The Ultimate Start-Up List
Larry Broderick knew that he wanted to run his own company. To guide him, he drew up an exhaustive list of criteria
Among the many criteria Larry Broderick, now CEO of the SteelWorks Corp., a Denver-based maker of metal shapes, used to help him decide what kind of business to start, one mattered far more than the rest: Is this the sort of enterprise that will rip my heart out?
Not that Broderick, who spent about 18 months searching for an opportunity that suited him, actually listed that quality among the 37 characteristics he ranked. But his underlying reason for so carefully evaluating each potential venture stemmed from his experience with a wholesale lumber company he had previously founded -- and ultimately liquidated, in the face of steeply dropping housing starts. "I was not a neophyte in terms of business," he says. "I knew some things about business that I did not like and I did not want to get into again."
In other words, he knew just the kind of business model to avoid: high risk, low margin. Once his lumber company had failed, "the risks associated with that business model became crystal clear to me," Broderick says. "I knew there were much better models out there."
His determination to find such models is plainly reflected in the criteria he developed. "I was very nervous about going into a new industry," says Broderick. "But I was on guard not to let my emotions get in the way." After coming up with the list, he analyzed opportunities by placing up to two plus signs or two minus signs next to each characteristic. Then he added them all up.
Fewer than half a dozen of the criteria grew out of personal concerns about compatibility, such as location of business and type of business. Many of the criteria, which he divided into five categories, reinforced his resolve to find an industry in which profit margins were ample but competitors weren't. Such businesses, he reasoned, were bound to be less vulnerable than the one he had worked in, in which "the margin for error is very, very minimal."
1. Specific business
Broderick's biggest category, Specific Business, included market (local, state, regional, national, and international), among 16 others. Having had his previous company wiped out by a market downturn, he was convinced that "the broader the scope, the more insulated a business is." He evaluated sources of supply (type, quantity, and quality) and customers (type, quantity, and quality) from the perspective of not wanting thousands of supply sources and customers, but definitely wanting more than a few. "The more solid and sizable they are, the better," he says, speaking about customers. For nature of products (repeat customers, one-time sales, and consumable), he knew he wanted "a steady flow of business," he says. "In lumber, there's no loyalty. It's all price."
Nor did he want to worry -- as much as he had in his lumber business, anyway -- about the price stability of products (raw materials), another criterion. Understandably, "I was interested in avoiding an industry where the value of my inventory could drop 50% over three months," he says. He also wanted to avoid the high costs of human inventory, which is why he included capital-intensive/labor-intensive among the criteria. "I'd rather run a business with fewer people, because of all the issues associated with employees," he notes. He weighed hiring union versus nonunion employees because he definitely wanted the latter. "We wanted as much control over our destiny as possible," he says. Wanting that freedom of movement also prompted him to include environmental concerns ("They can bankrupt you," he warns) and regulatory environment in that section.
Given the amount of capital he figured he'd be able to borrow, Broderick fully expected to be engineering a turnaround if he bought a company -- or created one from assets he bought. (He eventually formed SteelWorks after acquiring the assets of two companies.) To measure the magnitude of the challenge he'd be taking on, he included among the criteria existing relationships with customers/vendors (after all, "we would have to convince them to stay with us," he notes), quality of personnel at target (at the companies whose assets he ended up buying, "the people were weak"), and available personnel to bring to target. "It was important that I have key people I could bring in," he says. "I knew I could get my key management people from the lumber company back if I could get this deal done." That's because he knew that those people -- his chief financial officer, his VP of operations, and his VP of sales and marketing (who also happened to be his brother) -- would be reasonably comfortable with any company that got a high score on his list of criteria. Among those considerations, a key one was the basic nature of the company: Was it high, medium, or low tech? "We wanted to get into a low-tech product that had good margins, because the learning curve would be too long if we were making computer chips or fiber-optic cable or software," he says.
He wanted low tech but not slow growth. So he also considered where the target is in the business cycle (start-up, emerging, mature, or in decline) as well as the state of the overall industry. Was it declining or growing or growing fast? "Everybody thought this one was mature, but we thought it was just emerging," he says.
Of course, a growing industry is bound to attract others. In his second category of criteria, Competition, Broderick evaluated his rivals from three perspectives. Profile of competitors focused his thinking on whether "there were a number of very strong independent operators who would be very hard to unseat." His conclusion: there weren't. Nor was there too much mom-and-pop competition in the industry, which he considered a plus. "In lumber the small wholesalers were tough to compete with because all they had to do was make a living," he recalls. And given the size of the niche, which he estimated at around $40 million, large vendors weren't likely to cut out distributors like SteelWorks. The one remaining question in this section -- Will vendors go direct to consumers? -- was designed to address a phenomenon he'd had to fight in the wholesale-lumber trade.
The 11 items that made up Broderick's next category, Financial, enabled him to make a fairly straightforward diagnosis of the venture's fiscal health: Margins (is target profitable?), float (how fast would he have to pay vendors, as compared with the terms he'd have to extend to customers?), seasonality, industry stability (cyclicality), cost of target (cash versus terms), size of target, control considerations(minority shareholders?), minimum rate of return on investment, cash flow (how much can be taken out of the business while still keeping it viable and prosperous and the banks happy?), and exit-ability.
Potential, his next category, helped him assess how he might grow the business. The three items in this section included growth potential (existing customer base versus total market), efficiency of target (cost-cutting potential), and computerization of target (room for improvement in hardware and software). "If anything, we underestimated the growth potential, the margin potential, and the efficiency potential" of his business, concedes Broderick. "But going into this, you couldn't make the kinds of projections that we've turned out to deliver and be taken seriously by anyone."
Broderick's research, however incomplete, was taken seriously by his fellow CEOs. He knew because he included adviser opinions among his three criteria in a section labeled General. The others? Personal experience/expertise and gut feel. "Right from the start, this felt like something I could be excited about and successful at," he says. After pausing, he adds, "But I like to think that didn't influence how I filled out the criteria."
Copyright © 2001 G+J USA Publishing