Big Deal Small Business: Rebuilding Scar Tissue
July 11, 2022 | Issue #70
Side programming note: I recently appeared on a podcast with Josh Schultz and Rich Jordan talking about implementing meetings in a trade contractor that has literally zero meetings. Josh & Rich are infinitely more talented & experienced leaders than me, so I was lucky to learn from them. Feel free to listen to the discussion on the SMB Ops Show.
P.S. to that podcast: I have still failed to implement any kind of recurring meetings. Inserting that kind of thing into a high productivity, get shit done culture is HARD. So I’m taking it slow as I love that culture and don’t want to break it.
Scar Tissue
Talk to any 20+ year SMB veteran, and you'll quickly see they have real scar tissue.
They've been screwed by so many people so many different ways; many old-time SMB owners are reasonably distrusting, wary human beings.
"We had a vendor in '98 who demanded 50% payment in advance and then never delivered. Now we never pay in advance."
"This employee told his doctor he hurt his back on the job but we all know it was from his side gig. Then our rates went up 75% the next year. Now we fight every workers comp claim tooth & nail and don't allow any side work."
"We had a contract involving removing a pile of bricks from a customer's home, then they added more bricks to the pile between contract signing & job completion. Now we take pictures of every pile at the time of contract signing."
You'll find a lot of company processes & policies have an real-life example that caused their creation.
These are hard-earned lessons for founding entrepreneurs - they cost them real time, hard work, or dollars to fix.
For acquisition entrepreneurs like us, we'd be idiots to not respect those lessons and avoid having to learn them again on our dime.
That said, founding entrepreneurs fought a very different fight than what we're fighting. They fought the zero to one fight, which is a battle for the right to exist.
They persevered through some painful phases where it was not clear the business would ever succeed. That required a level of resilience I'm not sure I have (which is why I bought an established business).
BUT - this scar tissue can also be a limiter for founder entrepreneurs as they go through the one to two fight. That's a battle for growth & becoming a steady-state entity.
In the first deal I had under LOI, the founder only added vehicle capacity when she was bursting at the seams. She called it "running dangerously" in that if a vehicle broke down, she'd be in a very tough spot operationally.
I took a step back and looked at her situation - she had six vehicles supporting a $1M+ EBITDA business. She had four vehicles in operation, with two rotating in when repairs were required. To "run dangerously", she'd start putting her backup vehicles into the regular rotation.
But each primary vehicle was generating $300K of annual gross margin, and you could buy a new vehicle for ~$75K. Running a new vehicle for just a few weeks of peak demand would have paid for itself.
There was no reason to "run dangerously" when you've got those unit economics.
But that founder entrepreneur had the scar tissue of weak seasons in the past, where it was unclear if she could make loan payments on an extra vehicle.
She wasn't going to dive headfirst into the next vehicle just because the unit economics made sense on paper. She wanted to wait until the business basically couldn't operate without another vehicle, and only then would she buy it.
I think we can all empathize with the founder entrepreneur mentality, but this why an acquisition entrepreneur can fundamentally change an SMB's growth trajectory.
Rebuilding Scar Tissue
As I get my sea legs with my business, I'm starting to see processes and ideas in the business that are a function of scar tissue that probably doesn't need to exist anymore.
It's a testament to the founders -- they built a great business that is standing on its own two feet, so now we can finally "unlearn" some of the hard lessons along the way.
For example, being a well-established service company affords us the luxury of trusting our employees and clients in a way that newly-established companies cannot.
When you're a one-man shop starting out, a customer complaint on a job requiring going back and fixing can really sink your margins. Each hour out of your day comes straight out of the meager bottom line.
You build scar tissue around customers jerking you around and trying to get a bit of extra work for nothing. You take it personally because if feels like they're taking money out of your jeans.
Once the business is more established, we can give up some margin here and call it "brand expense". We have room in the P&L for giving our customers the benefit of the doubt.
For every 10 customer complaints, probably 2 are in bad faith, 6 are splitting hairs, and 2 are legitimate.
In the past, all 10 customer complaints were met with a fairly hostile reconciliation approach, because the company assumed (due to scar tissue) that they were all in bad faith.
We can finally afford to give them the benefit of the doubt; yes, we'll probably get screwed by 2 customers, but we'll create 6 very happy customers and solve 2 very real issues.
As long as we manage the cost on those 2 bad faith customers, it's a high ROI investment by creating another 8 repeat customers.
The "tough on clients" approach may have been necessary for the business to survive, but the "benefit of the doubt" approach creates a long-term flywheel for growth.
I've seen a similar dynamic with our crewmembers. A lot of small service companies punish mistakes & errors harshly.
In the past, an error was too costly to forgive. If you damaged equipment, there may not have been money to get it easily replaced. It felt personal when a crewmember carelessly damaged "your" stuff.
But now we're on safe financial footing, and we want to grow. The only way to grow is to give employees room to learn, train & improve. This involves them making mistakes, but then giving them the grace & the guidance to learn from mistakes.
If I had to fire & re-hire each time a mistake was made, we'd be on a never-ending hamster wheel to nowhere.
By supporting training & personal development when mistakes are made, we can actually start turning the flywheel on the employee-side as well.
Don't get me wrong - this means I will spend more money in equipment repairs, in training costs, in downtime, etc. It's not free. I will get screwed by workers who see this approach as lax and manage to take advantage of it.
But I don't want to punish well-meaning employees who are learning just to avoid the few bad apples here or there (which we will eventually sniff out & terminate).
Just like bad faith customers, this money is an investment in the well-meaning employees that will pay out long-term dividends for the business.
Conclusion
As most readers here are prospective or current acquisition entrepreneurs rather than founder entrepreneurs, give some thought to how that changes the context you bring to the leadership table.
My experience is that I have to rebuild scar tissue rather than "adopt" all my predecessor's scar tissue. Obviously, the hard part is figuring out which to keep and which to change -- no easy answers there other than working with mentors & advisors along the way.
One last thought -- this is also why search investors always advise to buy bigger if you can. Buying a business that's ready for an acquisition entrepreneur approach means you've already passed the zero to one phase.
If you buy too small, you're in a quasi-founder seat, which is a very tough place to be if you're not mentally prepared for it.
Thanks for reading as always! I’d love to hear your thoughts, so just hit reply to this email or find me on Twitter.
Also, if you have ideas for future posts, or just questions you have about the business that could maybe turn into blog posts, I'm all ears.
Thanks,
Guesswork Investing