Keep your eye on the ball |
An expert is a man who has made all mistakes, which can be made, in a very narrow field.
Niels Henrik David Bohr, 10 November 1972.
To ensure medium to long-term success with your IT consulting business you will need to keep an eye on a number of critical issues that can cause business failure. These issues will persist over the life of your business and if you at any stage forget them you might find that your business will be quite quickly in trouble.
In this chapter I present five important issues. This is not intended to be a definitive list, but rather five of the more common difficulties start-up IT consultants find themselves in.
11.1 Business cycles
Just about every organization experiences some form of business cycle. In some cases the cycle can be very short term such as restaurants that are packed out every Saturday night and empty on Mondays. Other businesses have a once a month cycle such as those that get a boost to trade when the monthly pay check arrives on employees’ desks.
IT consulting also has cycles, which are more closely related to the general success of the economy than anything else. And as you will know the UK economy has been expanding and contracting over the past few years. As a result some IT consultancies have had to cope with increases and then decreases in demand.
The expansion–contraction model
A consultant I knew ran his business on the expansion-contraction model. He always seemed to have enough business to keep five or six people well occupied. However, he would take on extra business and allow his team to grow to 12 or 15 people when the demand was there for their services. The problem was that he did not seem able to sustain that level of business as he was not prepared to put enough resources into marketing.
Also there is the fact that IT consultancy can be ‘lumpy’. For example, I obtained a contract a few years ago for which I needed five extra pairs of hands for six months. A newcomer to the business of IT consulting could have gone out and recruited more people. I actually found individuals who would work for me on contract which was of course more expensive than hiring regular staff. But when the job was over there were no redundancy problems.
Subcontracting to friends
Be especially careful about subcontracting work to friends. The business of an IT consultant I knew grew much more quickly than he could cope with. So he subcontracted part of an important assignment to a friend. For whatever reason this part of the assignment did not work out well with the client complaining about the quality of the friend's work. The end result was that the IT consultant had to fire his friend, pay back fees to the client and did not get the extension to the assignment he was hoping to. It was just bad news all round.
The problem really arises when you think that you have a permanent increase in business activity and you hire a half dozen new people and you lease motor cars for them and you acquire additional office space. If it transpires that this new level of business is not sustainable due to a change in the business cycle or for that matter for any other reason you can be in real trouble. This is the problem of expanding too quickly. And it is often almost impossible to know when the business opportunity presents itself to you if it's only temporary or if it is a really sustainable increase in business level. The cost of downsizing can be really expensive and it's not just the actual redundancy money. The hidden cost is the impact on your own morale and the morale of the others who are left after the downsizing exercise. But in the end the payment to the people involved will often be less than the payments associated in getting out of the leases – if you can get out of the leases. Sometimes you just won't be able to break the lease and you will be faced with having to try to find another tenant or sell the vehicles and take whatever losses there are associated with that.
THE COST OF DOWNSIZING CAN BE REALLY EXPENSIVE …
An important thought that all start-up consultants should constantly keep in mind is that one of the greatest causes of failure is success, i.e. premature overexpansion or being caught by a contraction in the business cycle.
11.2 Fixed priced jobs can be undercosted
As an IT consultant you will be frequently requested to quote for an assignment on a fixed price basis. This is not in itself unreasonable as your prospective client will want to know how much he or she is letting their organization in for. However, many IT consultancy jobs are really intrinsically difficult to cost estimate. Every experienced IT consultant will tell you tales of the job that was underquoted. Sometimes these jobs were not under-quoted by 10 or 20 or even 50% but by 500%. If you are in a really bad situation you may have to walk away from a job and see if the client will actually sue you. But this seldom happens, especially if the cost runaway occurs when the job is well on its way. The client may then be committed and if you are not paid enough to keep you going then the client will lose the whole job.
Avoid disputes where at all possible
When you are a small start-up IT consulting business it is important to be on good terms not only with your clients but also with your suppliers and subcontractors. A consultant I know had a very unpleasant row with a book publisher about a relatively small account. In the end the IT consultant paid up begrudgingly. The book publisher was so annoyed that he made sure that whenever he could he told people about how unreliable the IT consultant was. In the end the IT consultant lost an important opportunity because of this rather silly row.
There is no doubt that in IT consulting you can count on everything costing twice as much as you initially think and that jobs will take twice as long as you originally estimated. One way of protecting yourself against cost runaways is to quote for jobs in phases and then negotiate the cost changes as you proceed. This is not necessarily an easy strategy to sell to a prospective client.
… STAMP YOUR PROPOSALS WITH CONDITIONS …
One small thing you can do to help protect yourself against rising costs is to time stamp your proposals with conditions such as this fixed price will only be valid for, say, 30 or 60 days.
An important corollary of this, which has already been mentioned, is that it is possible to ‘buy’ the business by undercharging. This strategy is frequently regretted so it is probably just as well to avoid it.
