Most startups are eventually faced with the key question: How much should we charge? There’s no one true answer. There are no gurus. There’s just you, your financials, and the need to make money.
The common mistakes are:
- Believing everyone should be happy to pay for your product.
- Believing there is some mythical “perfect” price which extracts maximum revenue from every single customer.
- Believing product pricing can never be changed once chosen.
- Delaying charging indefinitely as a result of 1, 2 and 3.
The vicious cycle is that the longer you wait before charging, the scarier the challenge gets.
Joel Spolsky explains why there’s no good “right” price in his seminal article Camels and Rubber Duckies, and Jason Fried’s brief advice of put a price on it, and see what happens cuts through a lot of the meandering and explains that though you’ll never find the right answer, you should start with something that isn’t $0 and you’ll learn plenty. This is a good approach to get pricing initiated.
Dozens of entrepreneurs have weighed in on pricing, and there seem to be a few common lessons that all have learned in hindsight. None of these can answer the “what to charge” question but they will give you guidance.
1. Charge earlier than you’re comfortable with
This is especially useful in the early days of product development, when you’re guided by customer feedback. Customers who don’t pay for software, or who want big discount codes on a $9 per month plan, are the wrong ones to take feedback from. As a rule of thumb, feedback from non-paying users tends to focus on additions to the product. Feedback from paying customers focuses on improvements to the product.
Customers who “will buy it when it…” are like the pot of gold at the end of every rainbow. They look super valuable, but they’re always one feature further away than you had thought.
2. Charge more than you’re comfortable with
A 4 person company is a ‘small’ company by anyone’s standards. Typically this puts them on most products “small”, or sometimes free plan. But their monthly outgoings are going to be at least $16K. This puts $19 per month plan in perspective. I know startups charging engineering teams in IBM $19 per month for software that is embedded in the workflow of dozens of their employees.
If your software is critical in a company’s processes and you charge less than their morning coffee run, something has gone wrong.
3. Justify (or kill) your lowest plan
A lot of web applications include a bottom-of-market plan at $5 or $9 per month. This price plan is included to back-up the “affordable for everyone” claim that sounds so nice to say.
Costs like hosting, salaries, etc. are spread across all customers, but some costs are fixed per customer, such as Cost Per Acquisition (CPA) and Cost To Serve (CTS). Customers on your $9 plan cost just as much to acquire and are often just as expensive to serve as customers on your $49 plan. Adii Pienaar of WooThemes solved this problem by refusing to support non-paying customers. If they’re not willing to pay you, then they’re not your customers.
It’s generally accepted that you can’t grow a software business charging only $5 per month, so the chief argument in favour of the bottom tier is always that “these guys will move up through the plans”. In practice, that’s not likely when the bottom tier is super cheap. There’s two problems here: churners and low earners.
Churners and Low Earners
The bottom tier of any pricing grid experiences the highest churn. Intuitively this makes sense; small early stage businesses are more likely to fail than larger established ones. This means that most of the businesses you’re subsidising at the low end are going to disappear. In many cases you won’t ever recover your CPA, let alone ever make any money.
These customers are also the least likely to upgrade. Tiny companies do occasionally grow into large customers, but more often than that, they stay where they are as small customer paying you $9 per month. You’re not in the business of investing in the future potential of businesses. You’re in the business of making money today. Lots of companies have killed off their bottom price plan after this realization only to see support costs go down, and revenue go up. Win win.
In short, never include a price plan that you couldn’t run your business off.
Note, this is different to offering a free plan. A free plan is designed to create limits that will be crossed by active users. Typically these limits based on capacity (e.g. store up to 2GB) or specific features. Sometimes free plans are restricted to certain types of customer, e.g. non-profit, open-source, etc. This is a purely marketing exercise, to gain word of mouth, and should be measured as such.
4. Plan on changing prices
As you improve your product by adding features, speeding it up, improving the UI, or through various other means, it’s worth asking yourself some questions. “Are we delivering more value than we were 2 years ago?”, “Are our new customers less price-sensitive than previous ones?”, “Has our marketing improved?”. If the answers are consistently yes, it’s worth revisiting your pricing. In this regard you should always document the state of a product when you alter prices, as it makes comparisons easier (e.g. “People were already signing up for $49 last July before we had a calendar or any time tracking features”).
The fear of changing your prices often is actually the fear of complaints. Grandfathering avoids a lot of this, as current customers are unaffected for a period of time, and new customers will know no different.
The power of good pricing
Nothing impacts your bottom line better than improving your pricing. Two independent studies by McKinsey & A.T. Kearney , both concluded that a 1% increase in pricing affects a company’s profits more than any other change. In short, of all the things you can spend time tweaking, pricing will yield the best return. For some reason deploying your product and never changing it seems ludicrous, yet deploying your pricing and never changing it doesn’t.
No silver bullet
There’s no magic formula for pricing in Excel. The main thing to get right is to divide your pricing along some axes of value received. Make sure new customers can afford to get on board, but also that customers who extract the most value pay the most money (e.g. big teams, big companies, big dependencies etc.). If you get that right, then you’re half way there, and that’s as close as most people get.
Ask HN ArchiveA few years ago, Gabriel Weinberg put together an excellent archive of the best Ask HN posts on Hacker News. Unfortunately, his list hasn't been updated in close to two years, and many things have changed during that time (and the number of posts on HN has increased sixfold!), so it seemed like an updated list was in order. I've looked at every Ask HN post since Gabriel's list was created, and selected those that I think are worth reading. I've tried to choose those that are interesting, contain good discussion, and whose information is still relevant today. The links in each subsection are listed in reverse chronological order, so the most recent discussions will be at the top.
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Writing Math Rants Misc Ideas Review My Startup Stories and Advice The best intro book for anything
One of the big no-no’s we’ve learnt about early on in Silicon Valley is to publicly share the pitchdeck you’ve used to raise money. At least, not before you’ve been acquired or failed or in any other way been removed from stage. That’s a real shame, we thought. Sharing the actual slidedeck we used (and one, that’s not 10 years old) is by far one of the most useful things for others to learn from. In fact, both Joel and I have privately shared the deck with fledging founders to help them with their fundraising. On top of that, our case study is hopefully uniquely insightful for lots of people. Here is why:
- Half a million is not a crazy amount: It’s therefore hopefully an example that helps the widest range of founders trying to raise money.
- Both Joel and myself are first-timers: We couldn’t just throw big names onto a slideshow and ride with it. We had to test and change the flow and deck a lot.
Ratio thinking
One of the most important elements, that we had to learn during our fundraising process was the concept of “Ratio thinking”. Jim Rohn, the famous motivational speaker, probably explained it best:“If you do something often enough, you’ll get a ratio of results. Anyone can create this ratio.”It sounded simple enough as a concept to us, but man, this was one of the toughest things to learn. Here is how Joel described it in a recent article on ratio thinking:“The law of averages really comes into play with raising investment. Overall, we probably attempted to get in contact with somewhere around 200 investors. Of those, we perhaps had meetings with about 50. In the end, we closed a $450k seed round from 18 investors. Perhaps the most important part of our success in closing that round was that Leo and I would sit down in coffee shops together and encourage each other to keep pushing forward, to send that next email asking for an intro or a meeting. In many ways, the law of averages is the perfect argument that persistence is a crucial trait of a founder.”I believe that this is in fact one of the most valuable things to know up front. It requires a huge volume of work and meetings.How to read this deck: It builds up to one key slide – Traction
If you go through the deck, you will quickly realize that the one key slide was the traction slide. We quickly realized that as first time founders, this was probably our only way to raise any money: By focusing everything on the traction slide. Here is how Joel describes this in his article on raising money as a first-time founder:“So my advice for first time founders who want to raise funding is almost always to put that thought aside until you have good traction. Instead, focus completely on traction. Focus on product/market fit. When you have good traction, it becomes much easier to raise funding.”
Avoid confusion: Our second most important slide – competition
Another thing we quickly realized when raising money was this. Although investors were very interested in talking to us, especially because of our early traction, talks then stalled. Why? The social media space seems very crowded. From the outside, it looks like there are dozens and dozens of apps all doing the same thing. On the inside, you however quickly realize that there really aren’t that many options.
The question was almost always timed at the exact moment in each meeting: “So, aren’t there lots of other apps doing the same?” And we explained to them about the TweetDecks and Seesmics and that Buffer is different and so forth. That never worked. So after lots of meetings, we realized that the competition question (in our case) created the most friction and eventually left people too confused and not interested any more. We took some time aside and made this slide as easy to understand as possible and explain Buffers positioning without creating all the friction:
The slidedeck
Without any further explanation, here it is:A note on transparency
With Buffer, our goal is to take our ideas of transparency for our company to a whole new level. That’s why it was very important for us to make this slide deck public. This slide deck is far from perfect. As previously mentioned, it probably falls into the average category. But it was what at the end of the day helped us raise the funds to turn Buffer into the company it is today. So it’s hopefully a real-world case study that clearly shows what is important and what might not be so helpful for investors to know about. We want to continue publishing our ideas and thoughts about topics that get rarely talked about. Joel and I will be around to answer any further questions you might have on our fundraising process. Please post anything you have in mind in the comments below.
This is a guest post by Leo Widrich (@leowid), co-founder of Buffer. Note: I'm an angel investor in Buffer and my company HubSpot has a little bit of overlap in functionality in our Social Inbox product.
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Chapter 1 Defining SalesTo define sales, we first need to ask a simple question. Who needs to know how to sell?
The answer may suprise you... everyone. Yes, everyone. Regardless of what you do, be it owning a small business or cranking away as an aspiring artist, you need to know how to sell. As a small business owner, it's your job to get customers in the door. As an artist, it's your job to move your artwork. We are selling every day, we just don't realize it. Which means that we are deciding to be poor salespeople, in most cases.
If you're thinking to yourself,
"I'm not a salesperson by trade, so this doesn't apply."
You're horribly mistaken. Selling is all around us, from the billboards we drive by on the way to work to the idea that you just ran by your boss during the latest conference call. It's all sales. It's your decision on whether you want to make yourself more persuasive and more impactful, and this guide is a great place to start. The ability to sell is an enabler, allowing you to grow your business and your dreams.
What Is Sales?
When thinking about sales, a common misconception of the trade exists: The best sales professionals are those that "convince" most people to buy from them. The typical thought process of a failed sales process goes something like this:
"How do I convince the prospective customer that my product or service provides value to them or their business?"
This isn't how the most successful sales professionals think, however. Their intention is not to convince but to uncover the reasons why their prospects would benefit from their solution.
The key to a good salesperson is research. This commitment is what separates those that are coveted and compensated by the most lucrative industries, from the has-nots. Anyone can convince someone to try something one time, but growing a book of business that is filled with consistent and trusting customers takes a professional. A professional that loves their industry and views what their role as uncovering problems for their customers.
Knowing enough about your prospective customers' pain points, so that you can articulate them with precision, will put you leaps and bounds ahead of your competitors. Sales is being prepared to capitalize on that opportunity, through diligent research and preparation.
Researching and Data Gathering
We now know that research and data gathering about prospective customers is key, but where do you find it? For the technology world, few datasources are better than Crunchbase for pulling raw statistics on the company. Linkedin also offers a very comprehensive search for both people and companies that may prove to be helpful for your diligence.
The important piece of research is understanding the questions that matter to your prospective customers, and tailoring those answers to fit their needs. There's no such thing as a canned response in the world of effective sales.
Next Chapter
This approach will help you think of a solid startup idea.It is broken into 5 steps to facilitate progress through a system that in total should take about 30-40 hours to complete over a week or two, if you do it all.
TL;DR
Add rigor and discipline to your brainstorming and idea evaluation process:
- Build lists of potential customer types and business or pricing models.
- Evaluate the opportunities where these lists overlap.
- Then, exit your ivory tower and evaluate the top ideas with real potential users, customers, or suppliers.
- This will improve your likelihood of success and waste less time down the road, even if you pivot from your original idea.
Preface: There certainly are simpler answers like, “pick an area that is trending”, “look for a large market that hasn’t changed in 10 years”, or “convert your hobby into a business”. Unfortunately those aren’t particularly helpful, and since this question comes up often in discussions, I wanted to get my thoughts down in a more comprehensive way. I’m sure Quora will have some good feedback for me :)Also, while this answer covers the ideation part of the journey, keep in mind that implementing the idea is the hard part.
Three primary paths to a new business idea
1. The spontaneous idea: It hits you when you’re in the shower, driving in your car, talking with friends, or doodling during a meeting. The dots suddenly connect in a new way and you have an epiphany...your sudden insight is surprising and exciting, and the value of this new idea seems obvious. You can’t believe nobody else has thought of it before!
So you go online and poke around...and...most of the time it turns out that someone has thought of it before. But, you still might be able to do it better...so you keep thinking about it and a day passes, and you start to realize some problems. You share it with a few trusted friends and get feedback about a lot of things you hadn’t thought of yet (e.g., nobody pays for it, it’s a tiny market, etc.). It could turn out to be a great idea, but you don’t know, you have a good job, and it is uncharted territory...so you let the dream slowly die away. Cheer up, that was probably the right decision.2. The insider idea: Maybe you’ve spent the last 7 years building enterprise software for airlines and you’ve noticed some voids in the product stack or issues with how your company brings it to market. You point these deficiencies out to your bosses, but there are other company priorities and nothing changes. Or, say your company pays vendors a lot of money to do some work, but nobody ever seems happy with the results....and you see a way to do it better for less. Or, maybe you witnessed your company kill an amazing new product or feature not because testing didn’t show user interest, but for political or organizational reasons.
You see an opportunity to do it on your own, so you start moonlighting on a solution. You gather more specific information, talk to trusted co-workers and industry contacts, and determine the viability of solving the problem. The good thing is, you’re already knowledgeable and well positioned/networked in the business space...so good luck to you!3. The deliberate idea: In this case, you aren’t starting with a business idea. Instead, you’re starting with a desire to create a new business and become an entrepreneur. You may be ready to quit your job and go for it whole-hog, or just start it on the side of your desk...but you’re looking for the right business idea to pursue (which could be a business related to your work environment or industry, as in #2).
While the first two paths may happen unintentionally, the third is for people who know they want to start a company, but don't yet have their idea. If you fall into the third group, then this answer is for you.#3 The Deliberate Idea
Ideation is fun and freeing, but it is the easy part of the process. Execution of your idea separates the wheat from the chaff and is where most people fail. That said, coming up with the right idea will improve your odds of successful execution. This system will help you do that well.Step 1 - Decide what is your primary motivation or personal goal for starting this (1 hour)
For example, do you want a:
- Fun or hobby based business (e.g., making bracelets to sell on Etsy)
- Part-time lifestyle business that could become full time (e.g., running a wine-investment club)
- Full-time startup hoping for acquisition exit in 3-5 years (e.g., It’s like Airbnb for fish, get it?)
- Large, cash-flow positive business (e.g., B2B furniture import and delivery business)
- Path to industry credibility and networking over financial gain (e.g., scriptwriting peer-training exchange for aspiring comedy writers)
Create a new spreadsheet and write down your goal in the first tab. It may seem like overkill now, but if you take a break from this project you’ll want to be able to have it as a frame of reference when picking it back up.Step 2 - Frame the problem (2 hours)
If you try to just write down a list of ideas from scratch, you’ll probably be underwhelmed with the results. You’ll likely hit a block after a handful of ideas, and what you come up with will be based on your predispositions...i.e., if you are a gamer, you’ll have ideas for games. If you work in cloud computing, you’ll have ideas for new approaches, etc. This isn’t a bad thing, but it is limiting.
