What Is an Economic Moat?

The term economic moat, coined and popularized by Warren Buffett, refers to a business ability to maintain competitive advantages over its competitors in order to protect its long-term profits and market share from competing firms. Imagine McDonald’s without cost, convenience and golden arches, Nike without technological and trademarked innovation, or Amazon without its timely customer service innovations. They would be relatively unpopular companies struggling to survive in their respective industries. Business mogul, Warren Buffet has introduced the world to many of his lifelong lessons over the decades. One of the lessons that seems to have stayed relevant throughout the years is related to the coined term, “economic moat”.

As the age-old saying goes: Being the best is great because you’re number one, but being unique is greater because you’re the only one. Buffet has explained the importance of economic moats specifically when describing his investment strategy. His strategy centers on companies with strong economic moats, as they are more likely to withstand their competitors, and remain successful and unique. A company having a competitive advantage that further differentiates it from the competition will help through the highs and lows of operating a business. In its most basic form, a company without an economic moat is like a movie without an engaging hero, or storyline. In such a situation, there would be no way of creating a loyal consumer following, and subsequently no way of overcoming challenges that arise over time. On the other end of the spectrum, companies with competitive advantages can be threatened by competitors who replicate their methods. Establishing economic moats can therefore help companies protect long-term profits.

Thankfully for today’s business leaders, Buffet didn’t simply coin a theory-based term that required a bunch of scholarly analysis. The concept of building economic moats is a tangible one that can be leveraged through different business strategies. For instance, economic moats can be achieved in five ways: cost advantages, the network effect, high customer switching cost, efficient scale and intangible assets. The way you choose to build your economic moats all depends on the nature of your business. Think about what would be a good fit for the strategy you plan to execute. Buffet emphasizes the economic moat as an institution. It is not the mere elements that customers will like. Companies that build moats carve them around their businesses to keep competitors at bay. For instance, people loved Coca-Cola 50 years ago, and it’s fair to assume that they will 50 years from now. This is because Coca-Cola utilized the five sources of economic moats in order to create a loyal consumer base.

Let’s use the example of low-cost advantage. Suppose you have decided to make your fortune by running a lemonade stand. If you buy lemons in bulk once a week instead of every morning, you can reduce your expenses by 30%. This allows you to undercut prices of competing lemonade stands. While profits would increase, it wouldn’t take long for competitors to notice your method and replicate it. However, suppose you develop and patent a juicing technology. This technology would allow you to get 30% more juice out of the average lemon. This time, it would be a lot more difficult for the competition to duplicate. In this example, your economic moat is the patent that you hold on your proprietary technology.

The nature of capitalism is that others will want to come in and take what you have built. The goal for every business should be to build a durable fort around its castle.  The goal is to protect it from any attack that would come from the competition. Sometimes an economic moat is having more talent, other times it’s establishing legally protected patents. Just remember to remain patient. You should stay persistent because it may even take a few tries until you get your strategy right.

 

6 Tips for Reading an Income Statement

The income statement is one of three financial statements that you need to become familiar with (the other two are balance sheet and cash flow statement). Understanding an income statement is essential in order to analyze the profitability and future growth of your business however reading an income statement can be intimidating to many people. Especially, if you’re at the early stage of starting your first business. To make the process slightly easier for you, here are 6 tips you should consider while looking over any income statement. It may not be as difficult or as confusing as you think it is.

1. Every income statement follows a simple formula
There is one formula that every single income statements follows:
Revenue- Expenses= Profit.

2. Income statements cover a period of time
The income statement will inform you of the amount your business has made over some time. usually, The statement will represent how much was made over a month, a quarter or a year. The “year-to-date” reflects business activity since January 1 to the present date (usually end of month).

3. Multiple names for one item cause complexity
Don’t let the financial jargon throw you off. Confusion can stem from the vocabulary used in in statements. People can use different terms to describe the same things. For instance, the words “sales” and “income” can be used interchangeably, as opposed to revenue. The term “profit” can be used instead of “net income”. “Expenses” are sometimes called “net income”.

4. The breakdown
Often times, expenses are split into multiple parts. Furthermore, profit is calculated at interim levels. For example, expenses will often be broken down into revenues, cost of goods sold, gross margin, selling, general and administrative (SG&A), and profit. Cost of goods sold are costs directly related to the products sold. Materials bought to make a product fits within this category. SG&A are costs not directly related to the making of the sold good. For example, salaries and office supplies are calculated for this.

