Zero to $1 billion
A new study shows that companies that spurt from saplings to giants tend to share the same seven traits. How does your business stack up?
(FORTUNE Small Business) - What do a cheesecake chain, a green energy company, a medical software firm, and an online broker have in common? They are among 49 U.S. companies that hit a special milestone last year: $1 billion in annual sales. Many of these superstars you've probably heard of. The broker is Ameritrade (Research). The restaurant chain is Cheesecake Factory (Research). Others are less well known, including Cerner, a medical software firm in Kansas City, and Headwaters, an alternative energy company in Salt Lake City.
Though in vastly different industries, all 49 of these businesses started small, grew rapidly and profitably, and followed many of the same seven management practices - most of which were evident early on and can be applied to any small business. We know all of this thanks to David Thomson, an intense former technology executive and management consultant who has spent the past three years figuring out exactly what it takes for a startup company to reach that magic revenue threshold of a billion dollars.
Thomson, 52, calls these fast-track firms Blueprint companies because his research revealed that they followed a similar plan for growth. He lays out his findings in a new book called Blueprint to a Billion (for more information, see blueprinttoabillion.com). FSB spent several days on the road with the author, testing his theory in conversations with CEOs from what we call the Blueprint class of 2005. And we got him to identify the still-small companies that he believes are poised to join the billion-dollar club over the next few years.
Thomson's findings are intriguing in part because growth is such a central American value. The wagon trains that traversed Thomson's hometown of Kansas City in the mid-19th century were driven by families who believed that it was the manifest destiny of the U.S. to expand to its geographical limits. A few decades later Americans devoured Horatio Alger's novels about plucky working-class boys who built great business fortunes on little more than brains and moxie.
Today bookstores are crammed with tomes on both personal and business growth. Public companies live or die according to their revenue and earnings growth. But until Thomson came along, nobody had thought to undertake a quantitative study of what a small company must do to reach a billion in revenues. "He does a terrific job of getting past a lot of misconceptions to say, 'Look, this is what the numbers show,' " says Roger McNamee, a prominent Silicon Valley venture capitalist and an early backer of Cisco (Research), Flextronics (Research), andIntuit (Research).
Thomson is a number-crunching animal from central casting. He cut his teeth as an executive at Nortel, where he oversaw development of an early caller-ID service, and honed his analytical skills during a five-year stint as a globetrotting telecommunications and private-equity consultant for McKinsey. He is clearly obsessed by high performance, both in companies and machines.
In his spare time Thomson builds working scale models of fighter jets and flies them via radio control at a local airstrip. For the past two years he's been building an F-18 Hornet fighter jet in his basement in Overland Park, a suburb of Kansas City. He plans to fly the eight-foot craft this summer. If all goes well, Thomson's Hornet will travel at 200 miles an hour on real jet fuel that he buys at a local airport and lugs home in five-gallon containers.
In his quest to find companies that really take off, Thomson started out by analyzing the income statements of the 7,454 U.S.-based corporations that went public after 1980. He found that 25% of those companies had gone out of business. Just 387 of them (5%) had achieved annual revenues of at least $1 billion by 2004, and these he dubbed Blueprint companies. (Another 49 Blueprint firms hit $1 billion in sales in 2005.)
Remarkably, those 387 companies accounted for half the jobs created by all surviving firms that went public between 1980 and 2004, and 64% of their total market value. Clearly there was something special about these businesses, and Thomson set out to discover the pattern of their success. "My approach is to reverse-engineer success," he says. "If you understand economic impact, you can derive the actions that drive economic impact."
Thomson found that all Blueprint companies grew exponentially after reaching a threshold of around $50 million in annual revenues. Then their sales soared in a steep curve, reaching $1 billion in an average of four years (eBay, Google), six years (Starbucks), or 12 years (Dreyer's Ice Cream, Adobe). A majority of Blueprint companies reached the billion-dollar mark in four or six years after hitting $50 million. And unlike the VC-fueled dot-bombs of the late 1990s, most Blueprint companies were profitable from an early stage. They also rewarded their shareholders: At the end of 2005, 60 of the Nasdaq 100 companies were Blueprint firms.
Thomson found Blueprint companies in every industry, although the top three sectors were consumer goods (26%), information technology (18%), and financial services (15%), closely followed by health care (13%). The key: Each Blueprint company operated in a market big enough and fast growing enough to support at least one billion-dollar firm. Thomson doesn't tell you how to find that killer idea, although he does suggest that the next set of billion-dollar opportunities in the U.S. might lie in leisure products and nursing homes for aging boomers, along with energy, natural resources, specialty chemicals, and semiconductors for consumer gadgets. Our increasingly harried society is also likely to embrace any time-saving product or service.