Instead, make a deliberate effort to facilitate your own brainstorming.In the spreadsheet you created in step 1, create a new sheet and type out a list of 15-20 different categories of customer/audience types in the first column. Don’t start with the usual demographic descriptions like, “18-35 year olds in urban environments making over $100k per year”. Instead, use descriptive phrases that represent specific groups of consumers and/or businesses with unique challenges and needs. These tend to be easier to conceptualize so they are more useful and helpful for generating ideas.
Start with some that relate to your personal interests, hobbies, experience or professional network, but don't limit yourself to them. Some examples include retail insurance agents, cyclical dieters, ex-pats in Asia, news junkies, people that eat out 3+ times per week, new college grads, stay-at-home mothers, winemakers, startup founders raising money, youth sports teams, companies at trade shows, wedding planners, gamers, health nuts, software development agencies, etc. If you’re having trouble coming up with enough, broaden to specific industries, e.g., public transportation, dating, real estate, etc. If you’re going after a specific geography, call it out (e.g., ex-pats in Asia).
Next, along the first row of your spreadsheet, type the business or pricing models (i.e., the type of business) that you could apply to these customers/audiences. There’s no exact right or wrong approach, and I’m using the term “business model” very liberally here. Not all models will apply to each group and some overlap is okay. Remember, you’re doing this to help you brainstorm and compare new business ideas, not to become an expert on business models.For example, subscriptions, product bundling, risk management/insurance, auctions, resale/classifieds, peer-to-peer exchanges, outsourcing non-core functions, freemium, advertising-supported content, new product development, after-sale care, daily deals (discounted pre-sale), collaborative consumption (think AirBnB), rapid evaluation/matching (e.g., Tinder), sales channel innovation, lead generation and referrals, marketplace, brokerage, BI/CI solutions, community, etc. (more here: TechCrunch business models)
Step 3 - Generate ideas (4-6 hours)
Your spreadsheet is now a grid with customer/audience types down the side and business/pricing models across the top. Each box where the two lists overlap is a place to brainstorm ideas. Go through each square in this grid. You can dismiss many of the boxes in a few seconds (e.g., Business Intelligence for stay-at-home moms?), but it is worth giving each consideration as you’ll inevitably come up with ideas you didn’t expect.The easiest way to do this is go column by column. Pick a business or pricing model, think of a few existing businesses that use it, and spend 5 minutes reading about them to get your head into that space. Then, apply it to each potential customer or audience group: how could it fit? What are their priorities, what gets in their way, where are they wasting time or money, what do they depend upon? Browse discussion forums where they participate or are discussed. See what they care about, what people complain about. Search online for other companies that already compete to offer them products and services. What are they?
Your pass through the first column will take the most time, because you're learning about each of the 15-20 customer types as you go. It speeds up after that.
Each time you come up with a keeper, type it into the corresponding box. For example, providing after-sale customer management for retail insurance agents? Or, a debt auction business for startups looking to raise seed funding? Type it in.
Note: You may have 2+ ideas in a box. To add a new line inside of a cell type Alt-Enter for Excel on PC, Option-Command-Enter for Excel on Mac, Ctrl-Enter for Google Docs on Mac
Try to come up with at least 6 solid ideas. Then, create another tab in your spreadsheet and list all of your ideas there. In addition to writing down the ideas themselves, you should state the goal, audience(s), and model(s) for each one. These will change over time, but it is good to start grounded with something you can work-back towards.
Step 4 - Evaluate ideas and narrow it down (3 hours)
The next step is to evaluate your list of 6+ ideas against a set of criteria that will help you narrow down to the most promising three. For example:
- Heat in this space: E.g., Some answers on Quora
- Your experience and connections: Do you have experience in this industry or with similar businesses? Are you well connected with friends or family that operate in this space? Any advantages, or disadvantages?
- Alignment with goals: How well does this align to your original goal? Are the upfront capital costs compatible with the level of investment you want to make in this business?
- Market opportunity: How big is this market and how unique or differentiated is your approach? Consider competition here, but don’t be discouraged by the presence of competition. It is validation that the space is interesting. Also, there are plenty of companies have come along and disrupted markets that others had written off as already solved, like:
- Google ... after Altavista, Metacrawler, Lycos, etc.
- Facebook ... after Friendster, MySpace
- Uber ... after Yellow cab, black car services, etc.
- Gmail ... after AOL, Yahoo!, Hotmail, etc.
- iPhone ... after Blackberry, Palm, Windows Mobile
- Flipboard, Wavii, Zite, Pulse, Prismatic, etc. ... after Yahoo!, AOL, MSN, CNN
You probably don’t have time to really deep-dive on 10 ideas, so getting this narrowed down is both science and art. What does your gut tell you, what would be fun, where are you most comfortable and confident?OPTIONAL STEP: To add more science try quantifying some of these criteria.
- To do this, add a column to the Ideas tab, one for each criterion. Then, for each new column score your ideas from 1-5, with 5 being the best. So, for “Alignment with my goal”, a 5 means it aligns perfectly, and a 1 means it doesn’t align at all (e.g., your goal is to create a fun hobby business, but the idea is to sell offshore development services to technology companies in the US).
- Don’t worry if you aren’t sure whether something is a 3 or a 4, just go with your gut or do 5 minutes of online research. Keep moving forward, don't get stuck here bogged down in the weeds.
- When you’re finished, add up the scores and sort your list by the sum of these scores. In theory, the higher the score, the more interesting the idea should be to you.
When you’re done evaluating your ideas run them by a couple of trusted friends, and narrow it down to the three that seem most promising. If you do the optional scoring step, don’t feel like you must pick the three that scored highest.Note - we could have used these criteria earlier in step 2 to narrow down the list of audiences and business/pricing models, but that would have limited the creative process too far upstream (i.e., before the brainstorming process), so I suggest waiting.
Step 5 - Deep dive on those 3 ideas (20-30 hours over a week or two)
Congratulations, you have come up with 3 solid ideas! Now it’s time to step out of your ivory tower and start getting street-level information and feedback. There are three basic steps for doing this (i.e., 5_a, _b, and _c) that are general enough to apply to most types of ideas.A quick aside: at this point people ask, "If I share my idea with a lot of people, won't someone steal it?" The answer is possibly, but unlikely. As previously mentioned, there are a lot of startup ideas but few people with the time, energy, or know-how to implement them. The benefits of getting good feedback early on outweigh the risk that someone will steal it. So, don't tell people that won't benefit you, and avoid telling direct competitors that are in a position to do it themselves, or to block you from doing it, but generally don't worry. Related questions / blog posts:
5_a. Get smart(er) (6-8 hours)You will be able to evaluate and refine your ideas 10x faster by engaging in discussions with real potential customers, users, and partners. But, if you go into these unprepared you’ll wind up asking the wrong questions, sounding out of place, and wasting your opportunity and their time.
So, before you invest in surveys, coffee shop chats, or informational meetings, you need to get up to speed on the basics of the industry you are targeting. If you gave yourself a 5 in the “Experience and connections” category in Step 4, you can skip this. If not, invest 2-3 hours per idea.
Note - throughout this process you should take detailed notes. Create a new tab for each of your ideas, or an entirely new document; doesn’t really matter as long as you can write stuff down. Track who you've spoken with, emailed, feedback, etc. Trust me, you will be glad that you wrote this all down.
This will probably take a couple of days. At minimum I would:
Call up or email savvy friends and family to get their thoughts (LinkedIn is a great tool for this).
- Give them the 10,000 foot view of your idea and ask for their opinion. (Take good notes on or right after the call; do not trust your memory for this.)
- Ask them what they think is the biggest problem with it, otherwise they might just say nice things.
- If they’re in your industry then ask if they know of other companies in your space, what they think is broken, etc.
- Ask them who they would speak with if they had your idea. Ask if you can get informational interviews with those people.
Talk to potential investors if possible
- They don’t have to be the people that will actually invest in your business, but at this step ideally you have a personal relationship with them. Position your conversation as looking for advice to make a decision, not their money.
- Anyone you know that does angel investing, VC, M&A, etc., will have a trained perspective.
Do lots of online research. For example:
- Find out who competes in this space, and add them to your spreadsheet.
- Read their websites, watch their videos, and search for them together, e.g., “Windows AND Android AND iPhone”. These search queries surface articles and blog posts that analyze the broader industry, offering helpful perspective and discovery of competitors you missed. E.g., “Windows, Android and iPhone versus Blackberry”.
- Browse on Wikipedia to learn industry vocabulary and organization.
- Search Quora for questions about the industry or these competitors.
Determine external dependencies
- You may need data. Is it available free or paid, or will you have to mine it yourself, etc.?
- Do you need any particular physical materials, machinery, etc. that are hard to come by?
- Will you require any permits or government approvals?
- Will you need to hire any specialists people that are particularly difficult to find and recruit?
- Expensive equipment?
- Will you need to raise a significant amount of outside funding just to get started b/c there are high capital costs?
- Etc.
Now you are smart enough to have the intelligent conversations with people in your prospective industries, and you probably have also improved and refined your ideas. Woohoo, you’re getting closer to “the one”.At this point a lot of people would pick something and invest time in “creating” their business. I.e., set up a corporation, pick a name, secure a domain, design a logo, print business cards, figure out their title, etc. While these things feel like progress towards a “real company”, they are an unnecessary distraction at this point. It is much wiser to spend that energy on validation of your idea, like testing with real customers, meeting competitors, mocking up prototypes, etc.
5_b. Talk to potential customers, competitors, and industry partners you don’t know personally (5-10 hours)
Before you pour your heart and soul into a new venture, you should validate it outside of your friends and family circle. Is this solving a real issue for potential users or customers? Would they be willing to pay for it...or do businesses even have budget for what you’re offering? Again, the mechanics of this depend on the type of business idea that you have (e.g., starting a sandwich shop vs. office supply delivery vs. peer-to-peer insurance), but here are some general approaches that I would recommend.
Run an online survey
- Quick way to get a relatively large sample of answers from your target customers or audience.
- There are probably others, but Google Surveys is drop-dead simple to use and it allows you to easily limit responses to your target (e.g., people that buy life insurance).
- It’ll cost you a couple hundred bucks per survey. A cheap alternative is to post the concept on a discussion forum or Quora to get feedback.
Talk with your potential customers/audience
- If you’re targeting consumers, figure out where they spend time and go there to ask them questions (e.g., certain neighborhoods or coffee shops, concerts, sporting events, conventions, etc.). If you end up in a coffee shop, print a sign for the back of your laptop that says “Your feedback on my idea for a free latte”!
- If you’re targeting B2C businesses, approach them as a customer, and ask them some questions. Buy something if they sell retail.
- If you’re targeting B2B businesses, email them or go to conferences that they attend, etc. Try to get an informational interview based on the premise that you’re working to improve the industry and do something valuable for them, so you need their expertise and advice. People like it when others ask for their ‘expertise’.
Talk with suppliers
- This is relatively easy, since you are a potential buyer and they will want your business.
- In a previous step you identified the external dependencies you’ll want to take, i.e., what you should buy vs. build, and some possible vendors. Get meetings with them.
- You need to verify your assumptions, and while a lot of the details will be available on their website, information about pricing, access restrictions, etc., is often not, so you’ll want to email or call them to get details.
- Try to speak to more than 1 provider for each item so you can compare prices and look for differences or similarities, which will tell you a lot about the industry.
OPTIONAL - Start selling before you have anything to sell
- Some people call this doing a “smokescreen test”, and the mechanics of it really depend on the business idea. In many cases, it actually won’t be practical to do this until you are working on your final idea.
- B2C: If you’re targeting consumers you can do this via the Google or Facebook ad platforms.
- B2B: If businesses, then send a bunch of emails to potential customers (you can find them online) with a proposed offer and price...vary the price and offer details and keep track of how people respond (hopefully some do). see if you can get on the phone with one or two of them. Learn what questions they ask, what they push back on, if the price seems reasonable. If someone wants what you’re selling, then you may have your first customer if you can deliver something quickly (you won’t be the first to sell something before you own it...remember Bill Gates and IBM)
5_c. Write abbreviated business plans (7-10 hours)We’ve spent a lot of time working on the individual components of each idea, and now it is time to step back and see the big picture. Bring your thinking and research together into a brief business plan for each idea that still appears to be worth pursuing. If it is obvious from the previous steps that that an idea isn’t going to work, drop it.
Here’s a suggested outline. Try to limit it to be 2-3 pages, and no more than 3 hours per idea:
Page 1
One-line description of your idea:
- [Company] will <do, make, or provide> for <target audience or customer> so that <the value/outcome you bring>.
- Example: Lewis Industries will develop customer management software for automotive dealerships so that they can increase loyalty post-sale and sell more services and upgrades to consumers that buy vehicles.
Description of your products and services: 150 word description of the problems you are addressing and the scenarios you will focus on first.Page 2
How and when you monetize: Will you start as a free service for everyone, and hope to monetize later through premium offerings (freemium) or advertising (ad-supported)? Or, will you start charging immediately, or never? You won’t know for sure, but give your best guess.
Distribution model: How will potential customers or users discover you? What marketing and/or partner channels do you plan to use?
External dependencies: For what core things will you rely on others to provide, e.g., A database of all vehicle makes and models, and option packages since 1970? You should have this list from previous steps, and don’t worry about generic things (e.g., office space).
Page 3
Estimated cost to reach your Minimum Viable Product (MVP): Just try to get in the ballpark here. The main reason to figure this out during the ideation stage is that it will impact how you approach starting the business, which may or may not align with your goals. I.e., if you’re planning to build a Zipcar for trucks and need to raise $2 million for the vehicles, then you probably can’t do it as a lifestyle business off the side of your desk.
Summary of idea’s strengths and weaknesses (1-2 sentences for each)
- Research: What did you learn from your survey, calls, emails and online research that supports or challenges this idea? E.g., Positive if 67% of people surveyed say they will pay $10 for this, less so if 4 of the 5 companies you spoke with have no interest in what you’re proposing.
- Industry/macro trends: Will you have a tailwind or a headwind doing this? List out the specifics (e.g., My largest customer, retirees, is estimate to grow at 10% per year for the next 20 years.)
- Your knowledge and connections: You'll have a good sense for this, but write it down anyways. E.g., I have spent 4 years working on software for this industry, and x, y, and z from college are potential buyers.
- Risks: Are you taking dependencies where the solution isn’t yet clear? How competitive is the market, and what advantages do competitors have...or, is competition not a deterrent for x reason?
You could easily increase the scope of this business plan by an order of magnitude, and there are a dozen templates for this (Writing a Business Plan) or approaches to analyzing your ideas (e.g., SWOT analysis). The important thing is that you’re being honest and self-critical, because ultimately you are the one taking the risk.Step 6 - Pick the best idea and get started
If after all of this digging you are still feeling really good about one of these ideas, then go for it...this is where the real work begins. You’re going to need to think about financing, hiring, networking, and business operations in addition to the fun part of actually building your product or service.That is for another post! In the meantime, here are some resources to help you on your way:
First I'd sit back and read...
