Portfolio theory for entrepreneurs: building a resilient small business


Thirty years ago, I completed my MBA in Finance at Georgia State University. As a math/computer science undergraduate, it seemed logical for me to extend my learning to know more about how to apply my love of numbers to the practical concerns of business management and finance. A big part of our curriculum focused on Modern Portfolio Theory (MPT). I know most of you reading this article are familiar with the term “portfolio,” and many of you have your own investment portfolio. The same principles that apply to how you (or your financial advisor) manage your money also apply to business management. Indeed, the concepts of portfolio management have served as a framework for my own business strategies. Before I explain how I make business decisions using these concepts, indulge me in a quick history lesson to give this article some context.

My MBA graduation from GSU in December 1993. On the left, my future wife Mary Catherine (Mercer) Domaleski. On the right, my future mother-in-law George Ann Mercer (now deceased). Photo/Joe Domaleski
My MBA graduation from GSU in December 1993. On the left, my future wife Mary Catherine (Mercer) Domaleski. On the right, my future mother-in-law George Ann Mercer (now deceased). Photo/Joe Domaleski

In 1952, a young economist named Harry Markowitz decided to apply mathematics to risk analysis and wrote a dissertation entitled “Portfolio Selection” (Markowitz, H.M. (March 1952). “Portfolio Selection”. The Journal of Finance. 7 (1): 77–91). His dissertation would later become known as Modern Portfolio Theory (MPT), which is still used today. MPT introduced the revolutionary concept of diversification. Markowitz did the math and showed how investors could get a more favorable risk-return trade-off by diversifying their investments across different classes of assets and investments. Although it seems obvious to the modern investor, back then it was revolutionary, and the idea of diversification would later help Markowitz earn the 1990 Nobel Prize in Economics. Professor Markowitz passed away in June 2023 at the age of 95.

Hopefully the following assertion is obvious and self-evident:

Most people seek to maximize reward and minimize risk.

An economist might say that a rational person strives to maximize their utility (or reward) for a given level of risk (or danger). Much of economic and financial theory is still based upon that premise, although we all know of people for whom the “rational” qualifier doesn’t apply. In simpler terms, your Grandma might say, “Don’t put all of your eggs in one basket.” Whether I’m counting eggs in my basket, or variance and standard deviation of cash flow streams, the advice is sound and can apply to many areas of business strategy. Here are some areas I use MPT to build a resilient business (these equally apply to non-profit organizations):

Product and service offerings

Over the years, I’ve adjusted both the breadth and depth of the services we provide our customers. Initially, our company focused mostly on web design and technical support services. As systems “moved to the cloud,” we made the shift to focus more on creative services. That led to our rebranding as Country Fried Creative in 2012 and eventual expansion into marketing services. As a team, we’re constantly evaluating the risk and return of our portfolio of service offerings. Should we offer a breadth of services useful to our clients, or should we narrow our offerings and focus on being specialists in a select few? The internal debate continues as we strive to ensure we can minimize risk to ourselves (and clients) and maximize returns for our clients (and our firm).

Pricing mix

The general guidance for most Business-to-Business (B2B) service providers is to narrowly focus on a niche that targets high-end firms and price high accordingly (i.e., “the exclusive, boutique marketing agency”). There’s no denying the satisfaction of a big payday to a small company like mine when a “Golden Goose” account plops down a large sum of money to fund a prestigious project. We’ve had a few of those over the years, and it’s a great feeling. On the other hand, those types of accounts are very rare and normally don’t last forever. What about the smaller, more price-conscious clients?

Since our inception, we’ve tended to work with anyone who was reasonable, including one-person startups. I feel strongly that a business that claims to support local business should support businesses (and non-profits) of all sizes by offering different pricing models. There’s considerable risk in working with clients that are not well-funded. Having a diversified portfolio of pricing models equips us to service a broader range of clients and insulates us from the risk of market downturns from any one specific market sector.

Geographical diversity

As a local business, we’re unabashedly focused primarily on serving Fayette and Coweta counties. It’s our home base. We live in the area, and our business is located in the area. Have we saturated the local market? Should we explore other geographical territories? I’ve done business in this same area for 20 years and have seen clients come and go (and sometimes come back again). As a digital marketing agency, we obviously have the know-how to project a presence anywhere we like – but should we? Again, the principles of risk/return help us make these decisions.