11.3 Losing control over cash flow
Many business schools teach students in the first few months of their business course that cash is ultimately more important than profit. This truism is based on the fact that many businesses that are insolvent and are thus wound up are actually showing profits in their income statements and balance sheets.
The critical point is to realize that profit is a notional difference between income and costs, where at least some of the costs are to do with subjective evaluations of assets. Cash is to do with how many notes and coins your bankers will hand over to you if you pitch up at your bank and ask for your money. There is nothing notional about cash.
It thus follows that you can't pay your bills with profit.
And if you can't pay your bills you are insolvent and by law you have to close down.
… YOU MAY HAVE TO PLAY A BALANCING ACT …
To make sure that you always have enough cash is one of the primary objectives. To ensure this you may have to play a balancing act between paying what you owe and receiving what is owed to you. The bigger you get the more difficult this becomes. Most of your costs will be staff related, i.e. either payroll or subcontractors’ costs. You have to meet these every month. Sometimes your clients will keep you waiting 60, 90 or what my old accounting teacher used to call one hundred and plenty days. When this happens you can easily run out of cash and find yourself in trouble, and if you go to the bank you may not find a very welcoming reception. Banks do not like to lend money to anyone in a crisis. The way banks think is that you need to forecast your cash requirements six or even 12 months ahead and negotiate facilities well in advance. In this respect they are probably quite right.
11.4 The flavour of the month or of the year
Some businesses are very stable. There are business lines for which there is virtually constant demand. Such businesses include basic foodstuffs, essential transport, medical services and supplies to mention only a few. Other businesses are much more volatile and depend on swings in the market. The classic example of this is the fashion industry where one year skirts are short and in the next year they are long. One year lipstick is scarlet red and the next year peach pink! In fashion related industries much more effort has to be focused in anticipating how the market will move.
Certain aspects of IT consulting can be seen as relating to fashion. One year client–server architecture is the only show in town. The next year it is Web enabled interfaces and so on. For the IT consultant, adapting services is a continual challenge. You have to continually monitor your market place and understand how it is shifting. The IT consultant is in a continuous state of learning. No sooner has one set of competencies been settled than another set needs to be learnt.
Of course the key to real success is being able to anticipate movements in the market. If you can foresee a trend and be ready just as it becomes the most sought-after skill then you have a significant competitive advantage. However, as the wise man once said ‘Predictions are difficult – especially those about the future!’
11.5 Not understanding the risk facing your organization
In general it takes time for many new entrepreneurs to understand the issue of risk. In a previous chapter I discussed project risk. This is usually straightforward and if given sufficient attention it should be controllable.
Bad debts
An issue of continuous importance to all IT consultants is that of bad debts. The assignment isn't complete until the money is in the bank. Unfortunately everyone will at sometime face a client whose financial status is weak and it is critical to approach such a situation with a lot of care. Over the years I have known a few consultants who have not been careful about this. One of them extended a large amount of credit to a client who then went into liquidation and whose creditors received nothing. This bad debt in turn caused the IT consultant to go broke.
The risk referred to here is a more general one. Business school students are taught that there are two types of risk that any organization faces. The first of these is to do with the nature of the type of business and this has been discussed under section 11.4, ‘The flavour of the month or of the year’. From this it is hoped that you will agree that the business risk of an IT consultancy is relatively high.
The second type of risk is to do with how much money you have had to borrow. As mentioned in an earlier chapter there are several ways in which you could have borrowed money such as by obtaining an overdraft or by leasing to mention only two. If your business has been fully financed by yourself and you do not have any bank overdraft or you haven't had to lease any equipment then it is said that you have very little financial risk exposure. On the other hand if you have a big overdraft and several big leases you may well have substantial financial risk exposure.
As an IT consultancy will inevitably have a reasonably high business risk it is important that you do not take in too much financial risk as well.
11.6 The great tax surprise
Sometimes tax bills can come as a surprise and start-up IT consultants can be embarrassed when the time comes to pay their tax. There are a variety of taxes that have to be paid and the one that can really present problems is the VAT. The only sensible attitude to VAT is that you are collecting tax on behalf of the government. This money does not belong to you or your business. You have to account for every penny of it and you have to have the money on hand precisely when it is due. Getting into difficulties with the VAT man is something that you really must avoid.
… YOU HAVE TO HAVE THE MONEY ON HAND PRECISELY WHEN IT IS DUE
Of course the same can be said for all other taxes. PAYE generally doesn't cause many problems as we have all been disciplined from our first day at work that we have to ‘pay as you earn’. But with your own business you will have to follow a different tax regime and it is money well spent to have an accountant help you with this. If you get a corporation tax bill or a VAT tax bill out of the blue for which you don't have the money, it can certainly cause your business great difficulty if it doesn't actually put it under.
11.7 Summary and conclusion
The task of running a business is never finished. Every day new challenges arrive and new decisions have to be made. Those who are good at understanding the environment in which they are running their business and who are also aware of the different types of risk they face have a better chance of coping. This chapter offered you an opportunity to sensitize yourself to some of the more common mistakes I have seen IT consultants make.