5. Gross margin percent should be relatively constant
Gross margin is revenues less cost of goods sold. Also referred to as gross profit, gross margin is the money you receive from the products and services you sell, minus what it cost you to deliver them. It is essential because that the cost of goods sold move with revenue. The gross margin percentage is your gross margin divided by revenue. It should remain relatively constant over time. Any dramatic change with this regard should be seen as a red flag.

6. Dollars spent on SG&A should be relatively constant
Any significant and abrupt change in SG&A should be considered as alarming. It should remain constant overtime, and all dramatic and unjustifiable change should be looked into.

Understanding how to read an income statement is important, as it summarizes the overall financial health of your business. Not only is it simple once broken down, there are also many tools available online for you to deepen your knowledge on the matter.

What to Do Before Accepting VC Funding

All start-up investors are not the same. Struggling entrepreneurs are often so happy to get a funding offer that they neglect the recommended reverse due diligence on the investors. Taking on equity investors to fund your company is much like getting married, it is a long term relationship that has to work at all levels.  Investors will conduct due diligence and  have a number of questions about your startup . But it is equally important that you understand the venture firm and the individual venture capitalist or angel investor who is considering an investment in your company. Though likely tempted to accept more capital, there are certain things all entrepreneurs must consider before accepting VC funding. More money is great, but weighing what this can imply for the future of your startup is crucial. In order to avoid accepting an investment you will regret down the line, here are a few things you should do before accepting VC funding.

  1. Think about whether your investor can offer more than just a check

    It is crucial that you research VCs thoroughly before you submit your pitch deck. Every venture capitalist has an investment thesis, strategy and approach to making decisions. If your business is technological, seek venture capitalists who help entrepreneurs in the tech field. Likewise, seek VCs who fund businesses in your stage of development whether it is a startup or an expansion.  Having more capital is great, but think about other attributes that can benefit you long-term. Your research will help you determine if your business and team are aligned with the venture capitalist’s process.

    You should ask about your investor’s investment track record. This is a follow-on about domain expertise and the experience of the specific VC. What are they most proud of? What was their contribution to the success of startups? This is also a way to identify other CEOs that have worked with this VC and get their perspective about the contribution the VC. Also, all investors do their due-diligence about a startup before investing. Entrepreneurs should be doing the same regarding investor. Reverse due-diligence is a process whereby entrepreneurs seek to validate the track record, operating style and motivation of their potential partner.

  2. Analyze the terms of the investment

    If a VC plans to embark on the journey with you, make sure you understand what his intentions are. Read the contract terms carefully. Have an experienced third party review the conditions of your partnership. For instance, it is important to know how involved they plan to be in the decision-making, and the stake they want to take. If a VC plans on taking a board seat, you want to make sure they will add value. Making sure you have the best people at the table is important.

More money is definitely tempting, especially for startups lacking capital. But it should be understood that receiving money from a VC has long-term consequences. For this reason

don’t succumb to the temptation to take funds from investors that you are not totally comfortable with. It is important to make sure that the partnership is a good fit, and compatible with your goals and ambitions.That means you and your business must benefit from both the money and mentoring from the investor, and the investor will win from getting a larger return sooner. Win-win relationships get better over time, whereas win-lose go downhill fast. Never underestimate the importance of doing your due-diligence, and reading the fine print.

PME Mentor: David Horowitz

As the saying goes, the best way a mentor can prepare another leader is to expose him or her to other great people. Mentorship is an essential part of the PME Program. On this 18th anniversary, it would only be appropriate to give thanks to our mentors. We may not have all the answers, but what we can do is introduce you to someone who does. We recently got the chance to catch up with our longtime mentor, David Horowitz. David is a seasoned executive always interested in promoting entrepreneurship and international business. With over 30 years at Senior Management level, involved in the manufacturing, marketing and distribution, David wishes to pass on his knowledge gained from 10 years of teaching experience to aspiring entrepreneurs.

Q: What aspects of mentorship do you enjoy most?
A: Gaining the intrinsic rewards of helping others. When you decide to mentor someone, you really do not know how far they will go, but mentoring does make a difference. Whether you help shape the next great entrepreneur or help someone achieve their dreams, making a difference is all that matters. It feels great to know that you are a positive influence in someone else’s life.

Q: How can an entrepreneur make the best out of their relationship with their mentor?
A: Be prepared. Yes, the mentor’s time is valuable, but take advantage by being well prepared. Have an agenda. You want to use the time with mentor on your most pressing business issues. Be humble. Ask for criticism and feedback. Sometimes questions the mentee has are needed to be answered sooner than the planned meeting. Keep a swinging door policy so that ‘smaller but important decisions’ that need answering quickly are just an email away. These fast answers can save the entrepreneur time, but more importantly, can save the young firm money.

