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Megan Prats
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I am a self-educated and passionate equity investor. I began my financial journey when I opened my portfolio in May 2009 and began investing in equities. I have been actively managing my portfolio ever since and I have utterly enjoyed the experience. I now consider myself a value investor. I... More
My company:
Megan Prats Lessons
  • Why To Avoid Investing In A Company Like My Drum Set Lesson Business (Reason #1)

    Reason #1 - Severely Limited Demand

    In December 2011, I decided to combine my musical talents with my entrepreneurial passion and start a drum set lesson business. I started my drum set lesson business because my conscious told me to and it has been one of the most personally rewarding, educational, and stressful experiences of my life.

    However, despite the emotional fulfillment that the business has brought me, running my business makes me sad at times because I know, deep down inside, that the economics surrounding my drum set lesson business is anything but promising. Thus, if I approached my drum set lesson business as I would investing in a publicly traded firm, I would not touch it for many reasons, and the reason I will discuss today is the severely limited demand for personal drum set instruction.

    Being an intelligent investor sometimes means removing yourself from the minutia of investment decisions and making an investment based on broad, simple, economic elements because in reality, 60% of the success or failure of a business is based on three variables - Supply, Demand, and Competition. Thus, if there is a problem in your business model with one of the three aforementioned variables you will have a tough time growing your business into anything substantial.

    On the demand side of a business, you'd like to see a business that services a need that EVERYONE has. As you can see in the chart below, the largest firms per market capitalization are those in the technology, energy, and retail industries because EVERYONE has a demand for: 1) technology since technology allows people to work less; 2) energy since energy powers their technology, and 3) retail since people need to buy goods in order to survive.

    Fortune 500 - Largest Companies Per Market Capitalization

    Rank

    Company

    3/29/2012

    ($ millions)

    1

    Apple

    568,615.1

    2

    Exxon Mobil

    405,714.1

    3

    Microsoft

    269,511.6

    4

    International Business Machines

    241,314.5

    5

    Chevron

    211,238.9

    6

    General Electric

    211,096.1

    7

    Google

    210,835.0

    8

    Wal-Mart Stores

    207,064.0

    Thus, there is no economic coincidence that the companies at the top of the list are in the technology, energy, and retail sectors since Demand is working heavily in their favor.

    Unfortunately, my drum set lesson business will likely never sit amongst Apple (AAPL) and Walmart (WMT) on Fortune 500's Largest Companies Per Market Capitalization List since unlike Apple and Walmart products, practically no one has a demand for drum set instruction.

    Idealistically speaking, demand for my drum set lesson services would span the entire globe. If EVERYONE demanded my services, I would have access to a market of around 7 billion people and $ 63.257 trillion. Therefore, all I would need to do is capture about .01% of the market to make it onto the Forbe's Billionaires list. However, realistically speaking, the demand for my drum set lesson services is depressing.

    First, demand for my services is limited to those who speak English and Spanish because I'm fluent in only two languages. Thus, my market has just shrunk about 90% to 630 million people. Second, of the 630 million people, only about 10% of them play a musical instrument thus my market is now 63 million people. Third, of the 63 million people, only about 2% of them play the drum set, thus my market is now down to 1.26 million people. Fourth, not all of the 1.26 million people who play the drums in my market will demand drum set lessons because maybe they are already a professional drummer or maybe they are self-taught, etc. Therefore, of the 1.26 million people, my guess would be about 30% will want to further their musical skills with extra drum set instruction, thus my market is now 378,000 people. Fifth, we have to consider geographical constraints because even though I do offer drum set lessons on Skype and thus could potentially reach all of the 378,000 people, most consumers will choose to have an in person lesson over one online one if the price for the service is comparable because of the technological issues of educating live online. So out of the 378,000 people, my estimate would be that at most, 1 % of them live within driving distance of my drum set lesson locations hence my market is now 3,780 people.

    If a market of 3,780 people doesn't make your economic heart sink, we can actually shrink that number even further after considering competing demands. When we factor competing demand into the equation (i.e. demand to generate an income for adult drum set students and demand for academic tutoring for young drum set students etc.), our number shrinks even more since drum set lessons are normally pursued as a hobby outside of more necessary activities and thus will not be chosen above the others (unless, of course, you make the drum set your career). Hence, we can estimate that consumers will choose to satisfy other, more important, demands about 70% of the time, which means that we can shrink the number to 1,134 people.

    Because Apple was able to sell 20.34 million iPhones in the third quarter of 2011 alone and this is only one of the many products that they offer, my 1,134 person market severely diminishes my chances of sitting amongst Apple and Walmart at the top of Fortune 500's Largest Companies Per Market Capitalization List because lack of demand seriously hinders the ability that a company can grow to substantial proportions, much less gargantuan ones. Thus, if I were an equity investor looking at the demand aspect of my drum set lesson business, I would not invest in it and I would highly recommend that any investor avoid investing in any firm whose demand outlook is as glim as my business's.

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

    Jun 20 5:06 PM | Link | Comment!
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