before the window of opportunity closes.

The rapid growth required to seize an opportunity places enormous strains on a company’s resources, organization, balance sheet and management. Here are five key questions entrepreneurs and managers should ask themselves before scaling a promising initiative:

1. What Are You Betting On?

This is a fundamental question, and should be easy to answer. “I don’t know” is a bad answer. When entrepreneurs cannot provide a clear or compelling answer to this question, it typically signals that they haven’t yet articulated a clear customer need or settled on a business plan that makes financial sense and provides an advantage over competitors.

The most compelling answers to this question often link back to changes in the broader context, including technology, the economy or society, that spur demand for new products and services or better ways to meet existing needs. The combination of increasing disposable income and growing health concerns, for instance, spurred demand for bottled water in China, an opportunity Groupe Danone seized.

Whatever the source of the opportunity, clarity on what the big bet is provides a focus for subsequent activities and clarifies the pitch for resources.

It is normal for entrepreneurs to go through several business models before settling on one, but a common mistake among both start-ups and established companies is to overcommit resources before the business model has been nailed down. Premature commitment will expose the problems in the business model but leave little time to resolve them.

One technology founder decided to launch his product nationally, against the advice of his board, because he wanted money to endow a building at his alma mater, and a phased rollout wouldn’t have paid the bills. While personal ambition is a necessary ingredient of entrepreneurship, it alone is a bad reason to scale a business. The same is true when outside directors or senior executives push managers to aggressively expand a business to satisfy investor demand for growth—rather than because a real opportunity is waiting to be seized.

2. Have You Standardized What Matters?

During periods of rapid growth, the creation of standard operating procedures for key activities—such as those that attract and retain customers, keep costs down or differentiate the company from rivals—frees up top executives and makes an organization more efficient. Predictable execution ensures that activities such as customer service and production don’t break down under the strain of rapid growth. It also facilitates coordination across a growing organization’s departments and reassures customers and suppliers.

Scaling generally requires a company to standardize across five distinct elements of the organization: processes, frames, resources, relationships and culture.

• Processes are the repeated procedures that companies use to get work done. They include formal routines such as product manufacturing and less formal ones such as decision making. Standardizing processes increases efficiency, enables tasks to be replicated throughout an organization and facilitates coordination among different parts of a company. For example, Intel Corp., on the road to becoming a microprocessor giant, adopted a cookie-cutter approach to fabrication that ensured a chip from one plant would be identical to the same product produced at another facility.

Standardizing matters in service businesses as well. Consider Baker & McKenzie, which in the 1950s pioneered the model of a multinational law firm, opening 16 global offices in a decade, and expanding to 70 offices in 38 countries by 2007. The firm’s founding partner, Russell Baker, worried that its rapid expansion could be derailed by a subjective process to determine partner compensation. At other firms, he had seen such processes trigger vicious political infighting, unhealthy competition among partners and fawning behavior toward members of the compensation committee.

To prevent this, Mr. Baker introduced an objective compensation process known as “the Formula,” which calculated a partner’s compensation based on billable hours, credit for attracting clients, profits from associates’ billing and a benefit for years as a partner. The amount of each partner’s compensation, as well as the underlying calculation, was available to all other partners. The combination of objectivity and transparency allowed the Baker & McKenzie partners to avoid the conflicts about pay that could have distracted the firm from executing on its plans for rapid growth.

• Frames are the mental models that focus employees’ attention within an organization. Examples include identification of the company’s focal competitor, choice of target customers, criteria for selecting retail sites or key performance indicators. By setting common frames, an organization helps ensure that its employees have common goals: They are fighting the same enemy, wooing desirable customers and measuring performance in a uniform way. The creation of a set of common metrics by which to measure employee or departmental performance is a common example of this type of standardization.
• Standardizing resources, which include tangible assets such as factories as well as intangible assets such as brands and technology, makes an organization more efficient, enabling rapid growth. Budget airlines such as Ryanair Holdings PLC typically stock their fleets with a single plane model—such as the Boeing 737-800—to speed turnaround times at airports and enable pilots and crew to shift from one aircraft to another with ease.
• Standardizing relationships with those outside of an organization—customers, regulators, suppliers and distributors, for example—can minimize the cost of haggling over the terms of every deal and ensure consistent quality across a variety of partnerships. A franchise contract is a common example of such standardization.
• Standardizing around the right culture—the shared norms that unite and inspire employees and shape what actions they take—can fuel loyalty, strengthen bonds with customers who share the company’s values and induce employees to do the right thing without elaborate control systems. Growth, however, requires new employees, and a hiring spree can dilute a start-up’s core values.

During the 1980s, a global management-consulting firm faced numerous opportunities to grow, but the firm’s leaders worried about diluting the culture. After a rigorous analysis of hiring, apprenticeship and turnover rates, their solution was to limit staff growth to no more than 20% in any given year to protect the culture. Other companies have moved to preserve their culture by hiring workers based on their values, then training them for specific jobs.

3. How Will You Manage Binding Constraints

Even with focus and standardization, a company can encounter constraints to the rapid growth required to seize a golden opportunity. Many of these will be minor annoyances that slow progress without stopping it. Binding constraints, however, are potential bottlenecks that bring growth to a grinding halt. They can emerge from several sources, including a management team skilled in starting a business but inexperienced in expanding it, insufficient funds to get big fast or partners that can’t keep pace.