Q: What advice would you give an entrepreneur thinking of working with a mentor?
A: The relationship has to be authentic and there should be a baseline chemistry between the mentor and mentee, so pick your mentor accordingly. Be prepared to act on the advice given, rather than think the mentor is there to validate your shenanigans. Always remember the benefits a mentor can bring to the table, and never forget the statistics of small business failure- 80% of business start-ups do not make it past their 5th year. So don’t be shy to ask questions, listen and absorb as much as you can, and you can hopefully avoid getting as many scars as us mentors have had to endure.

Our mentors are passionate people dedicated to helping others. With their help, entrepreneurs have been able to reach great heights. Thanks to the efforts of people like David, we look forward to what the next 18 years has in store for PME.

 

 

Businesses You Didn’t Know PME Helped Propel

Over the past 18 years PME has helped guide many diverse businesses to success. Often, entrepreneurs come to us with just an outline of what they aim to achieve. With added assistance from our program leaders, mentors, and committee members, we are able to turn this vision into reality. Here are just a few notable mentions of companies that have been able to turn ideas into lucrative business opportunities with help from PME.

Budge Studios

Not only do they have millions of downloads for their games, they have become members of the PME committee. The mission of Budge Studios is to thrill, educate, and entertain children around the world through creative and innovative apps. They have won numerous notable awards for their accomplishments. This includes the Google Play ‘Best of 2016’ App Selection Award for their app, My Little Pony: Harmony Quest. Additionally, they won the Apple Store Best of 2016 for Miss Hollywood Vacation Canada. Budge Studios may be in the business of creating games but their business strategy and objective is rigid and direct. It’s all about being family friendly and universally playable.

Naked and Famous Denim

Naked and Famous Jeans has come a long way since we first met Brandon Svarc. Simply put, the company focuses on one thing only. As they so eloquently state: “No marketing, no washes, no pre-distressing, no nonsense. Just excellent denim at a reasonable price.” Naked and Famous Jeans uses Japanese selvedge denim which is woven slowly and painstakingly on old shuttle looms. Svarc travels to Japan numerous times a year to find new fabrics, and denim mills. Nicknamed the Willy Wonka of denim, he has been interviewed by popular publications such as GQ to share knowledge about his expertise. With all their products made and sewn in Canada,their sole purpose is to sell the highest level of quality to their end-user.

Copower

CoPower is where impact investment meets Wall Street. We met founders David Berliner, Larry Markowitz and Raphael Bouskila in 2013. Since then, CoPower has continued to strive and make the world a greener and more sustainable place. CoPower’s team works with clean energy firms to identify clean energy and energy efficient projects that generate steady and predictable revenue streams. CoPower is all about impact investing. For those of you who are unsure of what this is, impact investing is a strategy that involves the investing in companies and projects with the intention of generating measurable, positive, and environmental benefits alongside financial returns.

Revols

Not only are Navi and Daniel kick-ass entrepreneurs, but did you know they had the biggest kickstarter campaign in Canadian history? Revols has come a long way since its founding in 2014. Navi and Daniel were endlessly frustrated with finding the perfect pair of earphones. While they understood that ears are as unique as fingerprints, all custom-fit earphones came with a high price-point and long wait times. The dynamic duo decided to take matters into their own hands and create Revols: a pair of wireless customized earphones that provide the same comfort and sound benefits as traditional custom-fits, at a fraction of the cost and time.

All in all, PME has had some pretty driven, and ambitious entrepreneurs come through its doors. This is just a glimpse of many of our success stories. We provide them with the most essential tools entrepreneurs need in order to succeed.

PME Funded Business

One Week Left to Apply

Funding Rounds: What Are They?

You see it in the media all the time: Company X raised X amount of dollars at X$ valuation. If you don’t work in finance, have a business background, or have knowledge of venture capital, this may sound foreign to you. It’s pretty simple when broken down. Funding rounds and entrepreneurial jargon can seem intimidating to many. All it takes to understand is a step-by-step explanation of its different components, and that’s exactly what we want to do to alleviate your worries.

What is a funding round?

First off, what is a funding round, exactly? A funding round is what occurs because of a company’s need to raise money with help of investors. This means that new partners enter by acquiring part of the company’s share capital. Subsequently, this entails them having control over a part of it. In return for funding, investors expect the company to grow and succeed, and recover more than what they had invested. There are different types of funding (i.e. seed, series A, series B and series C). But, before going into all of that, let’s cover the basics.