Startup advice and stories
- Quora questions - What is the hardest part about staring a company, Common mistakes made when starting a tech company, Top five things to remember whens starting a company
- James Altucher, TechCrunch - Should you start a company?
- Jason Goldberg, Betashop - 13 things you must do every week as a startup CEO
- Seth Sternberg, Meebo co-founder (acquired by Google since this article) - From nothing to something. How to get there.
- Ben Horowitz vs Fred Wilson - Ben posts (case for fat startup), Fred rebuts (fat not healthy), Ben rebuts (revenge of fat guy)
- Neil Patel, Geekwire - Wish I would have known before starting my own business
- Dane Carlson - 20 things not to do before starting a business (I agree with most of this, but not #1 if you can afford it)
- Scott Weiss, TechCrunch - The path to starting a startup
- James Altucher, TechCrunch - What you can learn from Woody Allen
- Erick Schonfeld (2006), 5 ways to start a company (without quitting your day job)
Checklists
Finance and Legal
Hiring
Blogs by entrepreneurs:
Blogs by VCs:
Other blogs
Quora entrepreneurs to follow (there are a lot of ‘must follow’ lists of entrepreneurs on Quora, of which many aren’t very active. These people are)
- Wikipedia, Jimmy Wales
- Craigslist, Craig Newmark
- Blippy and Adbrite, Philip Kaplan
- Vontu & Pipewise, Michael Wolfe
- Quora & Facebook, Adam D'Angelo
- Friendster, Jonathan Abrams
- Instagram, Kevin Systrom
- Foursquare, Dennis Crowley
- Path, Dave Morin
- 500 Startups, Dave McClure
- Facebook, Dustin Moskovitz
- Mahalo, LAUNCH, & Weblogs, Jason Calacanis
- PayPal, David Sacks
- EchoSign, Jason M. Lemkin
- Wavii, Anonymous
Other people’s lists
Other resources:
Notes: I tried to use mostly plain-speak when writing this. There are a lot of opinions on vocabulary and the definition of business models, business plans, etc., so if you’re hung up on those details write your thoughts in the comments, but keep in mind that the nuances are less important than the spirit of applying some rigor to picking an idea.
Posted April 26, 2013 by Brad Flora.So you have a YCombinator interview coming up? Congratulations.
You’d like some advice from a YC alum (S ’11) about how to prepare? Happy to help.
If your startup is interviewing with YC, you’re probably all set on the product side and you probably have a great team. That’s the foundation for a good interview. You need to make sure you can explain what your product does in plain, clear, concise language and explain the value and expertise that your team brings to the table in the same way. The YCombinator partners may have questions for you about either of those topics, but if you’ve been offered an interview, you’re probably capable of discussing those. You don’t need my help there.
Where you might struggle is when they start asking about your users. My advice to every startup preparing for a YC interview is to know your user and to be prepared for a user-oriented line of questioning. You might know your product inside and out and you certainly know why your team is awesome, but do you know your user? Really?
Here’s an example of the sort of user-oriented questions that I see trip up many of the startups that ask me for YC interview advice. You need to have answers for these. You might not get asked them (I was asked them during my interview), but if you do, be prepared.
- Who is your user?
- What problem are you helping them with?
- Why is this a problem for them?
- What do they use to solve that problem right now?
- No, what do they really use to solve that problem right now?
- What do they like about this solution?
- What do they not like about this solution?
- What do they wish that solution could do for them?
- How is your solution better?
- How much better is your solution?
- Why would they switch to your solution?
- What do you know about these users that no one else knows?
- How many of these users are there?
- How many do you have now?
- How did you get them?
- How will you get more?
- How many more will you have in 3 months?
- What do these users currently pay to have this problem solved?
- Would they be willing to pay more for something better?
- Why are these users good users to try to solve problems for?
- What other kinds of users could you go after once you get all these users using your software?
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This sort of customer drilldown can be disorienting at first if you’re not ready for it. Most of the startups that ask me for YCombinator interview advice can’t answer more than a few of these when put on the spot. This is understandable. As an early stage startup founder, you have a lot of code to write. As you write that code, it is very easy to get bogged down in the details, focusing on what your app can DO rather than the needs of the person that’s going to USE it.
But if you want your startup to be great, you need to know your users. You need to be relentlessly empathetic.
Paul Graham has written that good startup founders are relentlessly resourceful. This is true. The best companies from my YC batch are run by founders who could find their way home in a few months if you airdropped them into a foreign country unexpectedly. They can find a solution, even a crappy one, to any problem you put in front of them.
But another quality that the best startup founders have is that they tend to be relentlessly empathetic as well. Oftentimes, this comes down to a single founder being the “user guy/gal” who makes it his or her job to talk to users all day, and in an empathetic way.
It’s very easy to talk to users without empathy. I do this often and have to catch myself. When you talk to a user without empathy, you’re looking for confirmation of your own beliefs and assumptions rather than actually listening for what their problems are and what kind of help they’re looking for. Just listening isn’t enough. You have to listen empathetically to learn things that will help your company take over the world (Peter Thiel refers to these sorts of strategic insights as “secrets” in a lecture he gave last year).
When talking to YC companies during office hours, PG often references how Airbnb CEO Brian Chesky flew back to New York City every week during his YC session so he could talk to users and stay at apartments listed on Airbnb in NYC. Airbnb had a critical mass of listings in NYC at the time, so it meant he needed to be there, not in San Francisco, even though it required a lot of obnoxious travel during YCombinator. The reason this was so impressive and memorable is because it was a display of relentless empathy, the kind of empathy that eventually helped Airbnb build a great product that million of people love. By spending time in New York, dogfooding his own product and talking to users, he was able to learn things that made their business better. (Did you know Airbnb thought the “breakfast” in Airbed & Breakfast was a crucial part of their product experience at one time? A lesser startup would have persisted in this assumption for too long. By talking to their users relentlessly, Airbnb was able to learn that no one cared about the breakfast, ditch it, simplify their product and make it better for it.)
So as you prepare for your YCombinator interview, ask yourself, do you know your user? Are you able to drill down into the minutiae of their pains and the tools they currently use to ease them? How deep can you get into the questions I posted above before you hit your first “I don’t know?”
Are you bringing relentless empathy alongside your relentless resourcefulness?
If so, you’re in good shape! Good luck! If not, it’s time to start sending more e-mails, setting up more customer phone calls, and having coffee with A LOT of potential customers. If you can’t get inside your user’s heads, your software is never going to get inside their hearts.
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Brad Flora is co-founder and President of Perfect Audience. A former journalist, he started Perfect Audience to help make programmatic advertising and retargeting something that companies of all shapes and sizes can benefit from. He likes dill pickles and recently took first place in the Star Cup at 150cc in Mario Kart 64.
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04/18/2013Last week I had the opportunity to discuss the lessons I learned from exiting my first startup (TrustedPlaces to Yell Group/Hibu) with a bunch of startups at the Collider12 accelerator.
Here’s a list of points I shared with them about the exit process:Preparing from the start
1. The process starts from day 1
Don’t interpret this as building to flip or being in for the wrong reasons. It may take one year from start to exit, it may take ten. Be thorough on on every transaction and contract, keep your documentation in order and always have exit as an agenda item in your board meetings. (You may not spend any real time discussing, but having it there will focus you and your board).2. Build relationships early
Selling your business will often be the result of a personal relationship, which you cultivated over a number of years. Don’t hesitate to reach out to competitors and incumbents in your space early on.3. Skill up
You will be dealing with pros on the other side. They know the tricks of the trade and have done this before. You haven’t. The key skill to master is negotiation, which is useful in running your business anyway. I loved ‘Secrets of Power Negotiating’ for its playbook approach and would highly recommend it.4. Manage your cap table and funding terms
This is the hardest one to get right, but you need to be aware that the capital you raise and type of investor you raise from will often dictate possible/desirable outcomes. Watch out for liquidation preferences with >1 multiple and make sure you understand what ‘participating preferred’ means.Preparing just before the first real conversation
You will rarely get someone calling up saying ‘I want to buy your business now!’. Chances are you will have a few informal chats with someone at the right position, you will receive and send the right signals and at some point things will get serious. The transition from flirting to getting in bed can happen quicker than you think and you need to be ready for it.
5. Think deeply about the outcome you want
It seems obvious, but it’s very easy to let this one slip or not think deep enough. As a friend had told me ‘you’ll only sell your business once’. Make sure you get what you want out of the exit.6. Align with your investors
You won’t get the process to work unless everyone is behind it. Have a very clear common outcome agreed with your investors and get as much help from them as you can. Howzat Media (Hugo, Sascha and Lars especially) were incredibly helpful. However, I should have done a better job getting more help from them by preparing better and doing more of the following.7. Rehearse, rehearse, rehearse
It may sound silly, you will cringe, but just get it done. Run through the playbooks, visualize the meetings (who you take with you and who will be there from the other side), how you respond to their offer…get as much prep as you can afford and get your investors to help you with it.Managing the process
8. Understand the journey
Here’s what a typical one looks like.
- First conversation
- Deliberations
- Verbal offer
- Emailed offer
- Deliberations
- Final offer on email
- Heads of Terms – this is where things get real. Anything else is foreplay.
- Due diligence and negotiating of documents
- Completion
It took us nearly two months from heads of terms to completion and a similar amount of time for the previous steps.
9. Prepare your lawyer and accountant
Give them as much warning as you can so they can be prepared. Talk to them to fully understand the different types of acquisition (asset vs equity sale) and their respective tax implications. Go back to your articles of association and firm up their understanding before conversations get real (points 5 & 6).10. Get acquirer to agree to cover legal costs if they walk away
They should be happy to do this if they’re serious. Agreeing the specifics will be the first hurdle you need to negotiate and agree. Have fun! You only have a million more such points to cover.11. Negotiate the highest sounding title you can get away with.
It will matter when it comes to getting things done in your new organization.12. Keep everyone focused on the business
Not all acquisition conversations end up in actual acquisitions. The biggest mistake you can make is lose focus and distract your team. An aborted acquisition can hurt morale so make sure you share with the people you need to, when you feel the time is right and set the expectations at the right level.13. Take care of yourself
Stay healthy and in shape. Responding to an email the next day won’t kill the deal and most things that seem huge and massively important are often not. Being relaxed and composed will help you run a smoother process and get a better deal in the end.I have made mistakes on most points above, which I hope the post helps you avoid. If you’ve picked up any lessons yourself or would like to go deeper on anything mentioned here, hit me up on twitter or leave a comment below. This is just an overview on the points I feel are the most important for a first time founder. At some point I’d also like to cover the negotiation and management of the post-acquisition phase and expand on how to create competitive tension before and during the acquisition period.
Update: I’m preparing a workshop on this subject. Leave your email below if want to be notified when it launches.
I have said many times that early stage VC is a lot like baseball, if you get a hit one out of every three times, you are headed to the hall of fame. And if I look back over my career, and also over the track records of the firms and funds I have helped manage, that is pretty much the hit rate I have seen. By "hit" I mean an investment that returns 5x or better. But of course, many of these hits return 10x or even 100x every once in a while.
So what happens with the other two-thirds? Well that is the part of the startup world that we don't talk too much about. Sometimes an entrepreneur will take an early exit. They will have raised a small amount of outside money, will still control the company, and will get an offer they can't refuse, and take it. That's a win for the entrepreneur but not for the VC. But it is a happy outcome for everyone anyway. That's maybe 10% of the total outcomes. So at least 50% of the outcomes are not a win for the VC or the entrepreneur.
So what happens when things don't work out? There are generally two scenarios.
The first is the "slog it out" scenario. This one is in many ways the most painful. It means that there is a business that can be built, but it won't be one that makes the VCs much money and because it takes so much time and money to "slog it out", it doesn't make the entrepreneur much money either. And in many cases, the entrepreneur chooses to leave and the company has to recruit outside management to operate the business.
In the "slog it out" sceanrio, the VCs are often left holding the bag. They have a lot invested in the business and have a responsibility to figure out how to get it out. In some cases, the entrepreneur sticks around and slogs it out along with the VCs. I have great admiration for the entrepreneurs I have worked with who have slogged it out. There is very little upside for them in this scenario. Mostly they do it out of a sense of responsibility. These "slog it out" businesses can go on for a long time. I am involved with some that are well into their second decade and I am afraid that they may be headed into a third decade. I have heard these kinds of companies called "zombie companies and "the living dead". That's a bit unfair because there is no way a company can operate for two or three decades without being able to sustain itself. VCs do not keep pouring money into these businesses, maybe they do that for the first five years, but not after that. These "slog it out" companies turn into real companies eventually but just not companies that have the growth trajectories or strategic profiles that make them great acquisitions.
The second scenario is "hit the wall". In this scenario, the company runs out of cash and there is no more coming from the investors. The company cannot sustain itself and one of two things happens. There is a fire sale or an acqui-hire, or there is a shut down. The fire sale is the preferred outcome and VCs and entrepreneurs have gotten pretty good at finding homes for the teams in recent years. There is such a vacuum of talent out there that a fire sale can often be arranged just for the talent that a company has assembled. But often the fire sale cannot be arranged and the company has to be shut down. Again, the responsibility for an orderly shut down often falls onto the VCs to manage. In a shut down, the employees must be notified and paid through the date of the shut down. All required tax payments must be made. Liabilities such as leases and bank borrowings must be managed. In particularly messy situations, a bankruptcy filing is required.
There are two interesting things here that I always think about. The first is that even the very best investors in the VC business only get a hit about 1/3 of the time. That means that they have their share of "slog it outs" and "hit the walls" too. I am certainly in that camp. The second is that we end up spending an incredible amount of time and energy (hopefully not money) on the 2/3 of our investments that don't work out. When everything goes well, you really don't need that much from a VC. Of course, I have added value in all of my winners. But its the ones that don't work that I have left my blood, sweat, and tears on. And that's the paradox of being a VC that cares. Which is the only kind of VC you want to work with.
Growth 2004–2009
We moved to a larger office in 2005. We took a five year lease, which now eclipsed the printer as our biggest commitment. The office was 4000 sq ft. We spent $50,000 to build out the office, which now included a boardroom (something we previously didn’t have) and a kitchen.
During the 5 year period between 2004–2009, the company went from about 9 people to over 30. Our work became increasingly sophisticated over that time period. We worked for clients like Air Miles, AOL, BMW, The Movie Network, John Hancock, JP Morgan, Loblaws, IBM, Merrill Lynch, Mitsubishi, Miller, Harrisbank, Dymo, Hersheys, Air Jamaica, Reuters, PCFinancial, and New Balance.
The biggest growth came from adding an independent service offering we referred to as Programs.
When we started, we saw all work in the digital channel breaking into two distinct buckets of work:
Platforms and Programs
Platforms are large scale applications or sites where customers come to do something with companies. It is where the digital channel solves real problems for real customers. This is typically a company’s .com or app.
Programs are activities that create demand. They are typically paid media and are designed to send people to a company’s platform. This is easiest thought of as advertising (e.g. banners, microsites etc.)
When we started the company, Geoff and I were less interested in working on programs and more interested in working on platforms. Platforms had more pragmatic and challenging user and business problems to solve.
Geoff and I also believed (and we still do) that the kind of creative person who wants to wake up and come up with a world class program like Subservient Chicken, is not the same creative person who wants to wake up and solve UI problems for a large scale corporate Web app.
