You are what you measure — Choose wisely.
“What gets measured gets managed.” <<Peter Drucker>>
Key Performance Indicators (also called performance metrics) are one of the most over-used and little understood terms in the entrepreneurial ecosystem. Within the past years I’ve seen hundreds of startups, using all kinds of commonly known KPIs, as well as fairytail-like ones. KPIs are a central part of our VC investment analysis, illustrating health and promise of a particular company.
Nonetheless, KPIs aren’t about raising money from VCs — they should rather be understood as guiding metrics, which help entrepreneurs understand how they are doing against their objectives, enabling them to take action in achieving the desired outcome. Still, metrics without context are useless, outstanding entrepreneurs master the art of effective measurement of core KPIs at the right stage of growth, similar to key VC measures.
Lean Analytics by Alistair Croll and Benjamin Yoskovitz even refer to “The one Metric that Matters”, its not the quantity — obviously. “By knowing the business you’re operating in and the stage you’re at you can track & optimize the metric that matters to your business at that stage. This can help overcome risks and avoid premature growth.” Start by sorting your KPIs based on the business model you are operating and identify the driving metrics and track them!
The actual KPI challenge
KPIs are a crucial strategy execution component, just choosing certain metrics worth measuring because they seem to look good, doesn’t do the trick.
Poor KPI implementation, development, as well as tracking are on an equal footing with poor leadership, dooming startups to fail. Not measuring core metrics is like flying a Boing 747 blind into a hailstorm, aiming to land on a postage stamp sized airstrip at night — Good luck on that!
Lets highlight the five common mistakes, in order to have you prevent them in the future.
Too many KPIs are rather distracting, at the very best you should focus on one or two core metrics and three to four supporting ones. For every KPI set above, there is an increasing risk of unintended consequences — due to lack of engagement.
Relevance is the key “There is no value in tracking speed, if you are going the wrong direction.” KPIs should be derived from strategic objectives, which can of course change over time. You should focus on measuring the outcomes — not the means.
Recurrence is king, you should generally avoid KPIs which can’t be measured frequently. Aside of the fact that metrics should be backed by reliable data, they have to have the ability to show a certain development over time.
Accurate measurement, if you can’t measure and structure your data precisely — its worthless. It shouldn’t take a month to collect your data, always aim for efficiency, otherwise redesign your KPI dashboard or ERP system.
Leading Vs. lagging, lagging metrics trail behind reality, offering a historical view of facts (e.g. turnover). Leading KPIs on the other hand predict the future before lagging metrics show the actual results (e.g. customer satisfaction before loyalty). A balanced mix will lead to a serious corrective ability.
But keep in mind, performance metrics are just indicators, no actions. A hard look at your data can help you identify the problem — the best practice to fix it has to be derived by you! At the end of the day the underlying behavioural change matters, this is what you have to transform into a long-term effect.
CBR GMV LTV CAGR ARR (Spoiler: Not a Pirates Arr!)
Aside of the classic things VCs like to see, such as a sufficient addressable market (>US$ 1bn), a strong USP and/or a competitive edge, an outstanding management team and of course a clear exit strategy — we are simply in love with the idea of entrepreneurs being able to back up whatever they tell us with metrics and solid evidence (wrapped in sexy abbreviations — of course).
Maybe we start with some holistic KPIs, which are broadly applicable for a vast range of startups. I will lineout my ultimate metrics, to not overwhelm you.
The monthly Cash Burn Rate (CBR) is in simple words the net amount of cash flow, when net cash flow is negative. The CBR should neither be too high nor to low — balance is king. You should always keep an eye on the Zero Cash Runway (ZCR) in the context of the CBR, the ZCR tells you when you run out of cash, based on your liquidity and CBR.
The Compound Annual Growth Rate (CAGR) is a frequently used term. The CAGR is basically a measure of growth over multiple time periods (CAGR = (Ending Value / Beginning Value)¹/n -1), VCs prefer this KPI over the average annual growth rate, which doesn’t accurately reflect the reality.
Customer Acquisition Cost (CAC) is the average amount of money you spend on sales, marketing and related expenses, in order to acquire a new customer. It’s much more meaningful, once combined with the Customer Lifetime Value (CLV), which measures the average net value a customer will bring to your company, over the estimated relationship with your company.
Sales Funnel Conversion Rate (SFCR), leads are passing through the sales funnel step by step, the SFCR describes the conversion rates of the customer journey, this metric can be used to identify problems in the sales cycle and improve your CAC.
