The math behind our startup studio 📐 🚀

Studios don’t break even… right away. It takes time.

After five years, I’m revisiting my thoughts on the mathematics behind startup studios. Back in 2018, Builders offered a mix of professional services and independent company building. When I look back, I feel that this model created a luxurious position where you’d only launch a company when you wanted to. Add some awesome grit and execution to it and you’re done. Of course, I know it’s not nearly that simple, but looking back, it kinda was.

Let me take you on a journey to explore how a studio operates, how capital is spent, and how eventual returns are supposed to be made.

Spoiler: this article is all about costs and ratios, so buckle up for some math behind startup studios.

The Basics

We’re talking math for an independent startup studio, so the studio only co-founds new companies. We assume a certain percentage of ownership of each company — models vary hugely, making the studio world interesting and challenging to normalize and invest in. As studios focus on operations, every studio maintains a core team. Usually, the core team consists of 5–10 people, whether they are full-time, on the payroll, or contractors. A studio needs a well-oiled team to make decisions and move quickly.

To finance operations, a studio has an entity that holds all capital and creates new entities or has a separate fund to finance operations and fund new companies. In my experience, these models don’t differ much in capital expenditure. The fund creates a form of diligence that could both lower the cost and influence momentum.

Momentum is a huge influencer in the math behind a studio. You’ll only know this once you have it going — Feels a lot like reaching product-market-fit.

To round out the basics, I strongly believe that there are at least two phases to a studio’s lifecycle: the first three years, where the studio figures out its modus operandi and sets its core levers for operation; and the years after that, where one can capitalise on all learnings, the right team setup, and knowing what not to do.

Validation

So, let’s put these pieces together. We are uniquely positioned to empower entrepreneurs, not just to build companies but to create a new paradigm for business, check our Manifesto. Entrepreneurs usually find us with a problem worth solving within this scope. Once they’re onboard, the validation cycle for new business opportunities from our trend reports begins. Validating a new opportunity takes a maximum of 10 weeks.

During these 10 weeks, the studio allocates only “ninjas” to the project. This means only razor-sharp resources are put into play with high conviction BUT they retreat if there’s low or no chance of success. It’s a tough process to figure out what works and doesn’t. We don’t involve too many team members to ensure as little social or emotional bias as possible. All this effort results in a validated idea that passes a pre-defined goal — it’s now time to enter the market actively and shape the company.

Ratio — 3:1

Spent — 20k euros (including research)

Timeline — 10 weeks

Shaping

With a validated idea, one can move forward to determine if the data is a fluke or real by experimenting and prototyping a brand, product, and market. This is when the core team gets involved fractionally to get the necessities done. Product design to build prototypes, growth to figure out the founder story, go-to-market experiments, and tech to do first spikes of research in terms of technical feasibility.

And first and foremost, the EIR keeps interviewing the market and starts signing design partners and ultimately first customers. Yes, sell the product for a company that is not yet incorporated; remember, we have a brand, landing page, domain name, and all that stuff, so things are getting real. That’s also where most of the capital is spent, what we call “shaping the company” (before incorporation).

During the shape phase residentCTOs collaborate on proof of concepts and in a perfect world one of them becomes the co-founder of the company. The magic behind this I’ll spill another time, but it’s a lengthy process, yet not hard to replicate.

Ratio — 2:1

Spent — 25k euros

Timeline — 10 weeks

Gate releases — 150k euros

Allocating resources

When all comes together, we move forward with conviction and incorporate the company. We invest 500k in the next 12 months, split between people and growth. In addition to a CEO and CTO, almost half the budget is allocated to hiring a core team for fractional roles. Now you may ask,

“What!? Do you need to hire back studio people? Do you just sell services? What a hoax!!”

Hold on, no, we invest 150k in cash and spend 250k on empowering the company with a team of highly skilled experts, there is no invoice. We do whatever it takes but over 12 months it can add up to 250k. This is also where studios tend to experiment; how long would you spend on each company, and when do, if ever, switch to market rates? It’s also where founders need to be very aware to keep the momentum going. When successful, the burn rate of the new company is acceptable and the core team can be utilized to its maximum.

Incorporation

Now, here comes the interesting part. Incorporation of a company may feel like an achievement, but you’ve just made it to the start of the marathon. We need to keep the momentum going. Most studios follow some variation of tiered investing from this point on, and so do we. We’ve tranched the cash investment to focus work on the task at hand and combat premature scaling of anything. Yes, everything you do for your startup is fun and useful, but does it move the needle? does it deliver a product? and does it get more sales? So, for the first 16 to 20 weeks, we focus on releasing at least the first version of the product to the launching customers. No prototypes — it’ll be a product they can take for a ride without it falling apart.

Ratio — 1:1 (till date)

Gate releases — 150k euros

Goal — 16–20 weeks

Here be dragons — what happens if you haven’t yet released a product to market?

This is impossible; we won’t get to the end of those weeks without a released product. Over the 25 years I’ve worked in tech, I’ve learned that if you can’t release a product after a few cycles, you are creating a dragon instead of a SaaS platform. It’s interesting of course, but it doesn’t get you through the stage gate.

Launch

Ok, if the last step was a static fire, we're now ready for launch. Since we've been talking to launching customers the entire time, it's time to convert them into product users. Get them onboarded, measure usage relentlessly, and check for pulse via feedback loops almost weekly. Based on pre-defined success criteria, the first subscription invoices are sent to the now- customers. Does it feel a bit early? Yes! The most valuable learnings come from paying customers. Until that point, your validation points are fairy tales on a piece of paper. After the first payments, everything gets very real very quickly. We keep moving forward in this phase until we reach 10k MRR. Yes, that is quite a lot and will probably deplete all of our launching customer contracts; Again, this is where learnings come from. Reaching that milestone gives the company the ability to fundraise externally.

Investment — Depends, depends, let’s say 200k euros

Goal — 10–14 weeks

Opportunity costs

As you may have noticed, our studio operations are based on data-driven decisions, and one could argue about success ratios. This also means that we might stop pursuing one opportunity while trying harder to figure out if we believe the opportunity is worth it. This, combined with the human factor, makes it difficult to put a number on studio operations. Over-indexing the process can make the studio less effective; So when we say that we have a success ratio of 3:1, we mean that one of the opportunities makes it through. This doesn’t mean we have spent similar amounts of time, effort, or resources on the other two. Therefore, we will use a weighted average for almost everything when tying this together. If you want this to be more set in stone, do not run a studio.

Tying it together

Let’s tie this all together. When up and running, most studios create two companies a year. There is an overlap in timelines, but once up and running, the studio’s cash expenditure is two companies x 500k plus the cost of operating the studio, which is usually also 500k. This pays for all of the validation and management of the portfolio — which is quite effective if you ask me.

Does this mean every studio burns ‘just’ 500k per year to build up a wonderful portfolio? No. Most burn close to a million in the first year and 750k the year after, but they recoup some later down the portfolio because they can bill some of their time to successful companies. This should average around 500k/year. So, with 6 Million capital, a studio can operate for four years and build around six to eight companies. When looking for maximum efficiency, it’s important to recapitalise the studio at the end of the period to keep going.

What does 6MM yield in returns? I’ll go into the details of that one in a later article.

Does all of this make sense to you? Would you like information about all the underlying methods and structures we use to build ventures? Connect with me on Linkedin here.