So we avoided pitching or going out of our way to get program work. Despite not pursuing it, we were increasingly asked to do program work.
In 2005, we had an increasing amount of program work making up our revenue. It was work we had taken on to fill out our revenue, but could see problems forming. Ad agencies were still lagging behind in digital. As a result, companies like us were able to take on this program work. As far as we were concerned, traditional ad agencies were the heirs to program work, they just didn’t have their act together… yet. We could see the program work we were getting was increasing in revenue every year. The money for this was coming from traditional budgets, it just wasn’t large enough for the agencies to feel it. We knew eventually the advertising agencies were going to be incentivized to fight for this revenue. Losing hundreds of thousands of dollars to a 15 person digital company was going to be unacceptable. They weren’t going to be bad at digital forever.
We chose option B. We hired an amazing Partner named Dave Stubbs who had a deep background in advertising and digital. We hired a team of copywriters and designers to work in our Programs group.
Between 2005–2009, the Program group accounted for 50% of staff and revenue. Working with clients like BMW, Telus, New Balance, Sun Chips and Quaker they produced some amazing award winning work.
Sadly, what we predicted was going to happen, happened. Our largest program client, Telus, decided they wanted to consolidate their work with their advertising agency, Taxi.
Losing your largest client
We had never really “lost” a client before. Most of our client engagements were assignments. When we started the company, we wanted to be easy to buy, so we never asked for AORs or retainers. We wanted to earn our keep on every assignment, and this approach had served us well. Despite not being contractually bound, we had long client tenures of repeat engagements.
The loss of Telus was crippling. We had to let some people go, which was an incredibly difficult decision, but we learned a few things from the experience.
With the analytics tools today, it's easy to measure hundreds if not thousands of different metrics for your business. Cutting through all the chaff to determine the most important or insightful metrics can be quite a challenge.
Below are the ten metrics I've found to be most useful in board meetings. They answer the questions of how should a startup founder might measuring the business at the highest level. You should have many more metrics than these, but I've highlighted the ones that I recommend presenting to your board and reviewing each week.
Metrics Format
Clear data leads to productive conversations. To best understand a data point and its implications, we have to put it in context.
I've found dividing top level data in three slides, one for company priority (Distribution, Engagement, Revenue) helps to set the right context. Within the slide, a table that shows the metric and compares it to last month, then explicitly calculates the monthly change, the trailing six month average and finally compares the metric to the goal best communicates the state of that metric. See below for an example.
Metric This month Last Month % change TSM Average Goal Active Users 100,000 50,000 100% 125% 75% Total User Base 500,000 400,000 25% 7% 10% The TSM Average column is the Trailing Six Month Average. It is calculated in this way:
(ending_value/starting_value)^(1/num_periods-1)-1.In most businesses, a monthly growth percent is too volatile to be meaningful. However a TSM Average smooths out the monthly average into a rolling average. Comparing the monthly to the TSM, we can get a sense of whether the monthly growth is accelerating or decelerating and how it compares to the goal you set each quarter. In this example, the total user growth was slower this month than in the past six month, but activity is way up. The next question, the one board members and founders should ask, is why?
Metrics/Question Pairs
Now that we have the base format of the metrics, let's talk about which metrics matter. Each metric is followed by the question it's designed to answer. Pick the ones that are relevant to your business.
Distribution
- New users added last month by channel/TSM growth rate: How are well are we growing the user base? Which user sources are the best?
- Total user base/TSM growth rate: How important is our monthly growth compared to our total user base?
- Cost of customer acquisition, lifetime value, pay back period: Can we grow faster through paid acquisition? Are we acquiring customers profitably? How much can we afford to spend on new customers? How is this changing over time?
Engagement
- Active users (can defined in several different ways depending on your product) by channel/TSM growth rate: Are we getting better at giving our customers what they want/need? Which channels of users are most effective in finding us the right kind of user?
- % of users using top 3 key features in a given month: Are our product initiatives the right ones?
Revenue
- Revenue / TSM Revenue growth: Are we growing our revenue?
- Conversion to paid rate in that month/by cohort: How many users converted to paid? Are we improving our ability to convert customers to paid?
- Avg spend per paying customer of a managed account vs solo account: What is the impact of the account management team?
- Churn rate/ TSM Churn rate: How well do we retain our customers?
- Burn rate: When are we profitable? When do we run out of cash? When do we need to raise?
These are the metrics that have been most valuable/insightful for me working with our companies. Let me know if there are other metrics you use to measure your business that might be useful to add to this list on this Branch.
311 Kudos
Sometimes I get contacted by individuals who are planning to start a services company and are seeking advice on a variety of related topics. One of the most common questions is: “How do I determine an hourly rate?”
This article describes how we determine our rates here at Makalu.
Start with the minimum
Regardless of how you plan to charge for your work—i.e. on a project basis (fixed-fee) or an hourly basis—the first step is to determine the minimum amount you need to earn per chargeable hour.
Available hours. Begin by computing the number of hours per year each of our staff will work, on average, taking into account public holidays (12 days, in Germany), vacation (30 days, in Germany) and weekends (104 days, on Earth). In Germany, that’s 219 working days per year, or 1,752 available working hours.
Chargeable hours. It’s important to recognize that not all of a person’s available time will end up being chargeable. People will sometimes be supporting bids, sometimes working on overestimated projects, sometimes idle, sometimes off sick, etc. In our case, we assumed a chargeability figure of about 70% (which turns out to be pretty consistent with the service industry as a whole). With that, we’re down to about 1,226 chargeable hours per year, per person.
Minimal hourly rate. To compute a minimum hourly rate, we need to divide the minimum revenue we need to make per person, by those 1,226 chargeable hours. The total minimum revenue equals our employment costs (salary, benefits, social security, etc.), all overhead expenses (office rent, support staff, marketing, accounting, legal, etc.), plus the minimum profit we want to make.
Example. In a hypothetical scenario in which a company’s staff costs, on average, $75,000 per year per person, with overheads equivalent to say 20% of employment costs, and wanting to make a 15% profit, the minimum hourly rate would be roughly $85/hour.
How did we get to that number?
Minimum Hourly Rate Calculation(If you’d like a copy of this Soulver document, you can download it here)
That wasn’t the particular number in Makalu’s case back when we got started, but might seem a reasonable starting point today.
Adjusting to balance supply and demand
Now that we have a starting point, is that it? Not quite. We now need to adjust that rate to balance supply and demand.
Over time, as we produced good work for our customers (and through some lucky breaks!), we found ourselves with consistently more demands on our time than we had availability. It’s important to note, however, that doesn’t necessarily imply a higher level of chargeability as all the elements relating to that 70% are usually still applicable.
As is natural in free markets, prices adjust in order to balance supply and demand, and so we began to slowly increase our hourly rate, in order to alleviate the excess demand. Some companies would have just ramped up their staff count. In Makalu, however, we place far greater importance on maintaining our ability to produce great work and deliver measurable value, and that means only hiring great people. We simply couldn’t find legions of great people; we’ve been lucky to find one per year!
An interesting consequence of increasing our hourly rate, is that the customers that were left tended to be exactly the type of customers we’ve always wanted to work for—they appreciate high quality, demand real value and are doing interesting things!
You just hit your millionth active user -- congratulations! Unfortunately, getting to that next order of magnitude (10M) is going to be very difficult, costly or both. Unless of course you're inherently viral. There is a reason Twitter, Facebook, Instagram, Pinterest, Dropbox, Snapchat, etc. all are. It's the same reason USV has their investing thesis.If you're not growing significantly organically, you have to use a traction channel and either go out and reach people (ads, press, etc.) or set something up so that they are coming to you (SEO, content, etc.). Either way you will have to convert them.
Conversion ratios for viral are awesome. Conversion ratios outside of viral are not.
In a mass-market setting, decent conversion ratios are 1-3% depending on vertical, 5% is amazing and 10% is essentially unheard of (please give counter examples in the comments if you have any). For your first million, you could be somewhat niche and get higher ratios in smaller-scale channels, but when you're going up to 10M you are really crossing the chasm and sadly reverting to the mean.
Let's say you're really good: 5%. You need 9M new users, divided by 5% is 180M highly-qualified impressions (math gets a bit complicated when you convert that to people and start accounting for overlapping campaigns and conversion ratios increasing with # of individually experienced impressions).
That is a lot of impressions. For example, an amazing NYT feature won't even get you close (unless it spawns a fire-storm of other mass media press). Their circulation is 2M on Sundays, higher if you count online, but back to that if you account for people actually reading your amazing feature (remember, it's highly qualified impressions).
You can begin to understand why AOL printed all those CDs. And if you have high churn, god help you. It's a little better if you have some monetization so at least you can afford all those CDs.
Otherwise, you better raise a boat load of money, if you can. It's an easy sell to raise a ton if you haven't figured out monetization but already crossed the chasm (Tumblr). If you haven't though, it's doubly risky with both high market and finance risk. (Yes, this my obligatory paragraph required for all startup articles in 2013 to relate in some way to the Series A crunch.)
Some sectors are better than others. If you have low churn and high monetization (e.g. finance) you have more options like being in the top ten advertisers on the Web. If you have high churn or thin margins, however, it gets tough as Fred Destin pointed out for e-commerce. In his words, what's your angle? Or if you are raising money, why now?
Either way, never count out organic growth in your traction plan. If your first million active users are truly actively engaged and have pretty wide demographic characteristics, there is hope for you after all. Cut through this depressing math with the community sword and bump up that conversion rate!
Update: some good comments on HN.
“Let’s start with a distinction that should be obvious but is often overlooked: not every newly founded company is a startup. Millions of companies are started every year in the US. Only a tiny fraction are startups.”
- Paul Graham, Startup=Growth
Tech startups are hard. Building a company that grows rapidly is confoundingly difficult. You have to come up with a great idea, fund the business somehow, and then you have to actually do what you say you were going to do. If it were easy we’d all be wearing monocles and yukking it up over fine whiskeys instead of staying up late coding or blogging about toilets.
But most things in life that people aspire to do aren’t easy. People start businesses all the time, and most of them aren’t software startups. They’re opening restaurants, shops and professional service organizations. This sounds really hard too. If you open a shop, how do you know you’ll get any customers?
So at Priceonomics, we were curious. What does it take to start a “real business” like a retail establishment? How do you go about doing it? How much does it cost? If you open up a shop, how do you know people will come? In many ways starting a “regular business” seems more challenging than founding a startup. If you’re the nth Indian restaurant on Castro Street, how do you make it work?
Since we are mildly obsessed with all things bicycle related, from bike price guides, stolen bike economics and catching bike thieves, we thought we’d start there. How do you go about starting a bike shop? Lucky for us, we knew some folks we could ask.
Huckleberry Bicycles
Around the same time we started Priceonomics, some of our friends launched a new bike shop in San Francisco in the Fall of 2011. There isn’t exactly a shortage of bike shops in San Francisco, so it certainly wasn’t clear this was a slam dunk good idea. Even more interesting, they decided to open their shop in one of the “worst areas” in America - San Francisco’s Mid-Market District. Amidst the drug addicts and strip clubs, could you sell speedy commuter bikes and stylish cycling pants?
Huckleberry Bicycles was started by three friends, Brian Smith, Jonas Jackel and Zack Stender. Brian was a corporate lawyer. Like all corporate lawyers, Brian was miserable (seriously, are any happy?) and wanted start his own company. He had been friends with Jonas since their college days at Grinnell. Jonas was an experienced bike shop guy and he recruited another bike professional, his friend Zach to be the third founder.
The founders scrounging for wood they could use in their store.
We sat down with Brian Smith for a beer to talk about the start-up costs and economics of starting a bike shop. Here is their entrepreneurial story.
The start up costs and financing of a bike shop
On day zero when Huckleberry was still a concept, they calculated they needed $300-$350K to get started if they managed their costs aggressively and did a lot of the work themselves. That amount would allow them to find and renovate a retail spot, give them a budget for initial inventory, hire a first employee, and provide a buffer to last at least a year.
Because two of the founders were former bike shop employees, they had a fairly accurate idea about what the costs would be. They projected they’d need a 2,000 square foot store and the rent would be $6-8K per month (they only targeted less expensive neighborhoods). Renovating the store would cost about $100K (they would do most of the work themselves). The initial inventory to get started would be about $75K, and $25-50K would cover miscellaneous expenses. They left themselves $100K as a buffer so they could confidently hire a fulltime employee to run their service center. As it turned out, their actual expenses were in line with their initial projections (nice work!).
The founders would put in a small amount of initial capital but the vast majority would be financed. They considered bringing in additional equity investors, but ultimately decided they were looking for such a little amount of capital that it didn’t make sense to give away more of the company.
2010 was a tricky time for a new small business to raise money from a bank. The company was an unknown quantity with no financial history or assets for a bank to review. At the same time, the founders were willing to personally guarantee the loans and had good credit and personal assets. A loan would be critical because no landlord would give them a lease without the loan in place first. At the same time, without a lease the bike shop was just an esoteric concept that would be difficult to fund.
In an unexpected twist, the San Francisco city government really helped them start their business. San Francisco’s Office of Economic and Workforce Development got wind that these gentlemen were interested in starting a bike shop in the midst of the drug addicts, prostitutes and stolen good fencers of Market Street. The Workforce Development office connected them with a lender who was willing to underwrite the loan and introduced them to their eventual landlord. Whoa, government works sometimes. Who knew?
Getting to work - launching the bike shop
Getting started on renovations.
With the financing and a location in place, they could start turning a dilapidated storefront located next to a strip club into a haven for urban cyclists. First, they needed bikes to sell. The bike industry operates a lot like the car industry. The bike manufacturers like Cannondale sign contracts with bike dealers to give dealers exclusive rights to selling the bikes in geographic areas. That way the dealers are insulated from competition and the manufacturers can keep prices where they want them. Almost no brand name bikes are allowed to be sold online.
The first bike manufacturer that Huckleberry talked to backed out just before signing the contract. They were concerned that another one of their dealers was too close for comfort. Luckily it was fairly easy to sign up other bike vendors. It turns out, companies like to work with people that want to sell their products! In quick succession they signed up vendors like Cannondale, Felt, Masi, Public Bikes and many more.
Once you sign a deal with a bike manufacturer, you need to buy their bikes. Most bike dealers will give you a line of credit to finance your inventory with a 0% interest rate as long as it’s paid in time (this can vary from 30 days to 6 months). Even still, about half the bikes in inventory are purchased immediately and all soft goods like bike clothing, locks, racks and lights are bought outright.
Across the industry, the average retail gross margin on bike sales is 36%. So, if you see a bike for sale for $1,000 the store can make a gross margin of $360 on it. For soft goods the industry standard margins are 50%. These margins are fairly stable and can’t really be controlled by the store. The average bike store earns 40-42% margins since they sell a mix of bikes and soft goods.
Since the margins are predictable, revenue projections give you a good idea about how much margin you’re going to have to pay for peoples’ salaries and your rent. Gross margins are critical. The business would need to hit certain sales goals or it would predictably implode.
One year from when Brian quit his job at a law firm, Huckleberry opened for business.
How the first year went
“Before we got started, we made all these aggressive predictions about our revenue. We meet with an accountant and she was like, get out of here, these numbers are crazy. So we went back and made much more conservative assumptions. We ended up beating those projections for our first year, but it was good to be conservative otherwise we might have made bad spending decisions.”
