How much will it cost to develop and manufacture your product? How will you sell your product? What type of business model and legal structure is best for you? These are all questions that will be answered in this lesson.
Before you proceed to full product development you need to have a solid understanding of your expected costs. Without knowing these costs in advance it’s impossible to create a realistic plan to get your product developed and on the market.
You can break down costs into three areas:
Development cost – This will consist mostly of engineering fees and prototype costs. This includes the cost to develop the electronics, software, and enclosure. You need to know this cost so you can ensure you have sufficient funding to complete development.
Scaling cost – This is the cost to scale your product from a few prototypes to mass manufacturing. Most of this cost will be for electrical certifications and high-pressure injection molds required to mass manufacture your product’s custom enclosure.
Manufacturing cost – This is perhaps the most important cost for you to know in advance. It will determine your sales price, how much profit you can eventually make, and how much money you will need to purchase inventory.
Most entrepreneurs make the mistake of calculating the manufacturing cost after development is completed. But, you need to do it before. This ensures that your product can be eventually sold for a profit before you spend the money to develop it.
Sales and distribution plan
Do you plan to sell your product directly to consumers on your website? Or do you plan to sell it on Amazon? What about selling through retail chains or distributors? Or will you be selling strictly to other businesses?
These are all questions that you need to answer soon. For most consumer products my recommendation is to start by selling directly to consumers via your own website.
There are several key reasons. First, this strategy gives you the most profit margin since no one else is taking a cut of your profit (other than advertising costs).
Secondly, selling directly to consumers gives you the best shot at getting direct feedback from end users. If you instead sell your product through retailers, then you don’t get direct feedback from consumers.
Finally, selling directly on your website is the easiest way to get started. Once you have proven the product will sell then you can leverage that sales proof to get retailers interested.
Broadly speaking there are two business models for a hardware startup.
The first is the classic business model where you have a product which you sell at a profit for a one-time fee. The second, and much better model, is a recurring sales model where your customer continues to pay you month after month.
I cannot stress enough how beneficial it is for you to incorporate a recurring revenue into your business model. For one thing it costs 7 times as much to get a new customer as it does to keep an existing one.
Think of it as Netflix versus Blockbuster. Netflix uses a recurring subscription based model, whereas Blockbuster had the classic one-time sales model. I think we all know who won this business model battle.
Recurring revenue leads to a much more predictable business since you essentially know how much revenue will be coming in over the upcoming months.
Because recurring revenue is more predictable, the overall value of your business increases significantly, even for the same amount of revenue. The recurring model can also drastically help solve the cash flow issues so common with hardware startups.
There are two basic types of recurring business models for hardware startups that we’ll look at:
Hardware-as-a-Service – This is most commonly a hardware product with an recurring software service element to it. Although some profit may be made on the initial hardware sale, most of the profit comes from the backend recurring software fees.
With this model the manufacturing cost of the hardware becomes less critical. The hardware may even be sold at break-even with all profit coming from the recurring software.
Consumables – Commonly referred to as the “razor blade model” where nearly all of the profit is made on the disposable razor blade refills and not on the sale of the original razor. A more modern example is an inkjet printer which requires ongoing, and expensive, ink cartridges.
Legal business structures
Selecting the right type of business structure for your startup is critical. It affects how much you pay in taxes, your ability to raise outside funding, the paperwork you need to file, and your personal liability.
There is already plenty of information online about legal business structures so I won’t go into much detail here in this course, instead I’ll share my recommendation for hardware startups.
If you are in the United States, then my recommendation is to start with a sole proprietorship while researching your idea, then migrate to an LLC as soon as you are serious about proceeding.
Finally, consider a transition to a C-corporation once your company is profitable or you bring on equity investors.
Other countries will have similar options in most cases to the sole proprietorship, LLC, and C-corporation.
Get an advisor that has done it before
As you are probably now understanding, there are a lot of different aspects to getting a new product developed and building a hardware company around it.
It is impossible for one person to be an expert in all of these different areas. Sure it can help if you have multiple founders with different areas of expertise, but unless you have actually built a successful hardware company previously, it’s unrealistic to think you have all of the answers.
If you already know people with the expertise to advise you then that’s great. But most entrepreneurs don’t have these types of business connections.
One option in the U.S. is called SCORE which is a non-profit made up mostly of retired business executives who want to “give back” by helping new entrepreneurs.
Unfortunately, from my experience, it’s very difficult to find a SCORE advisor with any experience developing and manufacturing a new physical product, especially an electronic one. Nonetheless, even an advisor with basic business experience can be beneficial.
Bringing a new product to market is similar to traversing a minefield. Your chances of making it across successfully are slim if you try it alone. You need a guide with the necessary expertise to help you navigate the complex journey to market.
Of course, I hope to be one of your guides, but more on that later.
In the next lesson you’ll learn all about networking, marketing, and sales, as well as why you need to start these activities now, not later.
Other content you may like:
- How to Price Your Product for Various Distribution Channels
- Business Models and Recurring Revenue for Hardware Startups
- The First Critical Steps When Bringing a New Hardware Product to Market
- How to Determine If Your New Hardware Product is Really a Good Idea
- 12 Ways to Select the Best Product Idea to Bring to Market