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Business Insights From Conway MacKenzie
February 27, 2015

No Fluff Allowed: Realism and Rationale Win the Cupcake Wars

How does one with a passion for baking and an entrepreneurial drive enter the gourmet cupcake marketplace without getting burned? Think small, and let “big” happen at its own pace.

This is a key lesson to be learned by aspiring entrepreneurs in any industry from the tale of two business owners in the once-booming cupcake bakery industry. One, New York-based Melissa Ben-Ishay, founder of Baked by Melissa, grew organically and held tight control over the company’s finances and expansion. The other, Michigan-based Todd and Pam Turkin, founders of the Just Baked chain of stores, struggled and ultimately failed to keep pace with growth. Recent Wall Street Journal and Detroit Free Press articles tell their respective stories of success and failure and offer both hopeful and cautionary messages.

Entrepreneurs play a critical role in driving economic growth. According to the U.S. Small Business Administration and the U.S. Bureau of Labor Statistics, between and 1993 and 2013, small businesses created two out of every three new U.S. jobs and employed approximately half of the private sector workforce. Their economic influence makes the following statistic even starker: about half of all new U.S. companies fail in their first five years, according to Gallup research.

The start-up and growth experiences of Baked by Melissa and Just Baked offer insight into the choices small businesses of any type must grapple with when faced with the prospect of going big with their small-business concepts:

• How will we finance our dream? Ben-Ishay “took whatever money I had in my wallet,” steering clear of external funding sources because it allowed her “business to stay true to itself.” The company expanded “brick by brick” as it increased revenue, as opposed to taking on too much debt to fuel expansion. Just Baked, on the other hand, was undercapitalized for its growth objectives, and ultimately turned to outside investors and the line of credit they provided to offset cash flow woes. However, as the company continued to bleed cash, the line of credit was pulled, forcing Just Baked to cease operations and shutter corporate owned stores.

In sum, Baked by Melissa bootstrapped its business expansion and has so far succeeded, and Just Baked was forced to rely on outside financing to sustain itself and failed. That’s not to say that debt is bad. Rather, too much debt can be problematic. Clearly Just Baked became over-reliant on its line of credit, but many well run and successful businesses rightly use some form of financing to fuel growth. When an investment opportunity calls for it, and revenue can support it, taking on an appropriate level of debt financing to fund expansion can be a smart business move.

• How big is too big? The pressure to prove ROI is an internal one when a venture is self-funded. “You don’t have to meet certain growth multiples… (which) can be unhealthy for the growth of your brand,” according to Ben-Ishay. Just Baked’s founders concede that they signed too many new store leases. “…we over expanded,” Turkin said. “We just opened too many stores.” In fact, in a matter of a few years Just Baked grew from a home-based enterprise run by a mom to a business with about 90 workers and 17 stores. Last month, the business closed all its corporate stores and the fate of the five remaining open franchise stores is uncertain.

Knowing when to expand, especially in the ultra competitive retail world, is a tricky proposition. The success of a first location has little bearing on the success of a second. Generally speaking, there are no hard and fast rules when it comes to expansion, but there are some principles to keep in mind. An important one is that before expanding it’s critical to have well defined processes, procedures and systems in place. If your first location is running really smoothly – and you know why it is and you can document it – there’s a good chance you’ll be able to translate that success to a second location (or a twentieth).

• How fast is too fast? “We grew slower and organically,” said Ben-Ishay, primarily because the business was not on anyone’s schedule but its own. Rather than adding more stores to meet some arbitrary success metric, Ben-Ishay is grateful that she “wasn’t forced to grow faster than my body and mind allowed for.” However, between 2009 and 2012, Just Baked grew its revenue a whopping 426 percent and was ranked by Inc. Magazine as the 1,011th fasting-growing private company in America.

Both businesses launched to capitalize on a trend – gourmet cupcakes. That’s a smart business strategy as, obviously, there’s money to be made when the marketplace is clamoring for a product. But there are trends, and there are sustainable trends. The cupcake trend was relatively short-lived, while other trends – for example cloud computing – have greater lasting power. The market is fickle, so while you need to move quickly to capitalize on a trend, businesses need to be careful – like Baked by Melissa – to not chase too hard.

Both of these companies started in much the same way – from a place of true passion for the craft. Rather than being a lesson in “Why Not to Start Up,” Just Baked’s story would more appropriately be entitled, “Mistakes to Avoid When You Do Start Up.”

We applaud the commitment and ingenuity of our country’s entrepreneurs – they are the future of our economy. Our Retail, Consumer Products & Direct Marketing Industry Group team has the experience required to help businesses make smart financial and operational decisions from the outset, and to help them grow wisely once they’re up and running.

Please contact a Conway MacKenzie professional today to discuss your business’s growth objectives, and visit us regularly on Twitter, LinkedIn and Facebook, for more examples of business best practices.