The first year went well. Really well for a brand new business. Huckleberry’s sales exceeded even their more aggressive set of projections. Three months in, the founders were able to start paying themselves. Eight months later, they could afford to pay themselves a livable wage.
“Yeah, I remember the first bike we sold, it was awesome. I remember our first $1,000 day and that felt incredible. Then we had a bunch of really big sales days and you need something even bigger to get the same rush.”
At some point, the team of four people wasn’t sufficient to handle the business that was walking in the door. Sales were falling through the cracks. Now they’ve expanded the team from four to twelve people. Every time they’ve added a new team member, the investment has paid for itself with extra sales. They’ve never had to touch the $100K buffer that they budgeted when they started the company.
Customer Acquisition
“We’ve grown a lot in the past year, but I can’t tell you why we’re actually growing. Sure, every time someone walks in the door, we give them the best possible experience and we really do make them happy. But why do more new people walk in each day? I don’t really know.”
Perhaps the most interesting part about talking to Huckleberry was that it’s hard for them to pinpoint why they are acquiring more customers. They’ve built up perhaps the best bike experience in San Francisco in just a year, but why do new people walk in the door? They buy Google and Facebook ads, but they have no way to track how they convert. They’re located on a main bike thoroughfare so commuting bikers can discover the store, but at the same time they’re in a bad neighborhood so it’s hard to know how the location helps or hurts. They try to deliver on satisfying every customer and create positive word of mouth, but it’s impossible to measure what part of their marketing is driving new customers and what part is wasted spending.
In many ways, starting Huckleberry was a leap of faith. If you build it, they will come. And they did. Remarkably, they’ve been able to invest more in inventory and staff, and those investments have paid off. But the exact reason why they are growing? Helpful service? Word of mouth? Location? It’s impossible for Huckleberry to pinpoint.
Software Tools They Use to Run Their Business
Huckleberry runs its entire business on cloud-based apps. The most important piece of software in their business is their point of sale and inventory management system called MerchantOS. They absolutely rave about it and it only costs about $50 a month and has a solution specifically for bike shops. The app tracks their inventory and also tracks the inventory that their vendors carry. For example, if a customer asks for a specific bike rack, Huckleberry can instantly check if they have it in stock or if they can order it from one of their vendors and then make the sale. Pretty powerful stuff.
They use Square purely for payment processing but not for its point of sale system. Email is run through Google Apps and bookkeeping is done using QuickBook Online.
They’ve spent $10,000 getting their website up. They originally paid $6,000 for the site but were unhappy with the result, so they had it redone a few month later. They have a Shopify page that they load some accessories on and there are some occasional online sales but it’s not a huge emphasis. They mention the bike brands they carry on their blog so sometimes people show up to the store because they Googled “cannondale san francisco”.
Beyond that, they don’t show all their actual bike inventory online. Keeping that up to date would require a lot of maintenance and mental overhead. For Huckleberry, having a good website is important, but it’s not going to make or break them. To them, they’ll succeed or fail based on the customer’s experience when they are in the shop and that’s what they want to nail. They’re not going to succeed by building the world’s best bike website.
Conclusion
“If I had started this business projecting that we’d fail, we wouldn’t have started it. It’s not an option to fail. My partners have kids and houses and it’s not an option.”
It’s commonly asserted (and presumably true) that most retail businesses like restaurants fail. The competition is intense, the labor costs are sky-high, and customer demand can be fleeting.
The founders at Huckleberry took a risk in starting a bike shop and put everything into it to make the business work. When you walk into their store in downtown San Francisco, it’s immediately clear that staff cares about helping you, whether you’re a novice biker or insane randonneur. You can even hang out and play Tetris! It feels different than any other bike shop in San Francisco and that was the founders’ plan.
Talking to Huckleberry, it also seems clear that the most important software tools for small business haven’t been invented yet. There is no “google analytics” for a shop or measurable ways they can promote themselves offline or online. Somewhere in all of this, there is probably a billion dollar startup idea or two.
This post was written by Rohin Dhar. Follow him on Twitter here or Google. Thanks so much to the team at Huckleberry for answering our questions about bike shop economics. They are seriously the best. Get the latest from Priceonomics on Facebook or Twitter.
Today I want to respond to the #1 concern I hear from early stage startups: how to get people to find out about your product without having to pay for it.
In this post, I’ll cover some of the best growth hacks that I’ve discovered for the acquisition stage of the lean marketing funnel. Here’s how I like to think about it. You can either do the work of acquiring new potential users (HARD), or you can let others do the work for you (EASIER).
What do I mean?
Put simply, go to where your potential users are. There are literally thousands of services out there that have already done the work of building up a audience, whether it’s a highly trafficked website or a big email list. What you want to do is piggyback off of those traffic sources.
Here are a few which have recently grown in relevance if your audience is startups or early adopters: Quora, Slideshare, Wikipedia, Hacker News, Meetup, Craigslist, Skillshare, email newsletters like StartupDigest and events. These are all channels where a large amount of high-quality potential users for your product are every single day.
You can’t just post a link to your startup’s site on each service and expect people to come, that’s lazy. But you can do basically the same thing so long as you cater to the content that people go to each service for. For example, in my spare time I teach classes on How to Teach Yourself to Code on Skillshare and Udemy. I accidentally discovered that SlideShare could tap into a huge audience that could drive students to my class when I posted my class slides which didn’t take too long to be viewed by over 95,000 people.
After putting these up, I started getting getting multiple emails a day about the slides, people begging to learn more.
Slideshare
Put together a short presentation (20 – 40 slides) with educational content that potential users of your product would be interested in.
If your product helps people out with their finances, make a deck on tips for managing your finances. If your product is a marketplace where college students can swap goods, make a deck on how to save money and get free stuff in college. If it’s a tool to help people cut down on email clutter, write a guide for cutting down on email clutter!
Then put a link to your website on some slide near the beginning and also on the last slide. Don’t make it too salesly. We recently had BrandYourself talk at our NYC GrowHack Meetup on how they got 60k users in 60 hours.
The slides have been viewed over 15,000 times and drove several thousand visitors to their site. I’ve had similar success with slides on growth hacking I recently put online. If you’re unsure of whether you can build slides that people will find worth sharing, check out my slides on How to Build Great Presentations.
Quora
Every founder of every company should be on Quora answering questions related to their company’s product ALL THE TIME. Okay that’s probably overkill. But, there’s no better way to get your expertise known and get yourself in front of people who never would have heard about you and your company otherwise.
The point is to to focus on providing content that’s useful for your audience. Link to your product, but be as objective as possible. Here’s a great example:
But what if no one’s asking questions about your product? Post your own questions and then answer them yourself. Also don’t forget similar services like Yahoo Answers.
Wikipedia
One dirty secret companies like TechCrunch use all the time is every time they write an article about a person or a company, they update the Wikipedia page with a new fact and link to the article.
This may seem small, but depending on how trafficked a Wikipedia article is, this can drive a significant amount of users to your site.
Just make sure you read the Wikipedia guidelines first so that your changes don’t automatically get deleted for being too promotional or anything like that.
You probably can’t create a Wikipedia article for your startup (it’s not “notable” enough in wikipedia’s eyes) but you may be able to create one for your product category or something similar that may not have been covered yet. (I plan on writing one for Growth Hacking soon, and you can be sure I’ll be linking to this post).
Hacker News
If you’re focused on a startup crowd, Hacker News can bring some incredible traffic, and has done a great job promoting some of my content from other places like Slideshare (although it’s tough to know what will take off and what won’t).
Write a blog post about something technical, where techies will learn something cool or new. Sometimes you may need a small bump to make it out of that “new” section. DON’T send your friends links to the item directly asking for an up vote. Hacker News recognizes this as manipulative behavior and doesn’t count the vote.
Instead, send your friends to the “new” section and tell them what the name of the item is to search for. Make sure they do this quickly. If you can get a handful of up votes in a short amount of the (5 or so) you can get catapulted to the front page and get potentially thousands of visitors.
If you do want to just show off your product and you think it’s cool enough, do a Show HN. Depending on what you’re showing, people may see this as spammy and not up vote, but it may work.
Meetup
Meetup.com is one of those services that will do the job of driving traffic to your meetup if you create one. Find a topic your users would be interested in, and bring them great content. If your biggest potential userbase is people on Etsy, then start the NY Etsy Meetup and bring in people who’ve launched successful products on that platform.
This is also an excellent place to do in person for customer development. You’re able to hear first-hand the language your audience uses to describe the problem and get a sense of how they really feel about your product.
This can also work as a way to base yourself in reality. If you’re not able to create content that attracts your customers, you might want to rethink your product.
Craigslist
If people looking for products like yours ever go on Craigslist, you’ll be able to get in front of them for free by putting up a post. This involves a bit of 1-on-1 back and forth.
Skillshare
One huge opportunity a lot of founders miss out on is teaching classes around their topic of expertise. This gets your company in front of a room of 20-40 people who are interested in learning more about your product (and they’ll pay for it too)!
Every few weeks, I teach classes on coding, growth hacking and presentation design. Again, this is great customer development. It’s a way to make a bit of money, and get to know people in the class who are willing to pay money to solve that particular problem.
All the cool kids are doing it.
Email Newsletters
In the startup scene, this can another great way to get people to come to your classes and meetup. Big newsletters in NYC include StartupDigest and Gary’s Guide, but you can also reach out to meetup organizers who want to give bring in good content to their meetups.
Others have already been built to upwards of 10s of thousands of people. Each one has a way to submit events so figure out how to do that. For StartupDigest submit your event here, for GarysGuide submit your event here.
Events
Founders should have a list of all the big relevant events to their potential customers and be there. Don’t confuse this with being at tech events. If your product is a tool to help authors self-publish online, go to the events that THOSE people will be at. Publishing conferences. Etc.
Each industry has a number of big name sites that collect the events for people in that industry to go to. For example, http://www.mediabistro.com/events/ for advertising.
Bonus tip: Update your email signature
Update your email signature. You send what, at least 30 emails a day? What’s in your email signature right now?
Hotmail was able to grow virally just by adding “PS. Get your free email at Hotmail” to the signature of each person. If you’re trying to get people to use your product, put a simple “sign up for x at y” in your signature on every email. Its not too pushy, and over the course of a few weeks you can get potentially hundreds of free users.
How do you get your users?
This is by no means a comprehensive list, but it includes some of the basic tactics I’ve recently seen. If you’ve used any others successfully that I didn’t include on the list, please post them in the comments below. I’d love to hear about it!
Share and Enjoy
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Lately I've been spending some time with local entrepreneurs who are looking for business advice. Inevitably, the topic of pricing comes up. "How do I know how much to charge?" There are lots of answers. You can make up a number and see if it works.
Taking payments online (in Europe) in 2013 20 January 2013In order to make money online a business needs to be able to take payments. This may sound like a simple thing to set up - but it can be rather complex, and disruptive US companies such as Stripe and Square have yet to launch in Europe.
Finding a way to take payments for Vinetrade has been one of my biggest challenges (from which I've learnt a lot) and I thought it would be worth writing up my thoughts on the card payment market, where it's going and what Europe needs.
Why it's hardThe easiest way to take payments online is via card (credit or debit). Behind all card payments are a number of bank transactions. Consumer protection laws make it possible for buyers can claim a refund from their bank if something goes wrong (e.g. they pay for goods that never arrive). If the bank can't reclaim those funds from the business that took the payment, they'll make a loss.
This means that banks will put a lot of effort in to minimising their risk. Often this means rejecting new applicants outright (a number of banks led us up the garden path, taking us through month-long processes and getting us to submit detailed documentation only to tell us that we wouldn't have been accepted anyway because we're such a new company). Other methods include charging high fees (sometimes 5% or more of each transaction processed), or holding a rolling balance (such as 20% of the value of all transactions processed for 6 weeks to cover the cost of any chargebacks).
Traditional Options - Banks, WorldPay or PayPalUntil recently there have been three main options for UK based entrepreneurs wanting to take payments online: applying directly to a bank for a merchant account or signing up for a WorldPay or PayPal account.
Applying directly to a bank can be a painful process - you'll need to be prepared to submit a lot of documentation (business plans, cash-flow forecasts, director identity verification, shareholder identities etc) and spend a lot of time waiting and chasing for an answer. On the plus side you will get a lot more control of how you take payments (e.g. ability to keep buyers on your site without having to redirect them to an external service), relatively low charges (around 1.5-2% of transaction value for credit cards or fixed fees of around £0.40 for debit card payments) and defined payment dates in to your main account (so you can spend the money).
For those who have had difficulty applying directly to banks, WorldPay has been a common alternative and they have a relatively easy online signup process. The downside is that they hit you with a lot of fees (in my experience £150 to open an account, a significant deposit and around 5% of all transactions) and are very restrictive on the type of businesses they'll accept payments for (e.g. nothing related to alcohol or anything that could be defined as an adult product).
PayPal has always been popular and will allow almost anyone to open an account and take payments. Fees are relatively reasonable (around 3% of transaction value), but the downsides are poor technology (their API can be a nightmare to work with) and bad customer service. Unfortunately PayPal is pretty much an unregulated bank and there are a number of horror stories about them closing accounts, freezing funds and making life very difficult for entrepreneurs. This is likely because they have traditionally been a target for fraudsters, and it's much cheaper to side with buyers and provide unconditional refunds than conduct a detailed investigation in to each dispute.
New entrants to the marketA number of new players have entered the market in the past 12 months, founded by entrepreneurs who get the need for better solutions. These new entrants make it much easier to get started and accept payments, take reasonable fees, pay out to your bank account quickly and have a short approval process (if any).
Perhaps the most innovative of the new entrants, GoCardless allows anyone (in the UK) to take payments via Direct Debit (straight from the buyers bank account - bypassing the card system).
Direct Debit is particularly suited to recurring payments or one off charges for services. Unfortunately it's not particularly suited to payments for physical products that need to be shipped quickly, as there can be a short delay (3-4 days) in setting up bank account mandates and taking payments.
The Direct Debit Guarantee can open businesses to fraud as buyers can request unconditional refunds from their banks (although this isn't much different to chargebacks on credit cards). Bypassing the card payment network does mean that GoCardless can charge low fees - currently 1% up to a maximum of £2 per transaction.
A US company that has gained quick traction (they handle payments for well known sites like Github, Airbnb, Fab, Uber, 37 Signals) and recently launched in Europe. Their model is to provide a simple API and transparent pricing. They're easy to integrate with and customer service appears to be excellent. You still have to submit a range of business information and they need to get approval to support you from their underwriting bank (Adyen in Europe), but this process is relatively painless and they require less documentation than you'd have to submit by going to the bank directly. The application process is also much faster - so you can get started in days rather than weeks.
A German startup that is effectively a clone (from Rocket Internet) of US based Stripe. Like Stripe, they have an API that is easy to integrate with and you can get going quickly (they also require some business information and identification from you, but this does not appear to be particularly stringent).
The solution we useVinetrade has the kind of business model that scares banks and card payment providers. We trade high value goods (prices in the region of £1.5-20k) that are rarely delivered to the buyer (they're stored in remote warehouses).
Eventually, thanks to our investors opening some higher level doors, we were able to open an account with BarclayCard. Unfortunately the process wasn't easy, and because they're forcing us to use their own gateway (limited documentation, little pre-built open source software to use) we haven't completed the integration work. So we're still taking payments by manual bank transfer (luckily the default in our market) while we get things up and running.
