What is an ideal business?

What's a business meant to be? Surely, its not for emotional gratification. Its meant to earn you money more than what you invested in raising the business over a period. You expect returns. 

You can't alone run a business. You need co-operative efforts of employees for which they get paid. So, employees are a great asset for the business, but not at the cost of returns from the business. So, definitely, business isn't welfare. Any incompetency & any expensive labour needs to be sorted out.

Business is also run by machines and machines need buildings and buildings are erected upon lands. These all comprise "fixed assets". Their expense come up firsthand while initiating an enterprise. The amount paid for the "fixed assets" must be conducive enough for the profitability of the business. Lets us take the example of land. If the land cost is so prohibitive, then it can affect the expansion of the business which relies upon setting up manufacturing units for itself. Second is the case of machines/technology.

If the technology keeps on getting outdated frequently as is the case today, then those businesses which rely upon technology for much of their productivity will have to incur expenses every now & then to keep up with the improved quality & quantity parameters. Frequent expenditure on technology will put pressure on operating cash flows and will keep the money tied to themselves & willn't result in free cash flow.

People talk about business model. And they'll diversify it, like this model or that model. Lets talk about the ideal business model which is aspirational in character. What'll be the ideal business model? 

How would you like your business to work on payment terms? Would you like to have your business work on advance payments from customers or delayed payments? An ineal & best situation for your business will be to operate on advance payments from customers.

Would you like your business to give delayed payments to suppliers for raw materials or advance payments? An ideal or best situation will be to have credit periods from your suppliers. That way you an use the credit period to process the raw material, sell it, take money from customers & then pay your supplier & keep the profits with yourself.

All of this gives rise to a cycle. You take raw material from your supplier without paying him, process the raw material, sell it, & then pay the supplier. This can be called Cash Conversion Cycle. Longer the duration of this cycle, more is the trouble to get the money in the business system. The shorter the cycle, the better.

But achieving such an ideal business model is very difficult to achieve, unless its sector-specific. Like in restaurants, the customers pay upfront for whatever they eat. Lets ignore this example for the moment. We have all seen good FMCG companies working on advance payments. These companies have been there for ages & they have that necessary branding. But for a start-up company to have a model like that, it can be very tough times.

Everybody these days can make a quality product. Creating a manufacturing capability isn't difficult. But selling the product is. First comes the pricing of the product. And then, making the customers educated enough to buy that product is a very hard game. And, plus retaining the customers for repeat orders. This requires extensive distribution network, sales promotion & marketing. This requires time. This is why FMCG companies are valued highly.

You need very strong branding to have that kind of ideal structure. You need to be long enough in business to be able to dictate your terms to suppliers as well as you need to have very strong branding of aspirational nature to dictate the same to your customers.

Now, we have come to this conclusion that a business needs a certain kind of branding to achieve that ideal structure, to assure the suppliers about their brand's demand so as to have those credit periods as well as to attract the customers to have ready upfront payments. Now, lets discuss what's branding?

Branding can be talked about as which is something attractive enough for people to pay for at prices which the company decides which is definitely premium. Branding has a recall power which creates images in public's mind regarding the company's products only. Branding has a trade barrier property too when it doesn't allow the competitor's products to easily sell on the market. And it all takes time & persistent efforts in every aspect whether its about product improvement, marketing, packaging,, advertising, sales promotion. Branding is a very costly affair. And once achieved, its a goldmine for any company unless the company acts irresponsible thereafter.

So, the question now comes to that what kind of business one will like to own. Definitely the ideal one. One will like to have his profits in cash rather than in figures on some piece of paper. When one'll like to do such a business, then why not apply such acumen, such an ideal business model to investments too. I think one must look for such characteristics in the businesses/stocks they wish to invest. You don't need a lot of companies to get invested into. Even one'll do.