Value Capture

How Alex Hormozi pivoted his business model

Jul 26, 2023

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McDonald’s is one of the most recognizable brands in American history – as iconic as apple pie and baseball, if you were born after the 60s. If I asked you to guess what makes McDonald’s its money, you might guess it’s the burgers or the brand value or its presence across the world. While all of these help, the company’s major source of revenue is something else. Before I reveal what it is, here’s another question:

Why was there no fast food chain like McDonald’s before?

It’s not that we lacked the infrastructure. While there were a few restaurants like White Castle in the 1920s, the major problem with scaling in the food business was quality control. You might be known for the best burgers and fries in town, but if you franchise to somebody else, there’s no guarantee that they’ll maintain quality. Loss of reputation is the surest way to kill a franchise.

But the McDonald brothers had developed a process called the “Speedee system” that had precise instructions for every step of making a burger in record time. They quality-tested and found the best recipe for their burger and stuck to it. When salesman Ray Kroc stumbled across their restaurant, he saw the potential for a chain of restaurants across America that would become a household name. The brothers were in.

Kroc started setting up franchisees with enterprising young families who leased their own land. His dream did start to come true… But there were problems.

Profit margins on the restaurants were slim and he had no cash flow to expand.
Franchisee partners started making their own changes to the McDonald's brand, and Kroc could not control them.

The solution came when a young man named Harry Sonneborn. approached Ray Kroc with a new business model. He suggested that Ray should buy the land on which McDonald’s outlets were built and lease them out to the franchisee partners. The cash flow would not come from the restaurant’s profits but rather from the lease that partners paid – and they would have complete control over quality because they could terminate the lease if standards were not met.

In a great scene from The Founder, a movie based on the McDonald’s story, Harry Sonneborn says to Ray Kroc:

“You don’t seem to realize what business you’re in… You’re not in the burger business, you’re in the real estate business. You don’t build an empire off a 1.4% cut of 15 cent hamburger. You build it by owning the land upon which that burger is cooked.”

That was the pivotal moment in the company’s fortunes – since then, real estate has been the major pillar of McDonald’s’ strategy with assets worth over $40 Billion and a yearly revenue of $9 Billion. Focusing on the right opportunity is incredibly important in business, and the decision can be difficult to make.

In a conversation with long-time friend and ‘100 Million Dollar Man’ Alex Hormozi, we discussed how he got his first break in business – and he went through not one but three such pivotal moments in his early career. Let’s dive into them and learn how he spotted those opportunities.

Pivot 1: Proven path to Uncertainty

Unlike a lot of entrepreneurs (including myself), Alex Hormozi doesn’t have a history of struggling in school. He was a great student, and graduated from Vanderbilt University in three years with plans to get into business school. When he was asked to give his reason for joining business school in the application, it caused him to pause and rethink: “Why would I spend $200,000 and two years of my life to learn about starting a business when I could use that time to get hands-on experience?” He didn’t find a convincing answer, so he decided to take the plunge.

Alex faced a lot of resistance at home for going off the beaten track, but his priorities were clear – He wanted to achieve financial independence early in life. If he took the “proven path” of business school and a job on Wall Street, it would take him a very long time to build the wealth he dreamed of. But there was a chance (not a guarantee) that he could achieve that goal in a much shorter time by owning a business. He decided to take that risk.

Alex thought of a few different options – A GMAT test prep business, a froyo store, and fitness. He decided that fitness was the best bet because he was passionate about it, so he called a Gym owner he admired in California who said that he could use some help. He drove from Baltimore to California the next day with $60,000 to his name.

Pivot 2: One gym to many

The gym owner in California was shocked to see Alex turn up at his doorstep after just a phone call, but he was impressed with his drive. He took on Alex as an apprentice right away and they started to grow the gym together. Alex learned some important things working there and then moved on to open a gym with a partner. His gym beat the competition because it had a different model.

Many gyms tried to attract customers by “selling their soul”, i.e with freebies and concessions. This might work in the short term, but customers care more about achieving their fitness goals in the long run. So Alex and his partner came up with some interesting offers:

They took cash upfront and promised money back if you lost 20 pounds.
In the duration of the fitness program, they sold customers products that covered the costs of the program even if they had to refund the money.
When customers hit their goals in the program, they were excited to keep going. Alex would give them an option: Did they want the money or did they want a free membership worth that money? Many customers chose the second because they were happy with the results.
He took Facebook Ads for better reach in a time when it was relatively new.

This sort of program also attracted the most committed customers who really wanted to improve their fitness. 78% of customers hit their goals, which is an incredible number in the fitness industry, and word of mouth spread, bringing in more cash for expansion. Unlike a lot of gyms which assumed that most customers would never show up, Alex wanted customers to see results. He relaxed on profits in the beginning to build trust and upsell products in the long run. It was a win-win.

Alex expanded to owning six gyms with the system that he perfected, and he thought that was the road ahead, to make his brand “America’s gym”. But then, he learned something that changed his mind.

Pivot 3: Building to mentoring

Alex was looking for the skill set that would help him take his business to the next level, and he attended an internet marketing mastermind by Russell Brunson to see what he could learn. When he arrived at the session, he realized that he was a misfit. Unlike Alex who was in a brick-and-mortar business, everyone in the room owned an online business. He wasn’t sure if the strategies taught there would work for him.

Alex went ahead and explained every step of his process to the other participants, and Russell Brunson said, “I don’t think you should be in the gym business.” Alex was crushed because he had high hopes from the session. Russell continued “I think you should be showing other people how to do exactly what you just talked through.” He then said something that changed Alex’s life:

“I think you have level ten skills in a level two opportunity. I think you should be building these businesses, not operating them.”

Alex trusted his judgment and changed the entire nature of his business. He sold all the gyms he had built painstakingly for a total of $300,000 and started helping other people open their gyms. He used the process he had perfected at his own gyms to acquire customers and take all the upfront cash that they paid. Then he licensed his system to the gym owners and the recurring business belonged to them.

But after a while, Alex noticed that a lot of his transactions started getting refunded and reversed. He had brought in customers for the gym owners but they did not use his system effectively to run the business, and customers started to leave. Alex had taken the risk and he was paying. So Alex made the gym owners another offer: He would teach them his entire system and process in addition to acquiring customers, but he would do it through a course. The gym owners agreed readily. This was the final pivot: Instead of going to each gym individually and training people on how to run their business, Alex built something that he could sell multiple times that provided great value. It took him a long time to perfect his process and to understand that the most value he could provide was by teaching his system and not by using it.

But recognizing that led to the creation of his courses and eventually to the birth of acquisitions.com.

Sometimes, we focus our efforts and allocate our capital to what we’re used to doing or what we find the most challenging because that seems like the most natural path for growth. But sometimes the most value is generated for others by solving a simple problem for them – and then you can capture that value with a unique business model. What generates the most value and how you capture that value need not be the same thing. This applies even if you’re working at a regular job.

None of this is supposed to be career advice though – it’s just a deep look at how Alex Hormozi approached his own decisions and the tradeoffs he made. Which insight did you find the most useful? Let me know in the comments.

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