What I'd do next timeIf I were to start another company (or product) today I'd look at using GoCardless, Braintree or Paymill for payments and do a better job of building payment costs in to the business model. There's no longer a reason to go through the pain of applying to banks individually, dealing with rejections and jumping through all of the hoops required to get started. While fees may be a little higher than going directly to a bank (an extra 1-2%), you get started much more quickly and can focus on validating your business model (you can optimise payment costs later).
In the past I would have used PayPal as a default, but for now I'd steer clear and only use them as a payments provider of last resort.
What the market needsWith companies like Braintree and Paymill now launching in Europe, and more innovative services like GoCardless, it finally looks as though the payments market is heading in the right direction.
Any progress that reduces the need to interact directly with banks, and makes it easy for consumers to pay for products and services they want is a good thing. Hopefully the result will be stronger European internet companies, and an ecosystem that truly rivals that of the US.
Do you have any feedback on this post? I'm @jmaskell on Twitter or james@jamesmaskell.co.uk by email.
video by influenceatwork
Animation describing the Universal Principles of Persuasion based on the research of Dr. Robert Cialdini, Professor Emeritus of Psychology and Marketing, Arizona State University. Dr. Robert Cialdini & Steve Martin are co-authors (together with Dr. Noah Goldstein) of the New York Times, Wall Street Journal and Business Week International Bestseller Yes!
“If you cannot measure it, you cannot improve it” – Lord Kelvin
This article is a comprehensive and detailed look at the key metrics that are needed to understand and optimize a SaaS business. It is a completely updated rewrite of an older post. For this version, I have co-opted two real experts in the field: Ron Gill, (CFO, NetSuite), and Brad Coffey (VP of Strategy, HubSpot), to add expertise, color and commentary from the viewpoint of a public and private SaaS company. My sincere thanks to both of them for their time and input.
SaaS/subscription businesses are more complex than traditional businesses. Traditional business metrics totally fail to capture the key factors that drive SaaS performance. In the SaaS world, there are a few key variables that make a big difference to future results. This post is aimed at helping SaaS executives understand which variables really matter, and how to measure them and act on the results.
The goal of the article is to help you answer the following questions:
- Is my business financially viable?
- What is working well, and what needs to be improved?
- What levers should management focus on to drive the business?
- Should the CEO hit the accelerator, or the brakes?
- What is the impact on cash and profit/loss of hitting the accelerator?
(Note: although I focus on SaaS specifically, the article is applicable to any subscription business.)
What’s so different about SaaS?
SaaS, and other recurring revenue businesses are different because the revenue for the service comes over an extended period of time (the customer lifetime). If a customer is happy with the service, they will stick around for a long time, and the profit that can be made from that customer will increase considerably. On the other hand if a customer is unhappy, they will churn quickly, and the business will likely lose money on the investment that they made to acquire that customer. This creates a fundamentally different dynamic to a traditional software business: there are now two sales that have to be accomplished:
- Acquiring the customer
- Keeping the customer (to maximize the lifetime value).
Because of the importance of customer retention, we will see a lot of focus on metrics that help us understand retention and churn. But first let’s look at metrics that help you understand if your SaaS business is financially viable.
The SaaS P&L / Cash Flow Trough
SaaS businesses face significant losses in the early years (and often an associated cash flow problem). This is because they have to invest heavily upfront to acquire the customer, but recover the profits from that investment over a long period of time. The faster the business decides to grow, the worse the losses become. Many investors/board members have a problem understanding this, and want to hit the brakes at precisely the moment when they should be hitting the accelerator.
In many SaaS businesses, this also translates into a cash flow problem, as they may only be able to get the customer to pay them month by month. To illustrate the problem, we built a simple Excel model which can be found here. In that model, we are spending $6,000 to acquire the customer, and billing them at the rate of $500 per month. Take a look at these two graphs from that model:
If we experience a cash flow trough for one customer, then what will happen if we start to do really well and acquire many customers at the same time? The model shows that the P&L/cash flow trough gets deeper if we increase the growth rate for the bookings.
But there is light at the end of the tunnel, as eventually there is enough profit/cash from the installed base to cover the investment needed for new customers. At that point the business would turn profitable/cash flow positive – assuming you don’t decide to increase spending on sales and marketing. And, as expected, the faster the growth in customer acquisition, the better the curve looks when it becomes positive.
Ron Gill, NetSuite:
If plans go well, you may decide it is time to hit the accelerator (increasing spending on lead generation, hiring additional sales reps, adding data center capacity, etc.) in order to pick-up the pace of customer acquisition. The thing that surprises many investors and boards of directors about the SaaS model is that, even with perfect execution, an acceleration of growth will often be accompanied by a squeeze on profitability and cash flow.
As soon as the product starts to see some significant uptake, investors expect that the losses / cash drain should narrow, right? Instead, this is the perfect time to increase investment in the business. which will cause losses to deepen again. The graph below illustrates the problem:
Notice in the example graph that the five customer per month model ultimately yields a much steeper rate of growth, but you have to go through another deep trough to get there. It is the concept of needing to re-enter that type of trough after just having gotten the curve to turn positive that many managers and investors struggle with.
Of course this a special challenge early-on as you need to explain to investors why you’ll require additional cash to fund that next round of acceleration. But it isn’t just a startup problem. At NetSuite, even as a public company our revenue growth rate has accelerated in each of the last three years. That means that each annual plan involves a stepping-up of investment in lead generation and sales capacity that will increase spending and cash flow out for some time before it starts yielding incremental revenue and cash flow in. As long as you’re accelerating the rate of revenue growth, managing and messaging around this phenomenon is a permanent part of the landscape for any SaaS company.
Why is growth important?
We have suggested that as soon as the business has shown that it can succeed, it should invest aggressively to increase the growth rate. You might ask question: Why?
SaaS is usually a “winner-takes-all” game, and it is therefore important to grab market share as fast as possible to make sure you are the winner in your space. Provided you can tell a story that shows that eventually that growth will lead to profitability, Wall Street, acquiring companies, and venture investors all reward higher growth with higher valuations. There’s also a premium for the market leader in a particular space.
However not all investments make sense. In the next section we will look at a tool to help you ensure that your growth initiatives/investments will pay back: Unit Economics.
A Powerful Tool: Unit Economics
Because of the losses in the early days, which get bigger the more successful the company is at acquiring customers, it is much harder for management and investors to figure out whether a SaaS business is financially viable. We need some tools to help us figure this out.
A great way to understand any business model is to answer the following simple question:
Can I make more profit from my customers than it costs me to acquire them?
This is effectively a study of the unit economics of each customer. To answer the question, we need two metrics:
- LTV – the Lifetime Value of a typical customer
- CAC – the Cost to Acquire a typical Customer
(For more on how to calculate LTV and CAC, click here.)
Entrepreneurs are usually overoptimistic about how much it costs to acquire a customer. This probably comes from a belief that customers will be so excited about what they have built, that they will beat a path to their doors to buy the product. The reality is often very different! (I have written more on this topic here: Startup Killer: The Cost of Customer Acquisition, and here: How Sales Complexity impacts CAC.)
Is your SaaS business viable?
In the first version of this article, I introduced two guidelines that could be used to judge quickly whether your SaaS business is viable. The first is a good way to figure out if you will be profitable in the long run, and the second is about measuring the time to profitability (which also greatly impacts capital efficiency).
Over the last two years, I have had the chance to validate these guidelines with many SaaS businesses, and it turns out that these early guesses have held up well. The best SaaS businesses have a LTV to CAC ratio that is higher than 3, sometimes as high as 7 or 8. And many of the best SaaS businesses are able to recover their CAC in 5-7 months. However many healthy SaaS businesses don’t meet the guidelines in the early days, but can see how they can improve the business over time to get there.
The second guideline (Months to Recover CAC) is all about time to profitability and cash flow. Larger businesses, such as wireless carriers and credit card companies, can afford to have a longer time to recover CAC, as they have access to tons of cheap capital. Startups, on the other hand, typically find that capital is expensive in the early days. However even if capital is cheap, it turns out that Months to recover CAC is a very good predictor of how well a SaaS business will perform. Take a look at the graph below, which comes from the same model used earlier. It shows how the profitability is anemic if the time to recover CAC extends beyond 12 months.
I should stress that these are only guidelines, there are always situations where it makes sense to break them.
Three uses for the SaaS Guidelines
- One of the key jobs of the CEO is to decide when to hit the accelerator pedal. The value of these two guidelines is that they help you understand when you have a SaaS business that is in good shape, where it makes sense to hit the accelerator pedal. Alternatively if your business doesn’t meet the guidelines, it is a good indicator that there is more tweaking needed to fix the business before you should expand.
- Another way to use the two guidelines is for evaluating different lead sources. Different lead sources (e.g. Google AdWords, TV, Radio, etc.) have different costs associated with them. The guidelines help you understand if some of the more expensive lead generation options make financial sense. If they meet these guidelines, it makes sense to hit the accelerator on those sources (assuming you have the cash).Using the second guideline, and working backwards, we can tell that if we are getting paid $500 per month, we can afford to spend up to 12x that amount (i.e. $6,000) on acquiring the customer. If we’re spending less than that, you can afford to be more aggressive and spend more in marketing or sales.
- There is another important way to use this type of guideline: segmentation. Early-stage companies are often testing their offering with several different uses/types of customers / pricing models / industry verticals. It is very useful to examine which segments show the quickest return or highest LTV to CAC in order to understand which will be the most profitable to pursue.
Unit Economics in Action: HubSpot Example
HubSpot’s unit economics were recently published in an article in Forbes:
You can see from the second row in this table how they have dramatically improved their unit economics (LTV:CAC ratio) over the five quarters shown. The big driver for this was lowering the MRR Churn rate from 3.5% to 1.5%. This drove up the lifetime value of the customer considerably. They were also able to drive up their AVG MRR per customer.
Brad Coffey, HubSpot:
In 2011 and early 2012 we used this chart to guide many of our business decisions at HubSpot. By breaking LTV:CAC down into its components we could examine each metric and understand what levers we could pull to drive overall improvement.
It turned out that the levers we could pull varied by segment. In the SMB market for instance we had the right sales process in place – but had an opportunity to improve LTV by improving the product to lower churn and increasing our average price in the segment. In the VSB (Very Small Business) segment, by contrast, there wasn’t as much upside left on the LTV (VSB customers have less money and naturally higher churn) so we focused on lowering CAC by removing friction from our sales process and moving more of our sales to the channel.
Two kinds of SaaS business:
There are two kinds of SaaS business:
- Those with primarily monthly contracts, with some longer term contracts. In this business, the primary focus will be on MRR (Monthly Recurring Revenue)
- Those with primarily annual contracts, with some contracts for multiple years. Here the primary focus is on ARR (Annual Recurring Revenue), and ACV (Annual Contract Value).
Most of the time in this article, I will refer to MRR/ACV. This means use MRR if you are the first kind of business, or ACV if you are the second kind of business. The dashboard shown below assumes monthly contracts (MRR). However in the downloadable spreadsheet, there is a tab that shows the same dashboard for the second kind, focusing on ACV instead of MRR.
SaaS Bookings: Three Contributing Elements
Every month in a SaaS business, there are three elements that contribute to how much MRR will change relative to the previous month:
What happened with new customers added in the month:
What happened in the installed base of customers:
- Churned MRR (or ACV) (from existing customers that cancelled their subscription. This will be a negative number.)
- Expansion MRR (or ACV) (from existing customers who expanded their subscription)
The sum all three of these makes up your Net MRR or ACV Bookings:
I recommend that you track these using a chart similar to the one below:
This chart shows the three components of MRR (or ACV) Bookings, and the Net New MRR (or ACV) Bookings. By breaking out each component, you can track the key elements that are driving your business. The one variation we would recommend making to this chart is to show a dotted line for the plan, so you can track how you are doing against plan for each of the four lines. This is one of the most important charts to help you understand and run your business.
Ron Gill, NetSuite:
This chart is really good. I also like to look at this data in tabular form because I want to know y-o-y growth rates. E.g. “Net new MRR is up 25% over June of last year”. The Y-o-Y % is a metric easily compared with increased spending, sales capacity, etc.
The Importance of Customer Retention (Churn)
In the early days of a SaaS business, churn really doesn’t matter that much. Let’s say that you lose 3% of your customers every month. When you only have a hundred customers, losing 3 of them is not that terrible. You can easily go and find another 3 to replace them. However as your business grows in size, the problem becomes different. Imagine that you have become really big, and now have a million customers. 3% churn means that you are losing 30,000 customers every month! That turns out to be a much harder number to replace. Companies like Constant Contact have run into this problem, and it has made it very hard for them to keep up their growth rate.
Ron Gill, NetSuite:
One oft-overlooked aspect of churn is that the churn rate, combined with the rate of new ARR adds, not only defines how fast you can grow the business, it also defines the maximum size the business can reach (see graph below).
It is an enlightening exercise to build a simple model like this for your business and plot where your current revenue run rate sits on the blue line defined by your present rate of ARR adds and churn. Are you near the left-hand side, where the growth is still steep and the ceiling is still far above? Or, are you further to the right where revenue growth will level off and there is limited room left to grow? How much benefit will you get from small improvements in churn or the pace of new business sign-up?
At NetSuite, we’ve had great success shifting the line in the last few years by both dramatically decreasing churn and by increasing average deal size and volume, thus increasing ARR adds. The result was both to steadily move the limit upward and to steepen the growth curve at the current ARR run rate, creating room for increasingly rapid expansion.
The Power of Negative Churn
The ultimate solution to the churn problem is to get to Negative Churn.
There are two ways to get this expansion revenue:
- Use a pricing scheme that has a variable axis, such as the number of seats used, the number of leads tracked, etc. That way, as your customers expand their usage of your product, they pay you more.
- Upsell/Cross-sell them to more powerful versions of your product, or additional modules.
To help illustrate the power of negative churn, take a look at the following two graphs that show how cohorts behave with 3% churn, and then with 3% negative churn. (Since this is the first time I have used the word Cohort, let me explain what it means. A cohort is simply a fancy word for a group of customers. In the SaaS world, it is used typically to describe the group that joined in a particular month. So there would be the January cohort, February cohort, etc. In our graphs below, a different color is used for each month’s cohort, so we can see how they decline or grow, based on the churn rate.)
In the top graph, we are losing 3% of our revenue every month, and you can see that with a constant bookings rate of $6k per month, the revenue reaches $140k after 40 months, and growth is flattening out. In the bottom graph, we may be losing some customers, but the remaining customers are more than making up for that with increased revenue. With a negative churn rate of 3%, we reach $450k in revenue (more then 3x greater), and the growth in revenues is increasing, not flattening.
For more on this topic, you may wish to refer to these two blog posts of mine:
Defining a Dashboard for a SaaS Company
The following section should be most useful for readers who are interested putting together a dashboard to help them manage their SaaS business. To this, we created an excel file for an imaginary SaaS company, and laid out a traditional numeric report on one tab, and then a dashboard of graphs on a second tab (see below). These represent one view on how to do this. You may have a very different approach. But hopefully this will give you some ideas. I would recommend adding a dotted line with the plan number to all graphs. This will allow you to quickly see how you are doing versus plan.
