my cake benchmark #4

8/9/2019 My Cake Benchmark #4

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Welcome to the fourth MyCake benchmarkbulletin. This is the second of two issues

focussing on companies of 210 people who

are working out how to deal with change

in their markets and the opportunities for

growth in a recessionary climate. In this

bulletin well focus on how you fund your

own research and development so you can

drive the direction of your business ratherthan just dance to the tune of client briefs.

#4 benchmarkbulletin

What is R&D?The simple answer is that it depends on the stage o

development o your business but in essence its theinvestment o current profts into developments that

are intended to secure the uture o the business by

delivering new products and services to meet current

or anticipated market needs.

If youre a young business it means fnd-

ing enough proft to invest in the development

o the next ew products i.e. a jeweller, ashion

designer or product designer may well need to come

up with a new range once or twice a year. In this case

youre developing new products but youre not really

investing in the uture o your business models.

As the company matures a little you might

start looking at licensing or outsourcing o

manuacture. You would do this to increase yourproftability and to create space in the business so that

youre no longer spending your entire time making and

selling.

There is a difference between R&D that is

ocussed on the organic growth o the company

vs. the type that will attract (and indeed require)

external investment. I you are looking or the lat-

ter then you will need to be looking at products and

services which have a much higher proft in the long

run in the realms o 10x the development cost.levels

and where the space to increase R&D spend within the

current model may be.


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It is increasingly common to undertake R&D in col-

laboration with your clients. Perhaps you spot anopportunity based on one or more client conversations

and instead o looking or the unding separately to the

route to market you approach a key client and discuss

how they might invest in the idea in return or benefts

that accrue to them as and when it is successul?

You might o course take the decision to stop at stage

1 or 2 and not look or investment. That is absolutely

your decision to take and were not here to say that

really i youre serious you should be moving to stage

3. However you do need to be clear on the potential

(and indeed limits) o the approach youre choosing

and were here to look at the levels o investment o

your retained proft that youll need to make available

to the business i you are to invest in its long term

sustainability.

MyCake statswhat the numbersare telling usSo, lets take a detailed look at the MyCake bench-

mark statistics and what they indicate as regards cur-

rent proft levels and where the space to increase R&D

spend within the current model may be.

MyCake benchmark data shows us that or the SME

frms whove submitted 200809 data there is verylittle in the way o Research & Development (R&D) in-

vestment in the companyacross all the data sets the

average is 1.1% o turnover with the maximum at 6%.

This is against a back drop o an average o 28.5% net

proft (again as a percentage o turnover).

The chart below shows the percentage o turnover

spent on indirect costs not many olks spend

money on pensions in the creative industries but even

this has a greater spend than R&D! And as or spend-

ing more on bank charges than R&D which has the

long term (or even short term) value ! In act we were

so shocked by these fgures that we had a chat with

ACID (Anti-Copying in Design) to fnd out whether the

MyCake user base invests less in R&D and IP than

their membership. As it turns out this fgure o about

11.5% seems to hold true or their membership as

well. Were wondering whether this low investment is

because the perception o the cost o protecting IP

is that it is too high and not worth it. Dids McDonald

(CEO o ACID) recommends the ollowing i you cant

aord the lawyers and ormal protection route

IP registration is desirable but if

you cant afford to register your IP, create

an IP audit trail and shout about it! And

if you dont want to be copied, say so!

Theres no better place than on the front

page of your website and your marketing

material, creating a 24 hour burglar alarm.

IP 0.1%

Research 1.1%

Pension 1.3%

Utilities 1.5%

Bank charges 1.6%

Insurance 1.8%

Telephone 2.2%

Ofce costs4%

Travel7.1%

ProfessionalFees7.6%

Marketing9.6%

Rent/Rates11.8%

Wages (excl drawings)27.8%

Misc 3%


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Is there enough prot to fund R&D? In the

service based businesses the answer is defnitelyyes. Those whose cost o production is less than

10% o their turnover have, on average, a net proft o

some 40%. In a product business it looks rather

dierent. Those businesses whose cost o productionis greater than 35% o turnover have, on average, a

net proft o only 2.5%.

NEXT PETROL

647 miles

Where is the difference between these

two business models?

Well the expenditures on wages (about 2730% o

turnover), rent (816% o turnover) and other indirect

costs are airly similar. This indicates that the cost

o turning the lights on actually doesnt vary muchbetween these models but the cost o production,

particularly in the very small businesses is dramatically

dierent. This is one case where small is not beautiul

as there are simply no economies o scale in the de-

signer maker and product design crowds below about

100,000 turnover. I you are selling high value goods

one might think that this matters less but thats not

necessarily the case either. For example a gem based

jeweller with a turnover in the region o 100,000

can easily spend 50% o that income on materials

and a urther 40% on indirect costs leaving a measly

10,000 o income. A non-gem based jeweller turning

over 50,000 with perhaps 10,000 in materials and

20,000 in indirect costs has a higher proft margin.

