Rags to riches

In the first book in this trilogy – The Entrepreneurial Web – I described how I made a radical change of life style, going from the formal and structured environment of banking and stockbroking to join the hippies in a hippie fashion market that had just opened in Kensington High Street in West London.

Hippies and fashion may not seem a logical combination, but, the hippies in Kensington soon found out that there were plenty of people willing to pay to buy into their life style. Wannabe hippies were prepared to buy the kind of clothes the hippies were wearing to be able to emulate them – even if it were only at weekends. As most of the hippies were making their own clothes, or finding them in used clothes shops, it didn't take much extra effort to make or find a few more that could be sold to the many who wanted to copy them.

As soon as the emulators started wearing the clothes that were being worn by the hippies, the hippies started to wear different clothes so they could look different from the wannabes. As soon as the emulators saw the hippies wearing new clothes, they wanted them as well. Pretty soon, a whole industry came into existence with hippies working out new and exotic ways to dress and this creativity feeding a continuous demand for their wares.

Recognise the pattern? Isn't this very similar to the strategy that Bill Gates had described as being the formula for success used by Microsoft? Hadn't they found themselves in an environment, pioneered new product in that environment and sold all their learned know how and techniques to those following on behind?

I'd joined in this trading environment in the then currently fashionable area of "old clothes" (later to be called "antiquarian clothes" when some of the garments became so sought after they cost considerably more than new clothes). I'd partnered with a girl in a stall in Kensington market selling 1920's and 1930's garments that we'd search for in the many used clothes shops and flea markets that were dotted around London.

One day, as we were driving around looking for used clothes shops, my partner spotted the characteristic look of a 1920's velvet dress poking out of a lorry load of old rags that were on their way to a rag yard. The lorry was parked outside a workman's cafe and we decided to go in to find the driver of the lorry.

To my surprise, the lorry driver turned out to be an ex boy friend of my sister, a person I'd known since school days. Over a cup of coffee in the cafe, he explained that he was now in the rag business and had a large warehouse in Fulham sorting through tons of old clothes every week. He then invited us to go back with him to his warehouse to see if there were any more 1920's or 1930's dresses lying around.

When we arrived at his warehouse, we found it contained a gigantic mound of assorted used garments (known as rags). This was feeding a conveyor belt. Along the conveyor belt were several sorters who were sorting through these rags to divide them into various categories. Although they'd sort out a few useables that could be sold to traders in the flea markets and the second hand shops, they were mainly concentrating on sorting the rags by the type of material they were made from: woolens, cottons, synthetics, fur, leather, etc.

My friend explained that he bought in mixed rags at a certain price per ton. When sorted into the various categories, each category sold to specialist processors at a much higher price than the price he was paying for the unsorted mixed rags. Effectively, the act of sorting the rags was increasing their value. It was a very simple formula and he was finding the business highly profitable.

The astute reader will likely spot the parallel with information on the Web. The information equivalent of the pile of unsorted rags at one end of the rag merchant's warehouse is the vast assortment of information available on the Web. Added value can be created by a sorting process that turns an unsorted conglomeration into sorted categories that are immediately usable.

This simple formula is the key to the success of all media products: newspapers, magazines, books, directories, search engines, etc. A value is created because the information they contain has been selected, sorted and categorised. This is why Web sites that provide just content are not profitable in their own right because that content doesn't acquire value until it has been passed onto somebody who can make profitable use of it. In isolation, all information on the Web is the equivalent of just another rag on the unsorted pile of rags in a rag merchant's warehouse.

The value of the sorting process really hit home when the rag merchant invited us to look through his unsorted rags to see if we could see any more 1920's or 1930's dresses. My partner and I spent an hour sifting through piles of smelly garments and came across only three items of interest.

The rag merchant waved me away when I offered to pay for them and told us we could come along at any time and take what we wanted. As generous as his offer was, the thought of spending much more time sifting through mounds of smelly clothes didn't fill me and my partner full of excitement . I suggested to the merchant that perhaps his sorters could pull out these garments for us while they were doing their sorting.