There are two versions of the Dashboard: the one shown below, which is designed for companies using primarily monthly contracts (focused on MRR). And a second version that can be found here which is designed for companies using annual contracts, focusing on ACV (Annual Contract Value).
Brad Coffey, HubSpot:
At HubSpot we obsess over these metrics – and watch many of them every day. Each night we send out a ‘waterfall’ chart that tracks our progress against our typical progress given the number of business days left in the month. Here is an example of what we look at to ensure we’re on track to meet our net MRR goals.
By looking at this daily we can take action immediately if we’re tracking towards a bad month or quarter. Things like services promotion (for churned MRR) or sales contests & promotions (for new & expansion MRR) are adjustments we make within a given month in order to nail our goals. (In this model we combine expansion and churned MRR into one churned MRR line).
Detailed definitions of the various metrics used
Detailed definitions for each of the various metrics used can be found in this reference document:
Revenue Churn vs Customer Churn – why are they different?
You might be wondering why it’s necessary to track both Customer Churn and Revenue Churn. Imagine a scenario where we have 50 small accounts paying us $100 a month, and 50 large accounts paying us $1,000 a month. In total we have 100 customers, and an MRR of $55,000 at the start of the month. Now imagine that we lose 10 of them. Our Customer churn rate is 10%. But if out of the ten churned customers, 9 of them were small accounts, and only one was a large account. We would only have lost $1,900 in MRR. That represents only 3.4% Revenue Churn. So you can see that the two numbers can be quite different. But each is important to understand if we want a complete picture of what is going on in the business.
Getting paid in advance
Getting paid in advance is really smart idea if you can do it without impacting bookings, as it can provide the cash flow that you need to cover the cash problem that we described earlier in the article. It is often worth providing good financial incentives in the form of discounts to encourage this behavior. The metric that we use to track how well your sales force is doing in this area is Months up Front.
Getting paid more upfront usually also helps lower churn. This happens because the customer has made a greater commitment to your service, and is more likely to spend the time getting it up and running. You also have more time to overcome issues that might arise with the implementation in the early days. Calculating LTV and CAC
The Metric “Months up Front” has been used at both HubSpot and NetSuite in the past as a way to incent sales people to get more paid up front when a new customer is signed. However asking for more money up front may turn off certain customers, and result in fewer new customers, so be careful how you balance these two conflicting goals.
Calculating CAC and LTV
Detailed information on how to calculate LTV and CAC is provided in the supplemental document that can be accessed by clicking here.
More on Churn: Cohort Analysis
Since churn is such a critical element for success in a SaaS company, it is an area that requires deeper exploration to understand. Cohort Analysis is one of the important techniques that we use to gain insight.
As mentioned earlier, a cohort is simply a fancy name for a group. In SaaS businesses, we use cohort analysis to observe what happens to the group of customers that joined in a particular month. So we we will have a January cohort, a February cohort, etc. We would then be able to observe how our January cohort behaves over time (see illustration below).
This can help answer questions such as:
- Are we losing most of the customers in the first couple of months?
- Does Churn stabilize after some period of time?
Then if took some actions to try to fix churn in early months, (i.e with better product features, easier on-boarding, better training, etc.) we would want to know if those changes had been successful. The cohort analysis allows us to do this by comparing how more recent cohorts (e.g. July in the table above) compared against January. The table above shows that we made a big improvement in the first month churn going from 15% to 4%.
Two ways to run Cohort Analysis
There are two ways to run Cohort Analysis: the first looks at the number of customers, and the second looks at the Revenue. Each teaches us something different and valuable. The example graph below simply looks at the number of customers in each cohort over time:
The example graph below looks at how MRR evolves over time for each cohort. This particular example illustrates how the graph would look if there is very strong negative churn. As you can see, the increase in revenue from the customers that are still using the service is easily outpacing the lost revenue from churned customers. It is pretty rare to see things look this good, but it is the ideal situation that we are looking for. For those wondering if this can be achieved, one company in our portfolio, Zendesk, that has numbers that are even better than those shown in the example below.
In the situation above, you will need a more complex formula to calculate LTV, as the value of the average customer is increasing over time. For more on that topic, you may want to check out the accompanying definitions document.
Predicting Churn: Customer Engagement Score
Since churn is so important, wouldn’t it be useful if we could predict in advance which customers were most likely to churn? That way we could put our best customer service reps to work in an effort to save the situation. It turns out that we can do that by instrumenting our SaaS applications and tracking whether our users are engaged with the key sticky features of the product. Different features will deserve different scores. For example if you were Facebook, you might score someone who uploaded a picture as far more engaged (and therefore less likely to churn), than someone who simply logged in and viewed one page.
Similarly if you sold your SaaS product to a 100 person department, and only 10 people were using it, you would score that differently to 90 people using it. So the recommendation is that you create a Customer Engagement Score, based on allocating points for the particular features used. Allocate more points for the features you believe are most sticky. (Later on you can go back and look at the customers who actually churned, and validate that you picked the right features as a predictor of who would churn.) And separately score how many users are engaged with specific scores.
Over time you’ll also come to discover which types of use are the best indicators of possible upsell. (HubSpot was the first company that I worked with who figured this out, and they called it their CHI score. CHI stands for Customer Happiness Index. It evolved to be a very good predictor for churn.)
Brad Coffey, HubSpot:
At HubSpot we had a lot of success looking at this metric – we called in Customer Happiness Index (CHI). First – by running the analysis we identified the parts of our application that provide the most value to customers and could invest accordingly in driving adoption in those areas. Second – we used this aggregate score as an early proxy for success as we experimented with different sales and onboarding processes. If a set of customers going through an experiment had a low CHI score we could kill the project without waiting 6 or 12 months to analyze the cohort retention.
NPS – Net Promoter Score
Since it is likely that customer satisfaction is likely to be good predictor of future churn, it would be useful to survey customer satisfaction. The recommended way to measure customer happiness is to use Net Promoter Score (NPS). The beauty of NPS is that it is a standardized number, so you can compare your company to others. For more details on Net Promoter Score, click here.
Guidelines for Churn
If your Net Revenue Churn is high (above 2% per month) it is an indicator that there is something wrong in your business. At 2% monthly churn, you are losing about 22% of your revenue every year. That is nearly a quarter of your revenue! It’s a clear indication that there is something wrong with the business. As the business gets bigger, this will become a major drag on growth.
We recommend that you work on fixing the problems that are causing this before you go on to worry about other parts of your business. Some of the possible causes of churn are:
- You are not meeting your customers expectations.
- The product may not provide enough value
- Instability or bugginess
- Your product is not sticky. It might provide some value in the first few months, and then once the customer has that value, they may feel they don’t need to keep paying. To make your product sticky, try making it a key part of their monthly workflow, and/or have them store data in your product that is highly valuable to them, where the value would be lost of they cancelled.
- You have not successfully got the customer’s users to adopt the product. Or they may not be using certain of the key sticky features in the product.
- Your sales force may have oversold the product, or sold it to a customer that is not well suited to get the benefits
- You may be selling to SMB’s where a lot of them go out of business. It isn’t enough that what you’re selling is sticky. Who you’re selling it to must also be sticky.
- You are not using a pricing scheme that helps drive expansion bookings
The best way to find out why customers are churning is to get on the phone with them and ask them. If churn is a significant part of your business, we recommend that the founders themselves make these calls. They need to hear first hand what the problem is, as this is so important for the success of the business. And they are likely to be the best people to design a fix for the problem.
The Importance of Customer Segmentation
In all SaaS businesses there will likely come a moment where they realize that not all customers are created equal. As an example, bigger customers are harder to sell to, but usually place bigger orders, and churn less frequently. We need a way to understand which of these are most profitable, and this requires us to segment the customer base into different types, and compute the unit economics metrics for each segment separately. Common segments are things size of of customer, vertical industry, etc.
Despite the added work to produce the metrics, there is high value in understanding the different segments. This tells us which parts of the business are working well, and which are not. In addition to knowing where to focus and invest resources, we may recognize the need for different marketing messages, product features. As soon as you start doing this segmented analysis, the benefits will become immediately apparent.
For each segment, we recommend tracking the following metrics:
- ARPA (Average Revenue per Account per month)
- Net MRR Churn rate (including MRR expansion)
- LTV
- CAC
- LTV: CAC ratio
- Months to recover CAC
- Customer Engagement Score
Brad Coffey, HubSpot:
At HubSpot, we started to see some of our biggest improvements in unit economics when we started segmenting our business and calculating the LTV to CAC ratio for each of our personas and go to market strategies.
As one good example – when we started this analysis, we had 12 reps selling directly into the VSB market and 4 reps selling through Value Added Resellers (VARs). When we looked at the math we realized we had a LTV:CAC ratio of 1.5 selling direct, and a LTV:CAC ratio of 5 selling through the channel. The solution was obvious. Twelve months later we had flipped our approach – keeping just 2 reps selling direct and 25 reps selling through the channel. This dramatically improved our overall economics in the segment and allowed us to continue growing.
We ended making similar investments in other high LTV:CAC segments. We went so far as to incentivize our sales managers to grow their teams – but then would only place new sales hires into the segments with the best economics. This ensured we continued to invest in the best segments and aligned incentives throughout the company on our LTV:CAC goals. It also allowed us to push innovation down to the sales manager level. Managers could experiment with org structure, and sales processes – but they knew that if they didn’t hit their LTV:CAC goals they wouldn’t be able to grow their teams.
Calculating LTV:CAC by segment can be challenging, especially on the CAC side. It’s relatively easy at the top level to add up all the marketing and sales expense in a period and divide it by the total number of customers (to get CAC). Once you try to segment down your spend you run into questions like ‘how much marketing expense do I allocate to a given segment’, ‘how much of the sales expense’?
We solved this by allocating marketing expense based on number of leads and sales expense based on headcount but it’s not perfect. For us the keys are: 1) Needs to account for all costs – no free lunch, 2) It needs to be consistent over time. Progress on improving the metric is more important than the actual value.
Funnel Metrics
The metrics that matter for each sales funnel, vary from one company to the next depending on the steps involved in the funnel. However there is a common way to measure each step, and the overall funnel, regardless of your sales process. That involves measuring two things for each step: the number of leads that went into the top of that step, and the conversion rate to the next step in the funnel (see below).
In the diagram above, (mirrored in the dashboard), we show a very simple three phase sales process, with visitors coming to a web site, and some portion of them signing up for a trial. Then some of the trials convert to purchases. As you can see in the dashboard, we will want to track the number of visitors, trials and closed deals. Our goal should be to increase those numbers over time. And we will also want to track the conversion rates, with the goal of improving those over time.
Using Funnel Metrics in Forward Planning
Another key value of having these conversion rates is the ability to understand the implications of future forecasts. For example, lets say your company wants to do $4m in the next quarter. You can work backwards to figure out how many demos/trials that means, and given the sales productivity numbers – how many salespeople are required, and going back a stage earlier, how many leads are going to be required. These are crucial planning numbers that can change staffing levels, marketing program spend levels, etc.
Sales Capacity
In many SaaS businesses, sales reps play a key role in closing deals. In those situations, the number of productive sales people (Sales Capacity) will be a key driver of bookings. It is important to work backwards from any forecasts that are made, to ensure that there is enough sales capacity. I’ve seen many businesses miss their targets because they failed to hire enough productive salespeople early enough.
It’s also worth noting that some percentage of new sales hires won’t meet expectations, so that should be taken into consideration when setting hiring goals. Typically we have seen failure rates around 25-30% for field sales reps, but this varies by company. The failure rate is lower for inside sales reps.
When computing Sales Capacity, if a newer rep is still ramping and only expected to deliver 50% of quota, they can be counted as half of a productive rep. That is often referred to as Full Time Equivalent or FTE for short.
Another important metric to understand is the number of leads required to feed a sales rep. If you are adding sales reps, make sure you also have a clear plan of how you will drive the additional leads required.
There is much more that could be said on this topic, but since it is all very similar to managing a sales force in a traditional software company, we will leave that for other blog posts.
Understanding the ROI for different Lead Sources
Our experiences with SaaS startups indicate that they usually start with a couple of lead generation programs such as Pay Per Click Google Ad-words, radio ads, etc. What we have found is that each of these lead sources tends to saturate over time, and produce less leads for more dollars invested. As a result, SaaS companies will need to be constantly evaluating new lead sources that they can layer in on top of the old to keep growing.
Since the conversion rates and costs per lead vary quite considerably, it is important to also measure the overall ROI by lead source.
Growing leads fast enough to feed the front end of the funnel is one of the perennial challenges for any SaaS company, and is likely to be one of the greatest limiting factors to growth. If you are facing that situation, the most powerful advice we can give you is to start investing in Inbound Marketing techniques (see Get Found using Inbound Marketing). This will take time to ramp up, but if you can do it well, will lead to far lower lead costs, and greater scaling than other paid techniques. Additionally the typical SaaS buyer is clearly web-savvy, and therefore very likely to embrace inbound marketing content and touchless selling techniques.
What Levers are available to drive Growth
SaaS businesses are more numerically driven than most other kinds of business. Making a small tweak to a number like the churn rate can have a very big impact on the overall health of the business. Because of this we frequently see a “quant” (i.e. a numbers oriented, spreadsheet modeling, type of person) as a valuable hire in a SaaS business. At HubSpot, Brad Coffey played that role, and he was able to run the models to determine which growth plays made the most sense.
Understanding these SaaS metrics is a key step towards seeing how you can drive your business going forward. Let’s look at some of the levers that these imply as growth drivers for your business:
Churn
- Get Churn and customer happiness right first (if this isn’t right, the business isn’t viable, so no point in driving growth elsewhere. You will simply be filling a leaky bucket.)
Product
- You’re in a product business – first and foremost: fix your product.
- If you’re using a free trial, focus on getting the conversion rate for that right (ideally around 15 – 20%). If this isn’t right, your value proposition isn’t resonating, or you may have a market where there is not enough pain to get people to buy.
- Win/Loss ratio should be good
- Trial or Sales conversion rates on qualified leads should be good
Funnel metrics
- Increase the number of raw leads coming in to the Top of your funnel
- Identify the profitable lead sources and invest in those as much as possible. Conversely stop investing in poor lead sources until they can be tweaked to make them profitable.
- Increase the Conversion Rates at various stages in the funnel
Sales Metrics
- Sales productivity (focus on getting this right consistently across a broad set of sales folks before hitting the gas)
- Add Sales Capacity. But first make sure you know how to provide them with the right number of leads. This turns out to be one of the key levers that many companies rely on for growth. We have learned from experience how important it is to meet your targets for sales capacity by hiring on time, and hiring the right quality of sales people so there are fewer failures.
- Increase retention for your sales people. Since you have invested a lot in making them fully productive, get the maximum return on that investment by keeping them longer.
- Look at adding Business Development Reps. These are outbound sales folks who specialize in prospecting to a targeted list of potential buyers. For more on this topic, click here.
Pricing/Upsell/Cross Sell
- Multi-axis pricing
- Additional product modules (easier to sell more to existing customers than it is to sell to brand new customers)
Brad Coffey, HubSpot:
Turns out the pricing your product right can have a huge impact on the unit economics. Not simply by getting the average MRR right, or by providing upsell opportunities – but also by signaling what pieces of the product are most valuable.