Revenue Run Rate (RRR). This metric is mostly used in early stage startups, it annualizes monthly revenues, more or less in a linear extrapolation to predict revenues for the next 12 to 24 month (to be assessed with reasonable care, especially for seasonable businesses).
Gross Merchandise Volume (GMV) is an overall Dollar value of sales of goods or services purchased on marketplaces. Though, in this case the so called Take Rate is more relevant, as it refers to the percentage of the value of the transactions they get to keep as a revenue.
Last but not least, the Profit Margin expresses the actual percentage of how much you sell your goods for, above your actual Cost of Goods Sold (COGS). It reveals the mark-up and grants a significant understanding of the scalability and sustainability of a company.
Lets take a closer look at some specific SaaS KPIs, to add some flesh to the bone.
The SaaS industry has experienced exponential growth over the past decade, without any indication of decline. SaaS companies are facing a fairly unique set of challenges in order to stand out — especially when it comes to market their product / service.
Therefore, they need to pay ultra close attention to their metrics, focussing on attracting new customers at a reasonable CAC, retaining them to extend the LTV and generate recurring revenues — there is one article on Techcrunch I would recommend you to read “The SaaS Adventure”.
You can cluster the driving SaaS metrics into Product (e.g. DAU, MAA, Net Retention, Net Promoter Score etc.), Growth (e.g. MRR Growth, Monthly Account Growth, Rule of 40, Churn etc.) and Efficiency (e.g. LTV:CAC, Quick Ratio, Cross Margin etc.) metrics. Lets take a look at some of them.
Net Monthly Recurring Revenue (MRR) are referring to the monthly value of newly acquired accounts / customers and the monthly value to current accounts, deducted by the value lost from reduced or closed accounts. The MRR term can even be extended to New MRR, Expansion MRR, Reduction MRR and Loss MRR (for the ones who want to dig deeper). This KPI goes hand in hand with Annual Recurring Revenues (ARR).
Net Promoter Score (NPS) measures the customer base willing to promote your product / service to others. The scores are based on a survey, usually with ratings from 1–10 (Promoters >8, Neutrals >=7, Detractors <=6). The NPS is calculated by subtracting the promoters & neutrals from the detractors. The higher the number, the better — apparently.
The Quick Ratio grants an immediate view on the SaaS growth efficiency. It basically shows the ratio of revenue gains and revenue losses. In other words, the quick ratio helps you to assess your customer acquisition effectiveness compared to your retention success / low churn rate. You may calculate the Quick Ratio the following way: QR = (New MRR + Expansion MRR) / Churn MRR. The QR should be ranging around 4 to be considerer healthy and attractive vor an investor.
Customer Churn Rate (CCR, also called Customer Attrition Rate) is a critical one. It measures the rate a subscription based company is losing its customers / accounts, due to cancellation or non-renewal. Keep in mind that retaining a customer is cheaper than attaining a new one and we are talking about big bucks, when it comes to recurring revenue models.
The Rule of 40% for a healthy (SaaS) startup is super simple, but effective. Your growth rate plus your profit should add up to 40% (e.g. if you are growing by 10% your profit should be 30%, if you are growing by 40% its ok to have 0% profit, if you are growing by 60% you may lose 20%). For the growth figure you may take MRR or ARR. The profit part is tricky though, as you could use EBITDA, Operating Income, Net Income or your Free Cash Flow.
What are my key takeaways?
Well, to conclude on the written above. KPIs are a crucial success factor, you should rather implement and use them to improve your business and your company metrics, instead of hunting them just to attract VCs or funding in general.
Tailor your KPIs, based on your stage, your business model and the industry you are operating in. Its not necessary to focus on 50 KPIs — choose one or two core metrics and three to four supporting ones otherwise you will distract yourself. Set targets and timeframes and try to achieve them.
Do yourself (and us) a favour, KPI window dressing and chart tricks will not fly. For sure not, once you are approaching a professional investor — we will unmask you and pass the deal.
Any thoughts or questions? Reach out! Want read more?
I am a passionate and hands-on venture capitalist (+5y), entrepreneur (+7y), mentor and angel investor. After 5 years of flying over 1.000.000 miles, spending 1.200 hours on airplanes, looking at 1.000 start-up pitches on all continents, I decided to gather some of my thoughts based on this extremely rewarding professional journey at Mountain Partners. Reach out!