Introduction

A business is an organizational structure that enables the creation and sale of products/services. Going forward, we’ll be using the nomenclature of “product” to represent the good / item/service/widget / etc. being sold. Products need support mechanisms to grow and scale. Just having a killer product isn’t enough for a business to blossom. The systems put in place by the humans interacting with the organization are the building blocks of the business. We’ll also refer to these as the functions or f(x)’s.

Money needs to flow into the business to sustain it. Cashflow is the oxygen of a business. Yes, it’s possible to use external devices when there is trouble stabilizing it, but it can only last for so long. If the business isn’t able to produce cash flow to sustain itself, there is an expiration clock ticking.

There are three pillars to a business we’ll dive into:

• Product
• Sales
• Operating Functions 

The Three Pillars

Product

It all starts with the product. Without a product, there is nothing to sell. Without anything to sell, there is no business. The product is the value a business brings to the world. Ideally, a person/business is willing to spend money on the product because they receive more value than what they are paying. 

Businesses are able to function because they are able to do things at scale. They can specialize in a process, which drives down the price. Once at a certain scale, the businesses focus should be as efficient as possible in the creation of their product. 

Everyone in the business should be working towards increasing the value the product provides. Some functions are directly tied to value creation, like the product and engineering teams creating the product. Others interact in a non-direct way but are still critical. How does an accountant provide value to the product? They attribute the revenue and costs associated with a product. Investment decisions are made from these financial documents. 

The equation should be simple. If a business wants to stay open, it should endlessly strive to increase the gap between the value provided and the costs to produce the product. 

Sales

A product without sales isn’t a business. Many great businesses start this way, but they move from the “idea” to “business” phase once the money starts coming in for the exchange of the product. A product that “sells itself” are few and far between, but is a great goal for the product organization to have. There need to be people whose focus is receiving money for the products. This money allows the business to continue to operate. 

Sales should be the conduit to the market and bring information back to the product organization. They should have a pulse on what their clients are looking for and the value that needs to be developed into the product. 

Operating Functions 

These are the supporting functions needed to make sure product and sales can execute. These are the finance, operations, IT, legal, and accounting teams there to make sure products can be made and sold. Every day should consist of making the creation and selling of products more efficient. Cutting down the time for deals to close and capital to be more efficiently used. 

This is where the annual operating plan is created on how resources will be allocated for a given year. This is the check to make sure capital is flowing to the correct areas of the business. Where can a dollar be used to have the highest impact? Most likely, in the beginning of a business, it would be directly put back into the product. As the business matures, dollars need to be allocated to the support systems to manage a large organization. Data can no longer live in one excel sheet and HR can’t be handled by one person. Robust systems need to be developed. 

Value Creation: Why Does Work Happen?

In order to accelerate the gap between value and costs, work occurs. Work is the act of creating value. Why does work occur? It doesn’t appear out of thin air for no reason, even though it might feel like that sometimes. The owners of the business are incentivized to increase the value of the organization. The value of the organization should be derived from the value of the products, but there isn’t always a direct correlation between the two. 

The owners should be putting pressure on the organization to create value. The owners have the most to gain through the value creation process, so they should have an outsized push on the business. The larger the shareholder, the more they should be incentivized to create value. 

Incentives are what drive work. There are two types of incentives within a business:

• Monetary
• Internal

Monetary incentives could come in the form of direct equity, options, or salary. Some people are motivated enough just to keep their job and their salaries. Others are motivated above and beyond their salary because of the outsized returns equity ownership can provide.

There are some people who are internally motivated to push the company forward, outside of their monetary compensation. These are the people who want to do more than just keep their job. They could be motivated for many different reasons. Some want to see if their ideas can be validated, regardless of the outcome. Some people have a natural curiosity they want to test. This is a smaller subset, but many great and innovative ideas come when there is no external push. Ideas are more organic and natural.

Organizational Structure

When work is created, it needs to be assigned to an executor. The CFO needs their books to be closed quicker, so they look towards the accounting team. The month-end close process is their ownership, so improving the process would fall on them. They come back to the CFO and they say that they can’t go any quicker with their current tools, so they need new software to help them. That is when IT comes in with the ownership of tools to help implement the new tool. Rarely is an issue contained to one team.

Companies should be organized to accelerate the spread of information to the necessary parties. In an ideal world, all relevant parties are made aware of an issue when it happens. This cuts down the time and lag that happens in work. Imagine if all parties had complete information at the time of when an issue arises. We don’t live in a perfect world so that won’t happen, but we should strive to achieve this.

Too much time is wasted trying to spread information and getting the right executors involved. Take the example of sales slowing for a specific product. What are we going to do to turn it around? Maybe the solution is a new marketing plan. Imagine the finance, product, marketing, and legal team were all informed at the same time instead of the finance team telling the product, which then needs to get in touch with marketing, who then validates open questions with the legal team. Calendars are full, emails are sitting in the inbox, need a reply, etc.. The more touch points of passing information, the slower we are to getting to the solution.

Functions of a Business 

There are three components to a function, the input, the output, and the relationship of the two. This is a way to describe how holding variables constant, and changing the input will have an impact on the output. Let’s first start with an example from middle school math.

F(x) = x²

The above is a simple function, where x is the input. If we use 3 as our first input, the output would be 9. We won’t have to walk through what happens when we use 4, but we get the point. It might not seem like it, but functions exist in all areas of life. We just don’t think about them outside of math, for the most part. 

What is the function of losing weight? Burn more calories than we eat. Straightforward, but each of those variables can be broken down into its own functions. How would we come up with the function for how many calories we burn? It would probably look something along the lines of the number of minutes exercising times the intensity of the exercise. How about the function of the calories we eat? It’s probably made up of our discipline of keeping calories under what we burned coupled with the food available to eat. 

Everything in the world is made up of variables that are related to each other and have an output to them. We just need to define the parameters of what variables make up the function based on the outcome we are looking for.

If we are trying to understand the profits of a business, it comes down to two components: Revenue – Costs. Each of these components can be further broken down into sub-functions. Revenue could be evaluated as the price of the product times the quantity sold. We could even break that further down of price times quantity by each sub-region where the business is operating. Same things with costs, we can continue to break down each variable into more variables and functions.

A business is made up of an infinite amount of functions. Functions are a tool to help us break down an outcome into it’s variables. From there, we can understand the relationship between the variables for decisions to be made. Does the output make sense based in our input and variables?

If we want to increase our month-end closing speed, what variables do we adjust to get a different output? If there is no change to the function variables, then the same input will always give the same output. 

The better the organization is set up to receive information, the quicker the organization can act on the underlying functions.