Its airly unlikely that youll be able to put your prices

up or your existing products so that leaves you with

the challenge o getting your cost o production down

i you are to increase your proft margin (in order to

und R&D). This means that either you need to in-crease sales volumes so that the cost per unit comes

down or you need to re-engineer the product so that it

is cheaper to make (whilst retaining the value and thus

the sales price). I these are not wildly workable solu-

tions, ask yoursel whether you can use your brand in

a diusion range or license the production and distri-

bution to a larger company in return or a royalty.

The bottom line is that with a proft margin o less than

510% youll struggle to invest in the companys

growth let alone pay yoursel sensibly or contribute to

a pension!

UP I MRTO

great views, sherpa

(investor) optional

Do you want your reward only once

but now? Or will you push yourself

further and aim to build something that

can reward you time and again?


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Ok, so Ive got the prot margin sorted,

how do I ring fence monies for R&D?Well the main thing is that you need to make sure

that you actually spend the time and money you allo-

cate. It is all too easy to prioritise paying clients ahead

o your own development. In the short term this is not

too surprising but as discussed above it is the long

term sustainability that were looking at here.

Here are some tricks you can employ to develop a bet-

ter balance between short and long term:

Treat R&D projects as i they were client contracts

so set deadlines, allocate sta (good working time

not evenings and weekends) and report on them in

team meetings and/or to your mentor or business

coach

Ring ence the unds and report on actual spend on

R&D vs the allocated budget

Set a target or the number o new ideas you want to

generate in the frst round perhaps incentivise

sta, reelancers and associates to contribute to this

Aim or not more than three ideas to develop and

pick a mix o low risk, quick and cheap to develop

alongside bigger vision, more costly and long term

stu

Perhaps involve a client as a test case and there-

ore make yoursel accountable to them or dead-lines. Make promises that you have to keep!

Make a director responsible or R&D just as some-

one is responsible or fnance or marketing or HR.

Write it into peoples job descriptions and rewards

packages.

Plan to phase out some o your older products or

services and set dates by which you want this to

happen. This means youll have to replace them with

new things and will speed up the process.

Make income projections that include the new

products and services. At least some o this new

income will go to pay sta and overheads but perhaps

it will also result in a pay rise or the directors.

and fnally, as Dids McDonald o ACID points out:

IP should sit in the same fund pot as R&D.

After all, if you research, develop and

bring new products or services its folly to

ignore any IP you have created.

Why is investment in R&Dimportant for creative industrybusinesses?Early stage creative businesses tend to be built

through the delivery o projects or clients. So unless

youre a spin-out, or youve achieved start up invest-

ment/unding you will need an income stream to pay

the rent and to give yoursel a paid reason to harness

your creativity. The risk o this route is that paying

project work can quickly swallow you up when youstarted you had a vision, ideas about the dierence

you could make in your chosen feld but now youre

head is ull o worries about keeping the pipeline o

new work owing and youve not much space or big

world changing ideas anymore. Research and devel-

opment o your own products and services (not just

ideas to meet the client bries) is one way out o this

cycle.

Furthermore, i you are to grow a long term sustainable

business, you need to do more than just your ability to

ulfl clients needs. I you dont and just keep moving

rom project to project you will risk being under-cut by

newer entrants into the market with low overheads and

the willingness to pull all-nighters look at the low

entry costs to becoming a website developer; look at

the prolieration in printed tableware ceramics. It used

to be the ront end o the trend in terms o accessible

every day design and so olks would pay 2030 per

plate however now that the mainstream retailers have

got their own lines prices have dropped to under 10a piece. The message here is one o making active

choices rather than have change happen to you when

youre busy elsewhere. It is also worth noting that

in these tougher economic climes it is all the more

important to retain and develop your profle and USP

(unique selling point). The good news is that in some

ways it is a little easier to do now as the rate o change

has slowed a little and urthermore whilst ailure is

never popular it is more acceptable (and thereore so

is risk). Indeed innovation is genuinely a mechanism

to split away rom the competition whereas in a boom

time innovation is risky i it takes you away rom the

mainstream.


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What are the ways to fund R&D?

To und these ideas you need to ensure that yourepricing yoursel high enough to leave proft to channel

into your research and development. This is the work

that eeds you creatively and intellectually. Structure

your client relationships right and they might even pay

or or partner you in the development.

The good news is that rom what

we can see in the 200809 My-

Cake benchmark data sets there is

proft enough to be unding at least

some o your R&D plans.