To prevent a constraint from strangling expansion, managers must act when the issue is pinching growth but before it brings momentum to a standstill. Spotting binding constraints is easier when managers are aware they should be looking for them.

While constraints such as insufficient cash to fuel growth are common across organizations, others are company-specific. UTStarcom Inc., a Chinese telecommunications-equipment provider that increased its revenue to $2 billion in 2003 from $10 million in 1995 by selling a product that offered mobile functionality on a landline phone, knew its growth depended on avoiding potential conflicts with regulators. Armed with this knowledge, the company worked with its powerful customers to lobby Chinese government officials to approve its technology.

Sometimes internal resources are the problem, and a company can’t scale while simultaneously building everything it needs in-house. In this case, companies can outsource peripheral activities to focus their time, attention and resources on core tasks that will increase their odds of successfully seizing an opportunity.

Consider Brazil’s Empresa Brasileira de Aeron‡utica SA, or Embraer, which specializes in regional jets with 30 to 120 seats, a niche in which larger jet makers Boeing Co. and Airbus don’t compete. When the company developed its second-generation aircraft, it worked closely with a small number of partners that produced entire subsystems, while eliminating more than 300 components suppliers. These subsystem contractors bore approximately two-thirds of the total development costs for the new jet, allowing Embraer to focus on managing customer relationships and designing an overall system that met clients’ needs.

Sometimes management ends up posing the biggest obstacle to growth because the skills required to identify and validate an opportunity differ from those required to scale a business. “The team that gets you to the base camp,” according to a common venture-capital saying, “is often not the team to take you to the peak.” Before Dell Inc. underwent rapid growth in the 1990s, founder Michael Dell swapped out almost his entire top management team to include experienced “builders” who possessed the focus and drive to run operations on a large scale.

4. How Will You Absorb Bumps in the Road?

Even if managers do everything right, their companies may still face unanticipated challenges. Scaling an organization resembles building a rocket as it is taking off—decisions must be made quickly, and mistakes can lead to crashes. Given the difficulty of the task, prudent managers will have some hedges against unforeseen contingencies. A few of the most important are:

• A strong balance sheet. A war chest of cash and marketable securities on the balance sheet can serve as the perfect hedge against unexpected threats in scaling. In the world of finance theory, capital markets are efficient, and sound companies facing temporary setbacks can raise the cash necessary to tide them over. In the real world of entrepreneurship, sectors go in and out of fashion with investors, and funds are often unavailable when a company hits a setback. Even if the cash is gushing, it is likely to be flowing into rivals’ coffers as well, thereby providing no competitive advantage. And unlike brands or technology, cash can be deployed against most contingencies, even if an executive cannot anticipate the specific eventuality.
• Low fixed costs. Many executives sacrifice operational and financial discipline when they enter the period of hypergrowth, with the intention of growing revenue first and worrying about profits later. Instilling financial and operating discipline in a company in its early stages allows it to weather unexpected downturns and preserves the war chest.
• Related diversification. Focus is critical to scaling, but also leaves an organization open to a shock to that single market. Managers can take several practical steps to reap at least some of the rewards of diversification without spreading themselves too thin. They can diversify in the markets they serve, while building on a shared set of resources, such as technology, production and distribution. Embraer, for example, diversifies its market risk by producing both military and commercial aircraft that share certain design features and production processes.
• Strong partners vested in your success. One of the easiest ways to crash when scaling is to try to go it alone. The right partner not only helps managers anticipate possible binding constraints but also overcome them.

5. Do You Have the Stomach For It?

Managers need to be sure that they have the stomach to scale before crossing the Rubicon. Once they have started scaling, managers must maintain momentum, secure the resources required to fund growth, and withstand the competitive retaliation their success invites.

Rapidly scaling a small initiative can fuel a positive cycle by attracting resources required for further success. Dramatic increases in revenue and market share lead potential partners, employees and customers to conclude that the company is destined to dominate the new market, or at a minimum survive a looming shakeout. This presumption of success attracts money, partnerships and talent to the company, and these resources increase the odds that the venture will, in fact, succeed.

Virtuous circles, however, can easily become vicious cycles. In the haste of scaling, companies are prone to mistakes—bad hires, imperfect products, unproven technology or sloppy cash-flow management. When a company stalls, potential investors, customers, employees and partners may lose faith and withhold or withdraw the resources required to break out of the tailspin. This can create a crisis of confidence, leading managers to enter a defensive crouch and bypass attractive opportunities, exacerbating the downward spiral.

Entrepreneurs also may be forced to forfeit autonomy to venture capitalists or corporate investors in exchange for the resources required to get big fast. As a result, some choose to stay small and in control rather than grow and relinquish their ability to run the show.

Even executives in established companies face difficult decisions. Managers may have to exit from an established business to free resources to seize the golden opportunity. Nokia Corp., the world’s largest mobile-phone maker, exited businesses that accounted for 90% of its revenue to focus on mobile technology. Like the proverbial general who burned the bridges behind his advancing army, Nokia’s leaders divested rubber, cable and consumer-electronics units after deciding to go for broke in telecommunications.

Concentrating a company’s resources on a specific opportunity at a specific point in time increases the odds of success, but it also exposes a company to complete defeat because it leaves few resources in reserve. Managers may need to divert cash and talented managers from an established division to a growing business well before success is assured.

While a handful of companies have war chests large enough to avoid these gut-wrenching choices, most businesses don’t. They must make hard decisions to get big right.

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