I was recently sent an email from a colleague:
Hi Joseph,
Would you agree with this list of “metrics that matter” to VCs considering investing in a startup? Would you add or remove any?
After reading Tomasz’ post, I found myself frustrated with the article and the recommendations, and I figured it would be more useful to provide an entrepreneur’s counter-point to his blog post than to simply fire off a yes/no answer.
In short, I think he’s is confounding “review in a board meeting” vs. “review for investment”. I submit that they are very different mind-sets, with some overlap, and trying to present them in a single list confuses things. Also, he hasn’t specified what stage the company is – “pre-product-market-fit” is very different from “post-product-market-fit”, which also messes things up. Finally he also isn’t differentiating industry or go-to-market strategy, which seems like a horrible over-sight. I wouldn’t recommend using his list as-is.
Here are my thoughts, in the same order of his original list:
- Revenue Growth
I’m assuming he means “growth rate”, which is relevant only really when you’re raising money, and only ever once your company is past the product-market-fit stage. It’s a measure of potential, but only if the company understands and is executing on it’s sales model – which rarely happens at the Seed or Series A stage in the start-up lifecycle. I would’t be looking at this, except to gauge how quickly and how large the entrepreneurs want to build their company.The exceptions to this, are if you’re looking at a media company (where the purchases happen more quickly and are more transactional) or if you’re in a consumer company (e.g. snapchat or vine) in which case user growth rate (not revenue growth) matters most. Either way, “Revenue Growth” is a distraction and hides the really core metric in the early stages. - Net Income
This is largely irrelevant. Income matters from an accounting perspective. but what you’ll really care about in the early-stage is cash and your burn rate. Tomasz’ mentions that the net income is a driver of how much cash needs to be raised, when really what matters is how fast you’re killing your cash pile and how big it is. - Gross Margin
This is just too industry-dependent. It’s relevant only if it’s hardware, services, or license based software. If it’s SaaS or something in ad-tech, this is irrelevant. There are inconsistent methods for attributing different costs (e.g are “support” and “engineering” part of the cost of goods or not?) and it can be fudged too easily. When your business can portray gross margins > 80% without much effort, it has no real relevance in a board meeting or investment discussion. At early stage, the only company where this might matter is if you’re in a distribution company where margin matters (e.g. e-commerce or some type of new wholesaler model). - Contribution Margin
Again, irrelevant until you have significant scale, and aren’t really a “start-up”. Yes, you need to have solid unit economics (i.e. selling a unit of your product actually makes you money) but that doesn’t mean it warrants a place on your dashboard for your board meetings. If your unit economics are precarious enough that they require that level of vigilance, then you probably have larger problem with your model. - Customer Payback Period
This is an absolute must if your sales model is a subscription one. It’s often inverted and portrayed as Months to Recover CAC (Customer Acquisition Cost) as well. This is a core piece of understanding your unit economics (above). - Churn
On one hand. he’s right. This is extremely import important. He’s wrong, however, about a 3% monthly churn being normal… in a B2B SaaS company, for example, 3% monthly is abysmal and I only see it in poorly-optimized startups. Public companies in B2B SaaS are closer to 3%-5% annually. If you were running a 3% Churn monthly, that means you need to replace 30%-50% of your customers *every year* just to maintain your business’s size. Scaling with that type of churn is extremely difficult. - Salary
This is also irrelevant. You need to keep an eye on your over-all burn, and if you’re worried about where you are allocating your money, that’s part of a financial review and isn’t part of a board-meeting dashboard. If you are watching salary because you care about retention, then measure staff engagement or turn-over… salary is a straw-man and not a good metric. It’s good to let the board know of any significant changes month-over-month, but is definitely a second-string metric. - Sales Quotas
These are good to know, but that’s an assumption of your model, not a metric to measure. You can look at this once and get it, you don’t need to review every board meeting (i.e. look at it when investing, but don’t watch at a board meeting). A better metric is sales attainment in the last quarter, or ramp-up period by cohort (how long till a sales rep is productive). With these metrics you’re then measuring the efficacy of your sales team. Sales Quota is just a dynamic of your model, and doesn’t give you any insights. - Non-Personal Marketing
This is often referred to as “unloaded marketing spend” and is only useful if you’re also measure Marketing including Personnel (aka “fully-loaded marketing spend”). It’s good to measure, since it should be benchmarked against your CAC, and how much you plan to grow…this is the best way to measure whether or not you are investing in your growth. For example, if you need to double your monthly sales 12 months from now, with a 3-month close period, you need to then double-your leads in 9 months, and if it’s typically 2 months from first-impression-to-lead, then you need to double your unloaded marketing spend in 7 months. With this information, you can compare your growth targets for the future against your unloaded marketing spend now. Another way to think of this spend is as a “variable marketing spend” – since it’s directly correlated to the top of your sales funnel, and it can be relatively ratcheted up and down, it’s the lever you can move the most in your sales and marketing planning. - Revenue per Employee
This is is only relevant at scale. In the early-days it is absolutely irrelevant since your denominator (# of employees) changes so drastically. When you move from 10 employees to 12 employees, you’ve just hit your staff count by 20%, but if they were engineers they aren’t likely to ramp your sales by that same volume. A better metric is total covered-quota: the total amount of sales that you would generate if each sales rep hit 100% of their quota.
Over all, Tomasz’ original list was a bit of a distraction – if a VC asked for this slate of metrics as part of my pitch deck or board deck, and I was earlier than a Series B, I’d be seriously surprised. Another way to put it – if any of our investors had asked for this specific list during our previous rounds at TribeHR, I wouldn’t have worked with them.
In a future post I’ll include a sanitized version of the metrics and slides we used in our board meetings at TribeHR during the first two years.
When hiring our first executive, I was fortunate enough to have extremely detailed market data for the new role in addition to the extensive experience offered by our investors. Because of this, it was a fairly academic exercise to place boundary conditions on the three compensation components: base salary, bonus, and equity. As you design compensation packages, an increase in one component typically implies a decrease in the others – as CEO you need to balance the mix such that the executive is fairly compensated, but the package is sustainable for the company. What you might not be prepared for, however, is how different candidate reactions and motivations might affect your impression of the candidate.