Why is it important for startups to get the money?

When investors give money to startups they receive ownership stake in return. What increased investments does is that it can increase marketing budget, affect your speed to market, increase your visibility, and decrease your personal risk. Most investors usually join the project as partners. Having motivated, smart, and connected partners on your team comes with benefits beyond money.

Does the money have to be paid back?

No. If the startup fails, the investors lose out. But if the company gets acquired or goes public, they could potentially make a lot of money. Investors that take equity stake in a startup expect to reap large returns and rewards.

Why not just take a loan?

Although it is very smart not to dilute your business when you are first starting out, taking out a loan can be challenging for a new business. If you are an entrepreneur looking to keep all equity of your business, loans are the way to go. But, it is important to keep in mind that while loans don’t dilute ownership, they have to be paid back with added interest. All in all, many entrepreneurs opt for loans, in addition to funding rounds.

What’s a valuation? And how is it determined?

Startup valuation isn’t an exact science. A valuation is how much the company is worth. Determining this can get complicated, especially for early stage startups. Many startups raise funding when they are pre-revenue, so it’s really just a bet on how big the company can be in the future.  There are many different valuation tools and method that can be used. They can vary in the amount of assumptions you need to make about a company’s future, relative to past performance. Most startups take into account the estimated market size for their product or service, revenue, growth trajectory, and the likelihood of IPO or acquisition.

The higher the valuation, the better?

Not necessarily. Raising the valuation raises the stakes. Not only can valuations be ambiguous, a high valuation doesn’t mean much if a company decides to sell for less than it initially raised. Investors would then lose money on the deal. Also, assuming a company isn’t in their last round of funding, what a high valuation has done is set an extremely high bar for the business to reach before being able to raise more funds. This can also mean bad news for employees with equity compensation.

What is seed vs. Series A, B and C?

These designations relate to the stage of investment. “Seed” refers to the startup’s very first funding round. The subsequent rounds have the letters “A”, “B” and “C” attached respectively. There are investors that specialize in different stages of investment. They often label themselves as “seed-stage funds” or “late-stage funds.”

Is there a difference between an angel investor and a venture capitalist?

Yes. The difference is pretty clean cut. Angel investors are individuals who invest their personal finances in a startup. On the other hand, venture capitalists are institutional investors. They manage other people’s money, which they use to invest in business ventures. Many venture firms have limited life cycles, and are expected to provide returns to their contributors at the end of the period. It is expected that most startups will fail, but that the best ones will provide enough returns to cover all the losses and then some.

What do startups do with the money?

Simply put, the money is used to accelerate growth. It can be used to hire new employees, sales & marketing efforts and any sort of production costs. Obviously, this also depends on the nature of the business.

When and how often should a startup raise money?

This varies from business to business. Generally, startups raise funding every 1-2 years. It all depends on how much money is in the bank, how much more is needed and how much investors want to invest in you. Smart entrepreneurs raise funds before the money is needed, running out of cash is death for businesses. Don’t forget that fundraising is a long and arduous process.

How do you get investors?

Of course you should have a solid business proposal, but forming connections with investors is just as important. There is so much value to be gained by networking. Other than investing in someone with an attractive business, investors look for people they can trust to get the work done. Make an effort to go to industry events, build relationships, and introduce yourselves to people who can help make your goals happen.

How should you pick investors?

Whether you are working with an angel investor or a venture capitalist, one thing is for sure: money isn’t the only thing that makes an investor a right option. If your investor plans to be an active member of your business, it is crucial that there is trust in that relationship. It is also important that you find an investor in line with your interests, and that can solve your current problem. Additionally, keep in mind that diversity matters. In other words, you want investors with a complimentary skill set.

So you’ve raised millions. Does that mean you’re going to succeed?

Unfortunately, probably not. Starting a company is always a gamble. Some win and some loose. It requires much more than money raised. It entails consistent pace of innovation, and an immense will to persevere through hard times. Smart and hardworking people can run into various challenges at different stages. The key is knowing how to solve problems that arise, putting in the hours, being patient, and knowing when to pull the plug.

Hopefully this has covered some of the basic questions you had about funding rounds and why they matter. While your investments don’t necessarily determine how successful your business will be, funding rounds have great impact on your business’ potential. Funding rounds don’t provide automatic solutions to your problem, what you do as a result is what matters.

14 Days to Go!

PME’s Support