Product vs. Service Businesses: Which is REALLY Better?
Are service businesses really the wrong choice? Matt reacts to the argument against service-based businesses and shares a more balanced view. The truth? Both models have tradeoffs. But the capital requirements, cash flow cycles, and margin differences between product and service businesses might surprise you. Let’s talk about what the original video got right—and what it missed.
There are tons of people out on social media giving business advice. Some of it is good advice, but most of it isn’t good. In this series watch CapForge’s owner react to different advice videos. He’s an expert in all things business and has 20+ years of experience under his belt. Some of the things he reacts to might even surprise you!
Video Transcript:
Business Advice Video:
There’s four reasons you should never start a service-based business. First, service-based businesses lack scalability. When you try to scale, you have to essentially duplicate yourself with other people. That means you’re gonna need a multitude of processes and training and hiring skills in order to get another person up to speed on what you’ve been doing. Second in a service-based business, you’re always going to be trading your time or someone else’s time for money. Third, service-based businesses have a lot more keyman risk. Investors know this is a risk of buying a service-based business, and it’s why service-based businesses are also harder to sell. Fourth and finally, service-based businesses require a lot more customer involvement. If you design a logo for a company, they might want three or four changes, and then you need to go back and reprice those changes. And the bill goes up to the client. In a product-based business, you buy a product once. If that customer doesn’t like the product, they might leave a bad review, say it sucks, and not use it again. But you can take that feedback, improve the product, and release a better product later. But I want to hear your opinion. Tell me why service-based businesses are better than product-based businesses.
Matt’s Review:
OK, I’ll tell you why service-based businesses are better than product-based businesses. Product-based businesses require a huge amount of capital in order to stock the inventory in the first place. And then it takes months to get paid once you’ve sold those, or depending on how and where you’ve sold it, how long it takes to get paid can vary, but it can be a pretty long wait. If you have a successful product that you now need to buy more and more of. You need more and more capital upfront and you have that long wait to get paid back. Businesses have gone out of business that are product-based because of this capital shortfall. Or they’ve imagined, wow, I I got approved as a an item at Costco or an item at Walmart, but now they want me to send in 100 units per location and there’s 3,000 locations. They literally have millions of dollars in inventory to go buy now that they may not get paid on for four, five, six months. And there’s gonna be a holdback for a certain amount of returns, and they’re going to get much smaller margins than they might have if they were selling direct to their own customers. So they’re out millions and millions of dollars, and by the time they get paid back, they may have only made a very small amount. Most service businesses charge some or all of the price upfront before they perform the service. So while, yes, you have to add people in order to scale your service business, you’re often charging ahead before you have that payroll cost, right? You perform the service today, payroll’s due in two weeks, but you’ve gotten paid now. So, your cash is actually running ahead of your sales and your expenses, rather than way, way behind, like on a product business. Now, the reality is, the grass isn’t really greener on either side.Service businesses have some pros, like I just mentioned, they tend to be cash-forward and much less expensive to start and run and even scale. They also can be extremely profitable. Yes, you’re trading time for money, but as you add more employees, it’s not your time. And if the margins are good, then you can have a very profitable service business compared to product businesses, which may operate on practically razor-thin margins. I’ve seen businesses with 40 or 50 million dollars in sales, product businesses, and barely a million dollars in profit. That’s, you know, two, three percent profit margin, and they’re considering that to be pretty good.So, it really isn’t a black or white, one or the other situation, it depends on the product, it depends on the service, it depends on who’s running it,it, what industry you’re in, how long you’ve been doing it, and and all kinds of other things as to which one is better when you’re comparing any particular service business to any particular product business. And it’s definitely not all of one and none of the other.
