Building sustainable business models with permanent customers

From: alexhormozi

Building a highly profitable and sustainable business model involves three core principles: understanding value creation, operating on a fast cash conversion cycle, and leveraging the concept of “wealth alchemy” through permanent customers [01:14:00]. This approach allows businesses to generate significant wealth rapidly, even exceeding the earnings of major corporate CEOs [00:00:00].

Selling Off Value Creation

Instead of pricing based on cost or “selling out of your wallet,” businesses should focus on the value they create for others [01:48:58]. This strategy enables businesses to charge significantly more and achieve higher profits than competitors [01:56:00].

The Value Equation has four components that determine how much value a product or service provides:

1. Dream Outcome: The ultimate desire or transformation the customer seeks (e.g., making more money, losing weight, improving relationships, gaining status) [02:21:00].
2. Perceived Likelihood of Achievement (Risk): How likely the customer believes they will achieve their desired outcome by using your solution. Lower risk increases perceived value [02:33:00].
3. Time: The duration it takes for the customer to achieve the dream outcome. Shorter time frames increase value [02:44:00].
4. Effort and Sacrifice: How much work or sacrifice the customer must expend. Less effort and sacrifice increase value [02:56:00].

By optimizing these four components, a business can command higher prices. For example, a $20,000 hand-carved wood table is not sold merely for its function (holding items) but for the “status” and impression it creates for guests [04:30:00]. The value is further enhanced by reducing risk (showing trends of its desirability), speeding up delivery (immediate availability), and minimizing effort (white-glove service, assembly) [05:16:00].

Price is the single largest lever on profit [06:29:30]. Competing on price is generally the worst strategy, as only one entity can win by being the cheapest [09:24:00]. Conversely, there is a benefit to being the most expensive, directly correlated to the value provided [09:47:00]. A 10x increase in price can lead to a 31x increase in net profit [09:04:00].

Fast Cash Conversion Cycle: Client-Financed Acquisition

A fast cash conversion cycle means turning customer payments into capital for further growth, often referred to as “client-financed acquisition” [11:28:00]. This strategy allows businesses to scale rapidly without external capital [14:15:00].

The goal is to structure transactions so that the cash collected from a customer within a short period (e.g., 30 days) covers not only the cost of acquiring that customer (CAC) and their Cost of Goods Sold (COGS) but also enough to acquire the next customer [20:06:06].

• Formula: (2 * CAC + COGS) ⇐ 30-day cash collected [20:06:06].
• The 30-day window is crucial because it aligns with interest-free credit card cycles [21:03:00]. The faster the cash is collected, the more frequently the cycle can be repeated, accelerating growth [21:23:00].

This approach was pivotal for the speaker, enabling them to:

• Generate $10millioninsaleswith$6 million profit in 10 months from a starting capital of $1,000 [11:52:00].
• Open new gym locations every six months using only cash flow, by acquiring customers who paid upfront for services that covered operational costs [16:25:00].
• Scale a licensing business to $10millioninsalesin10monthsandachieve$16 million in EBITDA (profit) in its second year [18:50:00].

To achieve this, businesses should:

• Raise prices: As discussed, higher value allows higher pricing [23:59:00].
• Encourage immediate, larger purchases: Don’t be afraid to make offers. People enjoy buying, and entering a “hyper-buying cycle” where they need related solutions presents an opportunity [24:03:00]. For example, a new marathon runner needs shoes, socks, apparel, and possibly coaching [25:33:00].
• Make multiple offers: Provide different solutions to the same core problem. For instance, a gym might offer nutrition seminars to those uninterested in gym services, finding that these customers often spend more [24:43:00].
• Ask to be paid sooner: Businesses with higher leverage (e.g., surgeons, insurance companies) get paid upfront or even in advance of service delivery [22:53:00]. Businesses should strive to get paid sooner by offering incentives for upfront payment (e.g., discounts for quarterly billing, bundling onboarding services) [22:53:00].

Wealth Alchemy: The Power of Permanent Customers

Recurring revenue and customer retention are critical for building a valuable business. Wealth alchemy centers on the concept of “permanent customers” – those who stay with a business long-term [28:29:00].

Consider two businesses with 300 customers after three years:

• Business A: Acquires and loses 100 customers in Year 1, then acquires and loses 200 in Year 2, and 300 in Year 3. This is a “churn factory” [34:53:00].
• Business B: Acquires 100 customers in Year 1, retains them while acquiring another 100 in Year 2, and retains all 200 while acquiring another 100 in Year 3. This business has a cumulative customer base [33:44:00].

Business B is far more valuable because time is on its side, and its growth is cumulative and less risky [34:09:00]. Investors value businesses based on factors like likelihood of success, effort, and time delay [34:34:00]. A business with high retention reduces risk and effort for an investor, making it more attractive.

The lifetime value (LTV) of a customer in a business with high retention can be immense. For example, Starbucks has an LTV per customer of $14,000 [35:38:00]. While the cost to acquire a coffee customer is low, their engineered model ensures repeat business (reoccurring customers), generating massive wealth [36:06:00].

The Tax-Free Growth of Enterprise Value

The magic of wealth alchemy lies in how permanent customers contribute to a business’s Enterprise Value (EV). For businesses with strong retention (e.g., B2B SaaS), EV is often valued as a multiple of annual recurring revenue (e.g., 10x Topline) [29:10:00].

Example:

• Cost to acquire a customer: $900 [28:32:00].
• Annual revenue per permanent customer: $1,200 [28:42:00].
• Enterprise Value multiple: 10x Topline.
• Thus, each permanent customer adds $12,000($1,200 x 10) to the business’s Enterprise Value [29:25:00].

The crucial insight is that this growth in Enterprise Value is tax-free until the business is sold [29:36:00]. By focusing on acquiring permanent customers, a business can spend $9milliontogenerate$12 million in annual revenue, which in turn creates $120 million in tax-free asset value [30:37:00]. This represents a massive arbitrage between the cost of acquiring permanent customers and the resulting Enterprise Value [31:33:00].

This explains why the wealthiest individuals often concentrate their investments in businesses and industries they understand well: they leverage this arbitrage to create more value for what they put in [31:54:00]. The key is to build something valuable and allow its growth to compound tax-free [40:10:00].

In summary, building and growing successful businesses involves:

1. Selling off value: Decoupling from price wars by enhancing dream outcome, reducing risk, time, and effort [37:58:00].
2. Accelerating cash conversion: Ensuring capital is not a limiter by structuring economics to generate cash upfront, financing customer acquisition with customer money [38:12:00].
3. Cultivating permanent customers: Focusing on retention to build a recurring revenue base that drives massive, tax-advantaged Enterprise Value growth [38:34:00].