After interviewing dozens of executives at billion-dollar firms, Thomson boiled down their management practices to what he calls the Seven Essentials. Some of these principles are strategic: Create a killer value proposition. Some are operational: Manage for positive cash flow from the start. And some involve leadership: Hire a second-in-command who can take care of the day-to-day while you think big picture.
It has long been a business school staple that successful companies sell emotional benefits, not just products. Yet few entrepreneurs can explain why their business proposition is any better than the competition's. Not so with our Blueprint companies.
Take the Cheesecake Factory, which sells upscale casual dining at a competitive price. Founder and CEO David Overton, 60, dropped out of law school in the 1970s to try to make it as a rock & roll drummer. Overton opened the first Cheesecake Factory restaurant in Beverly Hills in 1978 as an outlet for his parents' struggling cheesecake bakery.
"We became the coffee shop of the rich by trying to please those people with simple, straightforward food," he recalls. "We had a line out the door within ten minutes, and it hasn't stopped in 28 years." The company went public in 1992, at $52 million in annual revenues. In 2005 the Cheesecake Factory racked up sales of $1.1 billion at 111 restaurants in 30 states.
The Cheesecake Factory set itself apart by offering a huge selection of high-quality, moderately priced food: more than 200 total offerings, including a diabetic-shock-inducing 50 desserts. The chain has carved out a unique niche in the casual dining industry: With an average check of $17 a person, Cheesecake is pricier than, say, Chili's and TGI Friday's but much cheaper than the steakhouse chains and independent restaurants that are its main competition, according to the company's customer surveys.
Overton brought a theatrical flair to the restaurant business, seen today in Cheesecake Factory's larger-than-life portions and gaudy decor (think King Tut goes to Vegas). Cheesecake's operatic ambiance might not suit every diner, but it doesn't need to: Overton estimates that roughly 20% of his customers are regulars who generate 80% of the chain's total sales. The Cheesecake Factory must be doing something right. It has spent "little or no money on advertising" over the years, according to Overton. Positive word of mouth, it seems, is driving its torrid growth.
Most Blueprint companies operate in markets large enough to accommodate several new billion-dollar businesses. That's the enviable position of Ameritrade, an online brokerage founded in 1975. Before the Internet was even a gleam in Al Gore's eye, Ameritrade was a pioneer in the cut-rate financial services market. The Omaha-based company launched soon after the U.S. securities industry was deregulated in the mid-1970s, allowing individual investors to negotiate commission levels for the first time. Ameritrade entered the nascent online brokerage business in 1995 and went public in 1997 with $73.8 million in annual revenues. After recovering from the dot-com implosion, Ameritrade earned $340 million on $1 billion in sales last year.
Today Ameritrade targets the 37 million U.S. households with $100,000 to $1 million in investable assets. That's a total asset pool of $13 trillion to $14 trillion, according to Ameritrade CEO Joe Moglia, 57, and it provides plenty of room for more than one billion-dollar brokerage to thrive. Ameritrade's competitive advantage is that traditional brokerage houses have never been very good at serving the millions of upper-mid-market customers who control this vast pool of money.
"At a full-commission firm it's almost impossible for the typical financial consultant to cover his entire client base," says Moglia. "So they focus on the wealthiest clients. We want to provide the typical American family with a tool to create a customized, diversified portfolio that gets implemented at the push of a button."
So you've got your killer idea and you operate in a market that's big enough for you to really grow. What's next? In their early days Blueprint companies attracted what Thomson calls a "marquee customer," whose high profile and reputation opened doors to new markets. Landing that whale requires more than just salesmanship, however: The trick is to find one who effectively takes you on as a partner to help transform your organization. Says Thomson: "You need to find a client who is willing to take risks and innovate with you on your journey."
Cerner's health-care technology business got an early boost when the world-renowned Mayo Clinic decided to use its hospital management software. In 1986, Mayo opened a new branch in Jacksonville. That same year the clinic installed an early version of Cerner's electronic medical record technology to run its lab operations.
But by the early 1990s, Mayo had embarked on a far more ambitious plan: to build the world's first paperless medical practice. Earlier than most, Mayo's physicians realized that their industry was heading for a crisis. The clinic faced an aging population, a highly competitive health-care environment in Florida, dwindling insurance reimbursements, and skyrocketing costs.
