Successful Founders Fixate on These 5 Numbers
I've worked with hundreds of startups and it is surprising how few of them can tell me when they will run out of money. Or how many customers they need to achieve to break-even. Lots of startups print out financial statements, look them over and assume they have their eyes on the numbers. But, in startups, the numbers that matter most are not the same as the numbers that established companies keep their eyes on. Here's why: Startups are in a race against time. Startups need to hit profitability before they run out of money. Or, they need to raise investment before they run out of money. In either case, founders need to predict, with data, the growth trajectory of their business and measure this against time.
Unfortunately, financial statements, including income statement, balance sheet, statement of cash flows and statement of retained earnings, are a snapshot of the current and past status of the business. As most startups don't have much of a financial history, these statements are not as useful to startups as they are to established firms. Instead, startups need to focus on the day to day and week by week numbers that, over time add up to a growth trajectory -- or not. Below are the top five numbers we teach in our accelerator.
1. Cost of customer acquisition or "CAC"
The cost of acquiring a customer tells you how many customers you can expect to acquire as a result of your marketing expenditures. This is important because you need to plan your marketing budget and predict revenues based on this budget. Also, tracking CAC can help identify which marketing channels are reaping you better results for less money.
To measure CAC you need to tally all of your marketing and sales expenses for a given period. Let's say in Q1 you spent $10,000 on social media ads, a part-time sales person and website design. If you gain 100 new customers from this $10,000 then your CAC is $100.
CAC is slightly more nuanced than this example in that some of your customers are hopefully repeat customers which means that you may spend $10,000 on marketing and sales and have 20 repeat customers and 100 new customers. In this case the CAC is actually lower: $83. This is why repeat customers are so important! And why the next number we'll look at is lifetime value of customer.
Key takeaway: Know your startup's CAC so you can predict future revenues and focus on the best marketing channels.
2. Lifetime value of customer or "LVC"
Repeat customers are the lifeblood of any business. As we saw above, repeat customers cost you less in marketing dollars. They also help you predict future revenue. That's why companies make an effort to keep existing customers happy and coming back. Calculating your LVC can be simple or complex; I suggest reading one of the many online resources detailing this calculation and its uses. Here's the most important aspect to keep in mind: In all likelihood, increasing repeat sales from existing customers will drive profits faster and at less cost to your business.
Key takeaway: Invest in repeat customers to increase profitability.
3. Sales cycle length
Determining how many days, weeks or months until you close a sale is essential to forecasting cash flows. In some situations, such as consulting to government agencies, sales can take 12 or 18 months to close. In others, like online shopping, the time elapsed between someone seeing an online ad to making a purchase may be only a matter of minutes. Generally, industries have norms you can find by talking with experienced sales people or doing online research.
Tracking your sales cycle, from first interaction with a potential customer to contract signed or purchase complete, can be done using a simple pen and paper or a sophisticated CRM. Keep in mind that just because you have closed a sale, you haven't necessarily been paid yet! Cash isn't flowing until it hits your account.
Key takeaway: Understand cycle length to predict cash flow timing more accurately. Try to close sales faster to shorten the cycle.
4. Sales conversation rate
We've all walked into a store, walked around and then left without buying anything. And most of us have put something in our online "shopping cart" only to get distracted, close that window and forget about the item we left in the cart. For startups short on time and money, increasing the percentage of people completing a purchase is paramount. To calculate your conversion rate simply divide number of completed sales by number of leads. Knowing your conversation rate also helps you understand how many leads you need to generate to reach your revenue goal.
For example, let's imagine you own a shoe store and have a monthly overall budget of $42,000. Assuming 100 people come in to the store each day, and 30 buy shoes, you have a 30 percent conversion rate. Assuming these 30 sales result in $1,500 each day for 28 days, you hit $42,000 in revenue. So, now you know you need 100 leads to walk through your front door every day to hit your monthly budget.
Key takeaway: Increase your sales conversion rate to make the most of your marketing dollars.
5. Burn rate
Startups are often spending more cash than they are bringing in. The difference, or negative cash flow, is your burn rate. If your company has revenue of $5,000 per month but is spending $10,000 per month then the burn rate is $5,000. While many people refer to burn rate when talking about venture capital backed companies, any startup needs to watch its negative cash flow to understand when it will run out of money. For example, if you have $50,000 in the bank from a bank loan, and your burn rate is $5,000, you will be out of cash in ten months. Knowing this can help predict when you might need to borrow more money or raise investment.
Key takeaway: Know your burn rate to predict cash flow needs.
Taking these five numbers together you can start to paint a pretty accurate picture of the future of your startup. It might take a few months for you to capture all the data you need to make the calculations outlined above. That's OK. But get started today. Whether you use a CRM, a spreadsheet, or a pen and paper, tracking sales cycles, leads and conversions, marketing ROI and burn rate will lay the foundation for your startup to scale as it hits its stride.