(before) Growth
Many of us are familiar with the Startup=Growth mantra. Companies taking on venture capital are expected to grow fast. Growing fast might mean many things. In the SaaS world the conventional wisdom is that revenue should grow at least double digit month over month. This comes as a surprise to many founders who just launched their product. Talking to this group about such a high growth rate is like asking a toddler to run a sprint.
Conventional wisdom is great in general, but somehow feels wrong when applied specifically. What if growth is actually a staged process. For every stage of development of your company, growth might mean a different thing. I spend most time around companies with zero to little above zero in MRR (Monthly Recurring Revenue). Challenges of these companies are very different from the ones being referred to in posts about growth. Founders listening to general advice might actually hurt their company and future growth.
Taking a portfolio view I am starting to see some patterns. Over the last 5 years I’ve invested in +20 early stage software companies. All of them B2B, serving SMBs and/or Enterprise clients. I have seen companies go from hundreds of $ in MRR to hundreds of thousands of $ in MRR. I have also seen what single digit month over month (MoM) growth feels like.
What is not so obvious at the beginning is how long and flat this ramp really is. Not understanding this will cost you a lot of money and probably kill your company. When I started investing in software companies I made the false assumption that this “GROWTH” part happens early on in the life of the company. I underestimated the length and steepness of the ramp. Companies that at first looked attractive and pitched good growth were rarely right on timing. In many cases it took much longer to reach set revenue milestones. Pitching good growth too early made the companies struggle along the line. Here are some key learnings.
Key Metric — building software companies has become more scientific than creative. There is a metric for everything now. Founders are tangled in measuring all the customer touchpoints. Benchmarking has become a must. General population of founders follows conventional wisdom.
Hardly anyone questions the status quo.
It resembles following a proven blueprint rather than running controlled experinments and learning. The building part has become a caricature. Founders obsess about pleasing VCs with the latest stats. Much of the process has become automated with the “thinking button” turned off. Slowing down in the race might actually allow you to run faster.
Before you start thinking about growth ask yourself what is the one metric that you want to grow — your North Star. For most founders it is a puzzling question. They track tens of metrics, without a clear understanding which ONE really matters. SaaS can be misleading in this regard. MRR is so obvious that it is hard to move pass it.
What if MRR is just the by-product?
In trying to find you core metric you need to understand the behaviour of your customers. What makes them allocate a budget to your product? If you don’t know the answer, you are not ready. Every software business might have a different core metric. This metric comes from a combination of market, segment, process, job-to-do, and many other factors. Don’t be fooled by the simplicity of MRR. There is more to understanding your customers than revenue.
Churn rate — in the software business customer retention is crucial. This is especially true for SaaS. Why? You pay to acquire customers upfront but payback that cost over long periods of time. The relationship between CAC (Customer Acquisition Cost) and LTV (Life Time Value) is fundamental to the business model of your company.
What should be the relation between CAC and LTV?
Obviously you should spend less to acquire than you are able to payback over the lifetime of your client. The problem is in estimating these variables. CAC might be easier. LTV is tricky. When you start selling a lot of time will pass before you are able to figure it out. That is why it is probably more important to focus on Churn than MRR. If you grow slower but have negative churn you might survive. If you grow fast, but your churn is high, your business will eventually die.
There are also many conventional wisdoms on churn. Less than 5% is good, more is bad. Why was the equilibrium set to 5%? After 5 years in the business I still don’t know the answer. I prefer products where the only reason for customer churn is bankruptcy. Business customers tend to be very loyal. Once they are happy with a product it is difficult to convert them to something else. Why? Because else doesn’t mean better. In many software markets is it extremely hard to find competing products which are 10x better. So why do customers churn? This is something you need to learn over time. If churn is not your focus early on, it will be hard to find the answer.
Quantitative/Qualitative feedback — a common advice among mentors is that founders should get out of the building and talk to customers. On the contrary, customers don’t know what they want. It is challenging to find the right balance between product leadership and market analysis. One way this can be “hacked” is by implementing a process to gather feedback. This feedback should come naturally from what your customers do or don’t do. Data gathered with this process might be helpful in making the right decisions.
There is a spectrum of tools that can support this process. From the simplest NPS (Net Promoter Score) surveys, to the most advanced onsite analytics. You should build a stack that can deliver actionable insights. Beware of toolset overdose. Check daily how you or your team interacts with the data. Ask honest questions. When and what was the last customer insight you acted on. Avoid relying entirely on quantitative data. Just because someone is logging in doesn’t mean he is getting value from your product. Customer feedback loops should help you better understand the reasons for churn.
Financial discipline — people in general hate numbers and spreadsheets. Maybe that explains why so many startups fail.
Unless you are running your company like a charity, you have to fall in love with numbers.
In the early days of your company there is no need for financial complexity. You make software. Your goal is to sell it. Your cashflow should reflect that. Basic financial discipline should help you understand the dynamics of your business model. Build a reporting spreadsheet that reflects the nature of your business. Be scrupulous at recording key financial data. It should help you answer the most basic money related questions:
a) how much money flows in every month
b) how much do you spend
c) how much is left in the bank
d) when will you run out of money
e) under what conditions will the company break even.
Count only real money. If it is not booked on your bank account it can’t cover your costs. This basic financial discipline will help you plan investments, hires, fundraising. Your future estimates should determine what you need to do each month to achieve your financial milestones. There is contradicting advice on profitability vs growth. Choose carefully as each path has its own pros and cons.
Remember, you can grow fast and bankrupt. Much harder to do with slower growth while being profitable.
Who should be responsible for this financial discipline? I belive that in small companies it is the CEOs job. No matter who you choose, always have one person to hold accountable.
Sales & Marketing— so far I haven’t seen a startup that failed because it couldn’t deliver a product. What I do see frequently is teams struggling to makes a sale. Sales & Marketing is not equal across products. Selling to SMBs is much different from selling to the Enterprise. Much has been written about the process. Founders again follow blueprints instead of learning how Sales & Marketing should work in their case.
What I have learned so far is that without knowing your customer you will not get far in sales. When you are small it is hard to sell to everyone. You need focus to best optimize your resources and skills. Test various segments to find out which one works best for you, at least at the beginning. Test the different channels to find out which one converts the best — there are only that many of them. There is no point in thinking about growth if you can’t find at least one process and channel that is predictable and scalable.
Before GROWTH happens there are many things that can kill your company. The ones described above are subjective to my portfolio and experience. When your company is small don’t stress about growth. Focus on the baby steps and prepare.
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If you are a founder of a software company with less than 100k in MRR, talk to me. I’m happy to brainstorm together and help you reach that milestone. You can reach me at marcin.szelag @ innovationnest.co
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