At Diet Chef we achieved a total return on equity of 8,999,900% over a three year period. If we had the same growth over the next three years we would be ten times larger than HSBC, the biggest company in the FTSE100.
Sadly, this is an outcome that will not happen. It’s just not possible to deploy the larger capital that we have today as efficiently as we did in the old days.
However it is worth looking at the business model we used as this is still very relevant.
First off, most of the funding for Diet Chef was not provided in the form of equity. Most of the funding actually came from suppliers who initially sold to us on 30 days while we received cash from customers within one day. This negative working capital requirement then scaled up as the business grew.
For our first TV campaign we requested that suppliers increase their terms to 60 days to fund it. They agreed to this and the result was that both our business and the suppliers benefited hugely.
This is quite a well worn path in retail, however in e-commerce there is less capital expenditure required to support growth (shops, etc) so the equity requirement is substantially reduced.
It is also a poor man’s version of Warren Buffett’s strategy of investing his insurance float, where the insurance premiums are invested over the years between receipt of the premiums and payment of the claims. Thus he makes a double profit: once on the insurance business and once on the investment of the premiums.
Back to Diet Chef, the other key was that we recruited customers so that they were profitable within 60 days. Generally, in direct businesses it will take a longer period for customers to become profitable which can result in a form of overtrading. This allowed us to grow the business to market capacity pretty quickly.
It’s not realistic in all e-commerce businesses to recruit profitably, particularly those in more mature markets. However these businesses should all have databases which will provide a profitable retention business which should then fund the loss making recruitment business.
There were of course a lot of non-financial reasons for the success of the business which I will cover later. But getting the business model right did allow us to scale the business up dramatically with no external equity funding.
Kevin and I have both spent a lot of time in Silicon Valley and one of the interesting things there is the focus on business models. But it’s something that is seldom discussed in Britain.