There are a couple o other things to add to the list o

things to think about when considering the balance

between bread and butter income and the work that

eeds you creatively and the relative importance o

each in any three to fve year period in particular

the speed with which the market (and technology) are

changing and thereore the speed which you need to

be able to move in order to stay ahead o the game.When the market is moving slower than your ability to

develop, you retain the window o opportunity. I how-

ever the market moves aster than your ability to invest

in your own development then you risk getting let be-

hind. In these circumstances either you dont

bother to invest in R&D, stick to delivering

client projects and just make sure you

keep up to speed with what others are

doing or you seek investment into your

R&D pipeline so that you can move urther

aster. So the simple question is do you work in a

sector ull o innovation? (and is everyone who leads

the sector doing R&D in some orm?) Innovation is

an early indicator o growth in the sector as well as in

companies and suggests that the pace o change is or

will be increasing.

Making best use of yourR&D spend:

Short Term

I your old business model isnt scalable enough

to make you an investable proposition how can

you use your clients, skills and experience but channel

them into something bigger, better, aster, more? This

is where you need to spend your own money on early

stage R&D i you are to get investment to cover the

later (and oten larger) costs. You might be able to ac-

cess some small grant unds depending on your sector

and location but ask yoursel which is the better use o

your time applying or grants or doing the develop-

ment? I you can aord to und your own early stagework it will probably be quicker to do just that rather

than seek grants to cover it.

A slice o your retained profts, plus spare capac-

ity in sta time, are probably enough to und early

developments on one to three new product/service

ideas. It really depends what market you are in as to

whether you can get a product to market and thus to

proo o concept (and ideally paying clients) on this

level o investment. I not either you are looking or an

investor to back you or you are looking or a client who

needs your innovation enough to pay or it. I you can

structure a deal with a client where they invest in your

innovation so much the better ater all this gives you

both the money and a route to market, it doesnt get

much better than that!

Ok, so youve increased your R&D spend beyond the

average o 1.1% up to perhaps 510% o turnover

and youve got two to three innovations to a pilot or

prototype stage. These innovations are o varying

scales (i.e. a cheap and easy one thats quick to get to

market but might not have a long liespan as well as a

world changing long term one that will eat cash or a

while yet beore it returns anything). You also have one

or more clients lined up either as partners/investors or

as frst tests who want to pay you to deliver to them.

What next? Why would you want to attract an investorand what benefts do they bring?

Long term

The simplest answer is that by spending someone

elses money you are sharing the risk with them

(in exchange or a slice o the returns) and the investor

must have deeper pockets than your companys

current ability to und its own next stage o R&D.

How much deeper do their pockets need to be? Well,

it needs to be enough to und you to get the product

or service to market and this cost includes marketing,

launch and some ongoing development theres no

point or either party i the money isnt enough to get


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you to market that would be all risk and no chan-

nel or sales! As we mentioned beore it is also aboutkeeping you moving aster than the market, ater all i

you cant keep up with the pace o change youll strug-

gle to sell your solution to the clients.

There is o course more to this than just the cash that

an investor brings. It is also about their experience inyour sector and their contacts. Unless they understand

the dynamics o the market you operate in it is unlikely

that theyll ully understand the reasons or the deci-

sions you make and what you need is a critical voice

but one that can see how to achieve the vision you

share.

ConclusionIn summary, R&D is pretty darned important i you

want to actively develop your company rather than be

at the mercies o markets that others are making. The

MyCake benchmark data shows that the service based

olks can aord to invest in R&D as there is enough

net proft. Some o the product olks can also aord

R&D and i youre in either o these camps then rankly

what are you waiting or? I youre one o the product

based olks who simply isnt making enough proft to

have anything let over (and by the way perhaps you

used to make enough but its possible that the mar-

ket has changed whilst youre not looking and things

are no longer as proftable as when you last looked)

then you need to take a long hard look at your ranges

and see which pieces are proftable and which arent,

which have the capacity to be sold in larger volumes

or licensed to others or a royalty. You need to fnd

510% o your turnover to und your R&D either in

part or to a sufciently developed level or it to be at-

tractive to external investors.

Lastly dont put all your eggs in one R&D basket by

which we mean dont just develop one product/service

or range as this is betting the company on a single

route orward. Instead you would be better o to have

two to three things that youre developing with various

levels o risk and return in each. That way you can

aord ailure as well as enable success.

All MyCake users can access their individual benchmarks

once logged in at www.mycake.org. To benchmark your

business during your free trial (rather than wait until an-

other year has passed) why not enter the data for your last

nancial year? If you are a sole trader your Self Assessment Tax

return will contain most of the data you need to do this. If you

run a limited company then your last set of annual accounts will

provide the necessary information.

sarah@mycak

e.org


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my cake benchmark #4

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