Selection of target markets

Should our target markets be horizontal or vertical? In other words, should we target a few niche industries, or should we serve a broad range of industries? I don’t have a definitive answer to that question. Many in my industry focus on a few vertical markets and only serve those markets. Certainly, a case can be made that it allows a prospective client to feel like they’re getting industry-specific advice. On the surface level, it would seem that approach would allow a firm the opportunity to develop specialty knowledge applicable to a specific industry. Oftentimes, the service provider is merely targeting an industry to create that perception. Whether that’s true or not, the client normally finds out in the end.

Frankly, 80% of marketing is the same regardless of industry, and the other 20% is unique to a wide variety of factors, including the size of the client firm, geography, internal knowledge, and of course, industry. Thus far, we’ve opted to maintain a general focus based more on geography. Over the years, we have developed considerable niche expertise, such as non-profit marketing (my favorite), service business marketing (which we have successfully used on our own company), and local retail marketing (because we can see first-hand how that works in our community).

Serving a broad range of industries insulates us from the risk associated with market downturns in specific industries. I also think it makes us better marketers. Ideas that work well in one industry often translate to good ideas in another. Specialty firms certainly have an easier time scaling their business because once they nail down the formula, they just resell it to other companies in the same industry. On the other hand, then you start to see the same logos, marketing slogans, pop-up ads, and AI-generated content permeate through a specific industry. Would you rather make a statement with bespoke, hand-crafted marketing, or do you want the same cookie-cutter approach that everyone else in your industry is using? Ultimately, the decision is up to the client on what image they want to project, the results they hope to obtain, and the manner in which they want to conduct business.

Evaluation of partnerships and tools

A big part of our business is the use of partnerships and tools to help us better serve customers. We work with a number of firms to provide specialty services that we don’t do in-house with our full-time staff. Having expert referral partners ensures that we can provide high-quality services when needed, without being encumbered financially with maintaining an infrequently needed skill set. Business partners come in all sizes, from one-man videographers to large companies that provide specialty print services. It minimizes our risk by having options.

The same applies to the software tools we use. Our company uses several best-in-class systems to help us manage communications, projects, sales, financials, and marketing campaigns. One school of thought is to use a single agency management software system, but systems like that often don’t have the depth of functionality we need, and what if they go down? Having several ways to communicate and conduct business ensures a degree of continuity and resilience. On the other hand, there is some business friction when our various federated software systems don’t integrate completely and require duplication of effort. How to best equip our marketing agency is an ongoing internal debate which we periodically review based on risk/return.

Human resources and team diversification

I’ve saved the best and most important for last – people. I am not an HR expert, but I do have over 20 years of business ownership experience, and that should afford me the opportunity to weigh in on a controversial topic. Contrary to what many are saying, I believe that Diversity, Equity, and Inclusion (DEI) works in most cases. It certainly has for my company. DEI is literally the application of portfolio theory in the realm of human resources. This isn’t a political article, nor am I going to make a political case about it, so I’ll appeal to common sense.

As a middle-aged white man, my company is much better off because our team is diversified in terms of age, gender, personal beliefs, and socio-economic background. It allows us to be better creative and marketing professionals. You probably don’t want me giving you advice about TikTok marketing strategies, but I have some smart young people who can. On the other hand, with my training and experiences, I’m probably better equipped than our younger staff to review marketing analytics with a client. Having a diversified team that has equitable say on client projects and includes their creative ideas helps ensure that we’re putting the best ideas forward – regardless of company rank. I don’t think a company can be successful if everyone looks the same and thinks the same. DEI helps foster innovation and growth.

CFC Digital Marketing Coordinator Christina Colantonio leads a discussion about target markets during a company strategy session at Trilith. Photo/Joe Domaleski
CFC Digital Marketing Coordinator Christina Colantonio leads a discussion about target markets during a company strategy session at Trilith. Photo/Joe Domaleski

How to apply MPT to small business strategy

The ways in which MPT can be applied to business strategy and decision-making are more extensive than what’s outlined above, but this is a newspaper article and not a business textbook. Let’s turn our attention to HOW one might apply MPT to business strategy. There’s a wealth of statistics and measures one could use with regard to MPT evaluation. For simplicity, we’ll focus on three measures and save the mathematics of ROI (Return on Investment), Risk (Standard deviation), and Probability (likelihood) for another time. For now, we’re going to focus on the general concepts of application. Here’s how I evaluate my business portfolio with the aim of maximizing value (for the firm and client), minimizing risk (for the firm and client), and establishing resilience (for the firm and client).