The merchant gave us a condescending smile and explained that he'd love to help us but if his sorters were looking out for these 1920's and 1930's clothes they would lose their rhythm and slow up his whole operation.

It made perfect sense, but, having just spent the past year writing about investment strategy I had a little model in my head that fitted this scenario. Investment value was based upon a continuous regular revenue stream. Once a revenue stream could be defined the value of a business could be determined.

The 1920's and 1930's clothing garments would appear at random in the unsorted pile. Over time, and averaged out, this would create a continuous revenue stream as far as my partner and I were concerned. However, to the rag merchant, pulling out these garments represented a cost in terms of loss of efficiency. The problem then became one of finding a way to turn this loss into a profit for the rag merchant.

I thought about my partner and I sorting randomly through the mound of rags for an hour and finding three items. The rag merchant had four sorters and they were working forty hours a week. A quick calculation told me that if they could uncover items at the same rate as my partner and I, there was every chance that they could uncover 240 items a week. This would be quite a considerable sum of money in sales. The capitalised value of such a regular income could greatly increase greatly the value of both mine and the rag merchant's businesses.

I then asked the rag merchant to do a trial run for a week to get his sorters to pull out the kind of clothes I was looking for. I offered him a compensation for the decrease in efficiency and he agreed (probably just to humour an old friend).

As a compromise, it was decided that the sorters wouldn't inspect every garment carefully, but, just throw to one side any item that roughly fitted the characteristics of 1920's and 1930's clothing. This would select for the type of fabric, the length, patterns and various other criteria that could quickly be associated with the styles and fashions of that era.

After a week, I returned to the rag merchant's warehouse and found that the sorters had put aside quite a sizeable pile. With my partner, I went through this pile and found a quarter of them to be sellable items. A quick estimate of the price I could sell them for gave me a ball park figure as to what this revenue stream was worth to me.

I then estimated how much the rag merchant would be paying his sorters every week. I compared this with the value of the revenue stream I would be getting if the sorters put aside all these garments regularly. I then realised that I could probably afford to pay all the sorters' wages out of the profit I'd be making on the sale of the dresses they'd be putting aside to me.

I then divided the estimated weekly wage bill by the number of sellable items the sorters had pulled out over the week. This gave me a price per item that I could offer to pay to the rag merchant. This delighted the rag merchant when he realised that by simply adding an additional sorting category he could eliminate one of his major outgoings: the weekly wage bill.

Parallels can be drawn here with many situations on the Internet. If information is compared to a valuable garment lying in piles of unsorted used garments, the value isn't in offering the information, the real value emerges only when this random information is selectively extracted from a background of noise: selected to specifically target a particular type of need.

Looking at Web based businesses today, it is evident that the pure content providers and the general cataloging and indexing operations are struggling to be viable. On the other hand, the businesses targeting the particular information needs of small niches are consistently successful and profitable.

The model of the rag merchant also illustrates another important characteristic of a successful business: the ability to extract several revenue streams from the same processing activity. This allows bottom up strategies to come into play where a single revenue stream by itself may appear insubstantial, but, facilitates the creation of many others. This, as we shall see, in the next chapter, can be applied very effectively to produce not only revenue streams but sources of funding.

The reader might note that this particular example is unique to my own personal experience. It is my equivalent of Sherlock Holmes's treatise on the one hundred and fourteen varieties of tobacco ash. The abstractions from my unique experiences in the rag yards can be regarded as some of the conceptual components that appear in my personal solution space.

Everyone has or can create their own equivalent of these personally unique conceptual contributions to the models they build. These can then be used to help turn opportunities into profitable solutions. Not only can these Sherlock Holmes's treatise on the one hundred and fourteen varieties of tobacco ash equivalents be used personally, the astute entrepreneur will look out for them in others – so as to be able to include them in their own repertoire of conceptual components.