“What would you need to do to double your revenue (or profit)?”
That’s usually my opening question when we have strategic reviews with our businesses. The answer highlights the biggest constraints to the growth of the business.
I start with this specific question because many leaders have one problem in common: they come up with great solutions but to the wrong problems. It may sound stupid but every day, thousands of leaders come up with excellent solutions to the wrong problems. When this happens, you may work your butt off, but it won’t materially change the business.
One of my favourite business books (I’d highly recommend it), The Goal by Eliyahu M. Goldratt, addresses this particular question.
The Theory of Constraints
The Goal was my original introduction to the Theory of Constraints (TOC). In short, TOC describes systems and how to operate them for maximal output. The concept describes the benefits of analysing a production system like a chain of processes. To improve the chain, the weakest link must be identified. In the case of a product line, the weakest link is the stage with the lowest throughput.
As for actual chains, there can always only be one weakest link. Once that link has been strengthened, another link will be the weakest, but there are never two links that are both the weakest at the same time.
A Paper Clips Factory
In the case of a production system in a factory, the weakest link is the element with the lowest throughput. Imagine that you’re producing paper clips and that process has two stages: 1) Cutting the steel wire and 2) bending the wire into shape. The step with the lowest throughput sets the pace for the total chain. The slowest process will dictate the overall throughput of the chain.
To illustrate: Imagine that you have the capacity to cut up to 10,000 wires per hour and to bend up to 6,000 cut wires per hour. In this setup, your total output will always be limited to the lower of the two – the bending process – which in this case would be 6,000 per hour. Any improvements you make to the cutting process will have no impact on the total output. In other words, the only way to improve your output is by tweaking your weakest link – the bending.
If now, you buy an additional bending machine so that your bending capacity increases to 12,000 clips per hour (two machines times 6,000 clips per hour per machine), then your new weakest link will be the cutting process which is still limited to 10,000 wires cut per hour. If you were to add a third bending machine it would be obsolete as it would not add to the total output. Once you can bend more wires than you can cut, the bottleneck will switch to cutting. Increasing the throughput of a non-bottleneck process will never increase your overall output!
TOC outside the Paper Clip Factory
While the example may seem overly simplistic, it illustrates TOC well. In practice, I often find that people don’t apply TOC. As mentioned earlier, the consequence of failing to identify the weakest link or the bottleneck of the business is that you solve the wrong problem!
There are no good reasons to work on the wrong things. The most common reasons I see is when leaders have lost sight of the problems or simply have not be aware of their own biases for solving the wrong problem (they often cannot see the forest for the trees).
The importance of solving the right problem can hardly be overstated. Be aware of your biases! If I had to define myself within a single function, I’d consider myself a marketer. I know my bias and that if I don’t think structured about a problem, my natural inclination is that I resort to a marketing solution. But that may be wrong.
For a hammer, every problem is a nail. Similarly, for a marketer, every problem has a marketing solution! (Charlie Munger of Berkshire Hathaway has written a fantastic piece on this). We must force ourselves to put our effort where it is most impactful, not where we find it the most convenient or interesting.
A real-world example
We had a workshop on marketing for an events business. We wanted to sell twice as many tickets and the team wanted to do this through email marketing. They came back with a – probably – great strategy for increasing open rates and click-through rates.
The challenge was that no strategy for open and click-through rates would ever allow us to double the output. It was simply not realistic to increase the rates enough to sell twice as much. In other words, the constraint, in this case, was the marketing channels and the solution would be to find new marketing channels (That is naturally a bit more qualitative than the factory in the example above).
Once you do your analysis well and can define the right problem, the solution usually comes quite easily. I find that more people struggle to define the right problem than to solve it once they’ve found it.
Once you’ve identified your constraints, it pays to think a bit ahead. Once you’ve solved your first constraint, what comes next and at what levels does it constrain the business?
A real-world example
An entrepreneur I know built a B2C e-commerce company. They really wanted to scale the business massively. It was the funding heydays of the early ‘10s so the focus was on revenue and margins took a backseat. The obvious solution to achieving hypergrowth was, therefore, to generate more demand. They just needed a great TV commercial and growth was inevitable.
The team doubled down on the TV efforts and produced a great spot that did well with focus groups and checked all the important boxes. All execution was by the book – what could go wrong?
The marketing campaign worked like a charm. They generated tons of demand. The challenge? The business didn’t have the inventory to scale and satisfy the demand generated. In other words, thousands of customers saw the commercial on TV and went to the website just to see “sold out” across the vast majority of products.
The long and the short of the story is that the team didn’t realise that once they had lifted the demand constraint, they would quickly encounter a new constraint on inventory. They simply didn’t have enough products to sell to scale as quickly as they’d like!
I like to keep things as simple as possible. The theory of constraint is beautiful in its simplicity