Mayo wanted to improve patient care and needed to wring more efficiency out of the system. "We had no choice," says Dr. John Mentel, chair of the Department of Applied Informatics at the Mayo Clinic in Jacksonville. "So we looked at multiple vendors in what was then an infant industry. Cerner stood out because of its vision of creating a unified technology system for health care instead of just cobbling together a bunch of disparate applications."
Mayo took a huge risk on untested technology from an obscure vendor. It paid off: By 1998 the clinic had entirely eliminated paper from its out-patient department. Today the Mayo Clinic in Jacksonville is 80% paperless in its far more complex in-patient operations, Mentel estimates. The ROI has been dramatic: Mayo spent $16 million on medical practice automation over the first five years of operation and has realized savings of $3 million to $7 million annually thereafter. And despite the trauma involved in changing a large organization's most fundamental practices, Mayo officials say they are very happy with their Cerner relationship. "The instantaneous access to medical data makes it all worthwhile," Mentel says.
Cerner's early relationship with the Mayo Clinic made it easier to sign up other health-care facilities. Today Cerner has largely systematized the art of getting customers to sell for the company. Perhaps the ultimate expression of marquee customer leverage was on display in February at a health-care-technology trade show in San Diego. The company enlisted more than 20 hospital administrators and clinicians to man its booth and explain the benefits of using Cerner software. This was basically a volunteer effort: Cerner covered their travel costs and threw in a token gift bag. But even though sharing knowledge is a key tenet of medical culture, the customers were motivated by more than just altruism.
Cerner declined to release pricing information, but FSB's research suggests that a large hospital could easily spend several years and tens of millions of dollars implementing Cerner technology. Quite simply, Cerner's customers would be in deep trouble if the company failed. "We're married to Cerner for a long time," says Dr. Tom Abendroth, chief information officer at the Penn State Milton S. Hershey Medical Center in Hershey, Pa. "It's in our interest to help them succeed."
Abendroth is currently overseeing a 30-month, $25 million Cerner implementation. That helps explain why he and five other highly skilled, extremely busy doctors, nurses, and technicians from the hospital flew across the country to spend three days working as unpaid Cerner booth bunnies.
If you are a potential client or a reporter, your first stop at Cerner is likely to be the Vision Center, a 14,000-square-foot, $2 million complex where clients "project themselves into their possible future," in the slightly Orwellian phrase of Cliff Illig, Cerner's burly vice chairman and co-founder. FSB wasn't allowed to photograph the Vision Center, lest competitors steal Cerner's marketing mojo. But we can tell you that the heart of the complex is a large windowless room reached through a door whose handles echo the double-helix structure of the DNA molecule. The room is a cross between a medical clinic and a Hollywood mogul's screening room. A row of padded chairs faces several video screens, in front of which are diorama-like exhibits representing an emergency room, a doctor's office, a nurses' station, and so forth.
The room is the set for a multimedia extravaganza starring a fresh-faced little boy named Jimmy Jones. The show starts at the Joneses' residence, where Jimmy's mother notices the fictional three-year-old scratching his ear. She decides that Jimmy doesn't look well and makes an appointment with his pediatrician. The doctor sends Jimmy to the lab for tests, which come back positive for leukemia. Jimmy then undergoes successful radiation therapy and returns home with his cancer in full remission. At every stage of the show, Cerner employees demonstrate how a doctor, nurse, or family member would access Jimmy's medical record online using Cerner's Millennium software.
In less than an hour, this heartwarming little drama solves a marketing conundrum that afflicts nearly every service company: How do you sell something that nobody can see? "If we can get them where we live, we have a very high hit rate," says Illig, who adds that he was intimately involved with every aspect of the Vision Center's design, right down to the DNA door handles.
A great strategy and terrific customers will only get a business so far. All Blueprint companies also need a special kind of leadership that Thomson has dubbed "inside-outside management." At Cerner, for example, vice chairman Cliff Illig characterizes himself as a hard-core tech nerd ("That's a term of endearment around here," he notes) who focuses on internal operations and financial matters while the company's charismatic chairman and CEO, Neil Patterson, spends much of his time on the road, working client relationships and playing the role of health-care visionary.
