Step 3: Could this be a good business?

September 25, 2024
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Business building

Now that you've identified problems (step 1) and figured out who might pay for them (step 2), it's time for the fun part—turning ideas into numbers with some quick business math!

This is where you create a rough estimate to see if your idea could actually be a profitable business. The goal is to set some basic guardrails—will your revenue outpace costs, and could this become a scalable business?

This is a really simple way I structure a business calculator to see how the business might operate:

Revenue - costs = profit

Revenue

  • You got a sense of what customers might pay to solve their problem in step 2. Use that range of price in some rough revenue calculations. 
  • How many people might buy? In a simple calculator, make that an assumption that you can modify. At this early point, I don’t get too precise with estimating favorite acronyms like TAM, SAM, SOM. That’s for later. 

Costs

  • Think about what it takes to solve your customer’s problem. For an e-commerce business, this could include wholesale costs, shipping, platform fees, and customer acquisition expenses.
  • Not sure where to start? Google things. 2 of my favorite resources to remind me what my potential business or others like it spend money on are SEC filings for public companies (10K, 10Q, S-1) or brokerages that sell small businesses, like Quietlight. 

Now we build a little calculator to literally add up cost estimates and compare to revenue estimates. Let’s take a simple example of an e-commerce business selling a box of 3 items. This will help you see how quickly revenue can add up, but also how costs can eat into your profit.

All this is is a spreadsheet version of revenue - cost = profit. Is it perfect? No. Remember, this is a starting point. As you gather more data, you’ll refine these numbers—but this first version is a reality check for your business idea. It’s also a helpful reality check, when you can do things like see how much profit you’d make with 10,000 units sold and see that, in this example, it’s not much.

How to interpret early financial tea leaves

Ask yourself
  • Is the business gross margin positive (cost per unit to make)? Operating margin positive (costs including what it takes to operate your business)? 
  • Any major changes in tech or scale that would make your margins better? (Ex wholesale pricing, automation, etc)

→ looks promising, it might be a good business

What if it doesn’t look so great?
  • What would make it a good business? Would this be in the realm of possibilities? What are the main steps that would need to be taken?
  • If the answer is nothing would make this a good business, you’d have to have a good reason to move forward anyway (ex loss leader for an adjacent business you have)

My personal tips

  • At the most basic level, just build up a simple spreadsheet of revenue - costs
  • Don’t get really complicated, you don’t know enough right now - these are all assumptions 
  • Here is a simple example to borrow from (it’s it’s the e-commerce example above)
  • You can also google business models for more ideas
  • If you need benchmarks, don’t be afraid to look at SEC filings mentioned above and via brokerages like Quietlight 

The calculator exercise is meant to help you think through some of the business fundamentals of your idea. It’s rough calculations, but it does help to keep yourself grounded in reality before moving forward with an idea. You can use this calculator in early business building, filling in assumptions with real numbers as you get more information, creating a new iteration, and repeating. In an upcoming post, we’ll dive into estimating customer acquisition costs and product demand before you've even launched. These are key pieces to validate your idea early, so stay tuned!