  1. ROI – in general, most business decisions should be weighed in terms of expected profitability. With the exception of a “loss leader,” most businesses aim to at least recoup their investments (aka break-even) and preferably generate some kind of profit. Sometimes the timeframe is short (need to generate a profit in 90 days) and sometimes the timeframe is longer (a year or more). Internal cost analysis can be used to determine break-even. For a small business or non-profit, the expected return is usually based on industry norms, personal experience, or the experiences of others who’ve done similar things. There is a science to it, but it’s also an art. I’ll be honest here, sometimes you won’t know until you try. Fail quickly, learn, and adjust.
  2. Risk – this isn’t always a bad thing. There could be the risk of failing and losing money, but there’s also a risk of being too successful and not being able to meet increased demand. A start-up business will rely more on industry norms and projections based on those norms. If you try to get a business loan, the bank will be glad to tell you what they think those norms are. A mature business is likely to have a good natural sense of the risk based on past experiences, industry knowledge, and observations from competitors and potential customers. Personally, I think the biggest risk most businesses incur is the risk of “do nothing.” It’s easier to course correct a small error than it is to sit still and miss out. Many of us in the business community are seeing that right now at the start of 2024. There’s a lot of pent-up demand that just isn’t translating into economic activity for small businesses. My answer to that is, “What are you waiting for?” Remember, Fortune favors the bold.
  3. Probability – this is the likelihood that something is going to happen. In a few of my previous articles (like this one), I’ve mentioned my general strategy of considering three probabilities before making a decision: best-case (what’s the best that can happen?), worst-case (what’s the worst that can happen?), and the probable case (what’s likely to happen?). Although one might quantify the probabilities using statistics, for a small business it’s often a personal judgment call.

For a large company, the application of MPT to develop a strategic business portfolio is pretty much standard practice and tends to be very analytical and data-driven. Artificial Intelligence (AI), Machine Learning (ML), Data Science, and Statistics can be used to crunch through a lot of data and help in decision-making. In fact, I learned how to do that 30 years ago as an MBA student – we had all of those things back then (although the AI focus was mostly on expert systems and not the newer neural network approach). Even in 1952, Markowitz based his whole theory of portfolio diversification on math and statistics.

For my small business and non-profit colleagues who may not have all the data, it’s still okay to be data-inspired even if you don’t have enough information to be rigorously data-driven. Without really thinking about MPT, younger people do this naturally when they diversify their own income stream with side hustles that have little risk, but an opportunity for a reward. Integrating the principles of Modern Portfolio Theory (MPT) into small business (and non-profit) management can help entrepreneurs systematically evaluate options and make decisions to be more resilient. Not only that, but you can use MPT to help you evaluate personal decisions outside of the office.

Whether you’re considering product/service offerings, pricing, location, target market, tools & resources, or human resources, it just makes good business sense to diversify. Doing so will give your organization a better chance of handling the up and down challenges of business growth and sustainability. We’re doing that right now as we consider how to best serve cash-strapped businesses in our local Fayette and Coweta markets (and there’s plenty of them). Considering specific factors such as ROI, Risk, and Probability will help you quantify decision-making criteria so you can objectively maximize value and minimize risk to your firm and your clients.

Now that you have some insight into how you might apply portfolio management concepts to your own business, it’s your turn. What big decisions or changes are you thinking about trying out this year? Just remember, being a leader is more than numbers. Consider leadership thats based on a heads, hands, and heart approach.  Portfolio theory can help you with the brain work, but don’t forget to have a heart – that’s what makes you and your organization special!

[Joe Domaleski, a Fayette County resident for 25 years, is the owner of Country Fried Creative – an award-winning digital marketing agency located in Peachtree City. His company was the Fayette Chamber’s 2021 Small Business of the Year.  Joe is a husband, father of three grown children, and proud Army veteran.  He has an MBA from Georgia State University and enjoys sharing his perspectives drawing from thirty years of business leadership experience. Sign up for the Country Fried Creative newsletter to get marketing and business articles directly in your inbox. ]