Illig doesn't lack charisma, and he describes his partner Patterson as a terrific project manager in his own right. Moreover, the two men have worked together for so many years now that they can freely switch roles, which is again typical of Blueprint company leaders. Nonetheless, a famous story about Patterson illustrates the perils of putting a natural frontman in sole charge of internal operations. A few years ago Patterson became unhappy with what he saw as Cerner's declining work ethic. So he fired off a petulant e-mail to his top managers. It read, in part: "The parking lot is sparsely used at 8 A.M.; likewise at 5 P.M. As managers - you either do not know what your EMPLOYEES are doing; or YOU do not CARE ... In either case, you have a problem and you will fix it or I will replace you."
As a remedy, Patterson ordered managers to start scheduling meetings at 7 A.M., 6 P.M., and on Saturdays. But he apparently forgot that e-mail messages are easy to forward. His broadside reached hundreds of employees rather than the few top managers for whom it was intended. Within days it appeared on Yahoo message boards. (One Cerner associate posted an innovative solution to Patterson's perceived problem: "Reduce size of parking lot.") The news soon reached Wall Street, where investors concluded that Cerner was in trouble and drove its stock down by 29%. The shares eventually bounced back, but to this day business professors cite Patterson's e-mail as a cautionary tale.
Early on, most Blueprint company leaders form a "big brother alliance," in Thomson's parlance, that helps them establish credibility and crack new markets. In the late 1990s alternative-energy firm Headwaters was struggling to sell its patented synthetic coal technology to electric utilities that saw it as an upstart.
Headwaters benefited from its relationship with Dow Reichhold, a giant chemical company that manufactures latex-based chemicals that Headwaters uses to bind coal dust into burnable synthetic fuel. "We had no credibility in those days," Headwaters chairman and CEO Kirk Benson recalled during a recent conversation in the company's headquarters just outside Salt Lake City. "So we involved Dow in the process of developing our customer base. Dow met with our customers and gave them confidence."
Some would argue that Headwaters still has a credibility problem. The synfuel industry is deeply dependent on tax credits designed to wean the country off dependence on foreign oil. Section 29 credits, named after a section of the U.S. tax code, have allowed electric utilities and other companies to write off billions in tax liabilities since 1980.
The rub: Synthetic coal replaces natural coal, not oil. Sans tax credits, synfuel production makes no sense in a country where high-quality coal is plentiful and cheap. But Benson, a reserved former lawyer and accountant who helped run the California-based managed-health-care giant Foundation Health Systems before taking the reins at Headwaters in 1999, points out that the company has diversified steadily on his watch. Last year only 28% of Headwaters' revenues came from synfuel technology licensing and chemical sales, down from 92% in 2002.
Much of the rest came from selling construction materials and coal-combustion byproducts such as fly ash, a substitute ingredient in concrete. Unlike synfuel, this product offers a direct environmental benefit: Using fly ash in concrete saves landfill space and reduces carbon dioxide emissions associated with cement production, according to the EPA. Headwaters has also developed several promising refining technologies, including an innovative process that converts low-value heavy oil into high-value diesel and gasoline.
Benson had little choice but to branch out: The synfuel tax credit was recently the target of a Senate investigation and is scheduled to expire at the end of 2007. But his prudent bet spreading and shrewd use of the Dow relationship helped turn Headwaters around. In 1999, Headwaters (then called Covol Technologies) lost $28.4 million on revenues of $6.7 million. The company turned cash-flow positive in 2000, Benson's first full year as CEO, and has increased its net cash from operating activities every year since, from $6.6 million in 2000 to $151 million in 2005. Over the same period Headwaters grew its revenues from $45.8 million to a whopping $1.1 billion last year - roughly the same growth trajectory as Google.
These stellar numbers are not unusual in the elite Blueprint club. Thomson found that Blueprint companies tend to finance their early growth from operations (the classic example is eBay, which was profitable from nearly its first day in business). There are exceptions, notably in industries such as biotech and telecommunications that require large upfront capital investments to get a business off the ground. But most Blueprint companies are the exact opposite of all those tech startups that flamed out back in the bubble days. "The customers finance the business," says VC McNamee. "There are just too many people who believe that the path to success is, Get a pile of press, then get a pile of venture capital money, and then get a pile of customers. That's exactly backwards."
Unexpected corollary: Blueprint companies get extraordinary value from their boards. Most startups populate their boards with insiders or with investors who want to keep an eye on their money. But because Blueprint companies tend to finance their own growth, they are able to stack their boards with successful CEOs and industry experts who offer deep experience and contacts, help bring in business, and give shrewd advice. Once you have that kind of expertise at your beck and call, all that's left is to pull out your blueprint and start building.To write a note to the editor about this article, click here.