At HubSpot we changed our pricing in 2011 to be tiered based on the number of contacts in the system – and actually saw an increase in adoption of the contacts application after we made the change. This is counter-intuitive but makes sense given that we sell through an inside sales team. After the pricing change, sales reps now could make a lot more money by selling the contacts. And they quickly become much better at positioning that part of the product, as well as finding companies with a contacts-based use case. Product quality will remain paramount – but it’s remarkable how much impact pricing, packaging and sales commission structure can have on product adoption and unit economics.
Customer Segmentation
Customer Segmentation analysis will help point out which are your most profitable segments. Two immediate actions that are suggested by this analysis are:
- Double down on your most profitable segments
- Look at your less profitable segments and consider changes that would make them more profitable: lower cost marketing & sales approaches, higher pricing, product changes, etc. If nothing seems to make sense, spend less effort on these segments.
International Markets
Expansion internationally is only recommended for fairly mature SaaS companies that already have honed their business practices in their primary market. It is far harder to experiment and tune a business in far off regions, with language and cultural differences.
Brad Coffey, HubSpot
- One of the biggest challenges we face is the trade-off between growth and unit economics (specifically churn). Many of the things that we have done to reduce churn have (potentially) come at the expense of lowering our growth rate. Those have been some of our hardest decisions: e.g. requiring upfront payments, requiring customers buy consulting, holding sales reps accountable for churn, etc. We are always looking at things that give us growth without the tradeoff of lower growth. For example product improvement is an obvious one – a better product is easier to sell and provides more value to the customer. Services promotions actually work well too. Many of the options that SaaS companies have to adjust their business are not simply a win-win but are still worth exploring. Too many companies think that every problem is a product problem and every solution is that the product must get better.
- The other thing that’s really important is that companies don’t try to spin these numbers. There is so much pressure to dismiss a bad customer (who hurt your churn number) or exclude costs (only count marketing ‘program’ spend – not headcount). If you can get the accounting close enough to right it actually frees management from needing to make every decision. If the accounting is right management can obsess over setting goals (growth, LTV:CAC), hold people accountable to those goals and then give autonomy to their team on how to achieve those goals.
Plan ahead
It takes time for most initiatives to have an impact. We’ve learned from some tough lessons that planning has to be done well in advance to drive a SaaS business. For example if you are not happy with your current growth rate, it will often take nine to twelve months from the point of decision before the growth resulting from increased investment in sales and marketing will actually be observed.
The High Level Picture: How to Run a SaaS Business
Hopefully what you will have gathered from the discussion above is that there are really three things that really matter when running a SaaS business:
- Acquiring customers
- Retaining customers
- Monetizing your customers
The second item should be first on your list of things to get right. If you can’t keep your customers happy, and keep them using the service, there is no point in worrying acquiring more of them. You will simply be filling a leaky bucket. Rather focus your attention on plugging the leaks.
SaaS businesses are remarkably influenced by a few key numbers. Making small improvements to those numbers can dramatically improve the overall health of the business.
Once you know your SaaS business is viable using the guidelines provided for LTV:CAC, and Time to recover CAC, hit the accelerator pedal. But be prepared to raise the cash needed to fund the growth.
Although this article is long and occasionally complex, we hope that it has helped provide you with an understanding of which metrics are key, and how you can go about improving them.
Acknowledgements
I would like to thank Ron Gill, the CFO of NetSuite, and Brad Coffey & Brian Halligan of Hubspot for their help in writing this. I would like to thank the HubSpot management team without whom none of this would be possible. Most of my learnings on SaaS have come from working with them. I would also like to thank Gail Goodman, the CEO of Constant Contact who also taught us many of the key metrics in her role as board member of HubSpot.
April 2010
The best way to come up with startup ideas is to ask yourself the question: what do you wish someone would make for you?
There are two types of startup ideas: those that grow organically out of your own life, and those that you decide, from afar, are going to be necessary to some class of users other than you. Apple was the first type. Apple happened because Steve Wozniak wanted a computer. Unlike most people who wanted computers, he could design one, so he did. And since lots of other people wanted the same thing, Apple was able to sell enough of them to get the company rolling. They still rely on this principle today, incidentally. The iPhone is the phone Steve Jobs wants. [1]
Our own startup, Viaweb, was of the second type. We made software for building online stores. We didn't need this software ourselves. We weren't direct marketers. We didn't even know when we started that our users were called "direct marketers." But we were comparatively old when we started the company (I was 30 and Robert Morris was 29), so we'd seen enough to know users would need this type of software. [2]
There is no sharp line between the two types of ideas, but the most successful startups seem to be closer to the Apple type than the Viaweb type. When he was writing that first Basic interpreter for the Altair, Bill Gates was writing something he would use, as were Larry and Sergey when they wrote the first versions of Google.
Organic ideas are generally preferable to the made up kind, but particularly so when the founders are young. It takes experience to predict what other people will want. The worst ideas we see at Y Combinator are from young founders making things they think other people will want.
So if you want to start a startup and don't know yet what you're going to do, I'd encourage you to focus initially on organic ideas. What's missing or broken in your daily life? Sometimes if you just ask that question you'll get immediate answers. It must have seemed obviously broken to Bill Gates that you could only program the Altair in machine language.
You may need to stand outside yourself a bit to see brokenness, because you tend to get used to it and take it for granted. You can be sure it's there, though. There are always great ideas sitting right under our noses. In 2004 it was ridiculous that Harvard undergrads were still using a Facebook printed on paper. Surely that sort of thing should have been online.
There are ideas that obvious lying around now. The reason you're overlooking them is the same reason you'd have overlooked the idea of building Facebook in 2004: organic startup ideas usually don't seem like startup ideas at first. We know now that Facebook was very successful, but put yourself back in 2004. Putting undergraduates' profiles online wouldn't have seemed like much of a startup idea. And in fact, it wasn't initially a startup idea. When Mark spoke at a YC dinner this winter he said he wasn't trying to start a company when he wrote the first version of Facebook. It was just a project. So was the Apple I when Woz first started working on it. He didn't think he was starting a company. If these guys had thought they were starting companies, they might have been tempted to do something more "serious," and that would have been a mistake.
So if you want to come up with organic startup ideas, I'd encourage you to focus more on the idea part and less on the startup part. Just fix things that seem broken, regardless of whether it seems like the problem is important enough to build a company on. If you keep pursuing such threads it would be hard not to end up making something of value to a lot of people, and when you do, surprise, you've got a company. [3]
Don't be discouraged if what you produce initially is something other people dismiss as a toy. In fact, that's a good sign. That's probably why everyone else has been overlooking the idea. The first microcomputers were dismissed as toys. And the first planes, and the first cars. At this point, when someone comes to us with something that users like but that we could envision forum trolls dismissing as a toy, it makes us especially likely to invest.
While young founders are at a disadvantage when coming up with made-up ideas, they're the best source of organic ones, because they're at the forefront of technology. They use the latest stuff. They only just decided what to use, so why wouldn't they? And because they use the latest stuff, they're in a position to discover valuable types of fixable brokenness first.
There's nothing more valuable than an unmet need that is just becoming fixable. If you find something broken that you can fix for a lot of people, you've found a gold mine. As with an actual gold mine, you still have to work hard to get the gold out of it. But at least you know where the seam is, and that's the hard part.
Notes
[1] This suggests a way to predict areas where Apple will be weak: things Steve Jobs doesn't use. E.g. I doubt he is much into gaming.
[2] In retrospect, we should have become direct marketers. If I were doing Viaweb again, I'd open our own online store. If we had, we'd have understood users a lot better. I'd encourage anyone starting a startup to become one of its users, however unnatural it seems.
[3] Possible exception: It's hard to compete directly with open source software. You can build things for programmers, but there has to be some part you can charge for.
Thanks to Sam Altman, Trevor Blackwell, and Jessica Livingston for reading drafts of this.
Bloomberg via Getty Images The fiscal cliff, for all its grand theater, really comes down to people in a room trying to come to an agreement. People doing whatever it takes to get what they want from the other side. On today's show, three professional negotiators walk us through techniques that members of Congress may be using right now.
Web And Mobile Revenue Models (final)
Advertising
- Promoted Content - ex. Twitter, Tumblr
- Paid content links - ex. Outbrain
- Recruitment Ads - ex. LinkedIn
- Lead Generation - ex. MoneySuperMarket, ZocDoc
- Affiliate Fees - ex. Amazon Affiliate Program
- Classifieds - ex. Craiglist
- Featured listings - e.g. Yelp, Super Pages;
- Email Ads - as done by Yahoo, MSN
- Ad Retargeting - ex. Criteo
- Real-time Intent Ad Delivery
- Location-based offers - ex/ Foursquare
- Sponsorships / Site Takeovers - ex. Pandora
Commerce
- Crowdsourced Marketplace - ex. Threadless
- Excess Capacity Markets - Uber, AirBnB
- Vertically Integrated Commerce - ex. Warby Parker
- Aggregator - ex. Lastminute.com
- Flash Sales: Gilt Groupe, Vente Privee
- Group buying - ex. Groupon
- Digital goods / downloads - ex. iTunes
- Virtual goods - ex. Zynga
- Training - ex. Cloudera (??), -> Coursera
- Pay what you want - ex. Radiohead
- Commission - ex. SharesPost
- Commission per order - ex. Seamless, GrubHub
- Reverse Auction - ex Priceline
- Barter for services ex. SwapRight
Subscription
- Software as a Service (SAAS) - ex. Salesforce
- Service as a Service - ex. Shopify
- Content as a Service - ex: Spotify, Netflix
- Infrastructure/Platform As A Service - ex. AWS
- Freemium SAAS - ex. Dropbox
- Donations - ex. Wikipedia
- Membership Services - ex Amazon Prime
- Support and Maintenance - ex 10gen, Red Hat
- Voice and video-conferencing - ex. Uberconference
Peer to Peer
- Peer-to-Peer Lending - ex. Lending Club,
- Peer-to-Peer Gambling - ex. BetFair
- Peer-to-peer buying - ex Etsy
- Peer-to-peer insurance/home/car - ex (??)
- Peer-to-peer computing (CrasPlan storage, or SETI@home)
- Peer-to-peer service - ex. Mechanical Turk, TaskRabbit
- Peer-to-peer Mobile WiFi/Tethering - ex (??)
Transaction processing
- Merchant Acquiring - ex. PayPal (Online / Offline), Stripe (Online), Square (Offline)
- Intermediary - ex. IP Commerce (POS 2.0), CardSpring
- Acquiring Processing - ex. Paymentech
- Bank Transfer - ex. Dwolla
- Bank Depository Offering - ex. Simple, Movenbank (spread on average deposits)
- Bank Card Issuance - ex. Simple (interchange fee per transaction)
- Messaging - ex. Peer-to-Peer SMS, IM, Group Messaging
- Telephony - ex. termination/origination in public telephony networks (skype out/in)
- Telephony - ex. termination/origination within private telephony cloud (e.g. native skype)
- Payment Gateways: Mobile -ex. Braintree
- Platform Monetization ("Tax") - Facebook Credits; iO6 30% cut.
Licensing
- Per Seat License - ex. Sencha
- Per Device/Server License - ex. QlikView
- Per Application instance - ex. Adobe Photoshop
- Per Site License - ex. Private cloud on internal infrastructure
- Patent Licensing - ex. Qualcomm
- Brand Licensing - ex. Sesame Street
- Indirect Licensing - ex. Apple Volume Purchasing
Data
- Business data - ex. Duedil
- User intelligence - ex. Yougov
- Real-time Consumer Intent Data - ex. Yieldbot
- Benchmarking services - ex. Comscore
- Market research - ex. GLG
Mobile
- Paid App Downloads - ex. WhatsApp
- In-app purchases - ex. Zynga Poker
- In-app subscriptions - ex. NY Times app
- Advertising - ex. Flurry, AdMob
- Digital-to-physical - ex. Red Stamp, Postagram
Gaming
- Freemium - Free to play w/ virtual currency - ex. Zynga
- Subscription- ex. World of Warcraft
- DLC - (Downloadable Content) - ex. Call of Duty
- Ad Supported - ex - addictinggames.com
Alt title: Words of advice for young developers1.
I’ve realized that my experience as a blogger for larger organizations and someone who has successfully marketed their own app I have some knowledge that not every developer is privvy to. I think it’s a good time to share what I’ve learned; things I take for granted but that could be very helpful to others just getting started.
The following is geared toward independent developers looking to release a Mac or iOS app on a budget. Grass roots marketing for indie devs.
Make a good app
The most obvious step is the most important. If your app isn’t based on a great idea or isn’t fully executed with all the necessary polish, none of this will do you any good. Get opinions from people willing to offer them, and if you can’t get good feedback, find some more testers. This is of utmost importance.
Once you have a polished app that is ready to roll, the next step is getting the press that will put you on everybody’s radar.
Contacting bloggers
Press will make or break your app. Even if you’re releasing on the App Stores — with their built-in marketing mechanisms — you’ll fall to the bottom of the pile nearly immediately. Much like Google, if you’re not near the top, no one is going to see you. There’s very little incentive to dig. Thus, the most important step (in my opinion) is getting the app in front of the people who have the voice to tell others about it.
Pick the most relevant blogs for personalized contact. For a Mac or iPhone app, those are going to include Lifehacker, TUAW, MacStories and similar. Search those blogs for someone who’s covered similar apps in the past and address your contact to them. Blogs often provide a means of contact for individual bloggers. Use that. Don’t try to be sneaky and track down personal emails if they’re not openly provided. If you can’t find an individual’s direct contact, use the tip line for the blog. If you do that, you can address the note to a single blogger or make it more general and hope that they see it. That may take some thought and research as to the most effective method for any given group of bloggers.
Mention previous articles if it makes sense: “As someone who has covered […] in the past, you may be interested in a new app I’ve created…”. Press releases can be effective, but not nearly as much as getting a personalized email in front of the right person.
Keep in mind that you’re one of a multitude they’re going to hear from that day. A proper subject line and opening sentence is going to be vital to have your communiqué read. That being said, don’t try for outrageous. I guarantee that will get you skipped over quickly. Even with the best email contact, though, you’re still vying for the attention of a somewhat fickle group of people. I mean that as no insult to bloggers in general, I’ve just been around long enough to know that even the coolest new apps can be quickly passed over, even on the slowest news day. It all depends on what else is going on, and even on how stressed out or grouchy a blogger is on any given day.
Don’t pester. Seriously. There are a lot of fish in the sea, and a mention on one blog can restore the attention of another blog. If you don’t get a response, move on.
What to include
Don’t send any unsolicited promo codes out when contacting bloggers and press, just make it clear who to contact if they’d like to check it out. That both preserves codes for you and doesn’t come across as desperate for attention. Clearly state what the app does in just a couple of paragraphs (bloggers don’t read long letters, for the most part).
Bloggers like links. It saves time when doing a quick mention and provides the material for deeper research if they decide it’s worth it. Include all of the most relevant links. Link to screenshots (don’t embed them) and your homepage or a press page.
Make sure to include the planned release date, embargoes if you have to, and contact info. It does add credibility to have an email address under the domain of a dedicated website or the company name for your app. Your hotmail address will not make you seem like a serious developer. That’s certainly not a hard and fast rule, but it’s a consideration.
Covering all the bases
Beyond the outlets you select for personal contact, the rest of the blogosphere can be covered with a broader press release. You can cover all the major outlets for about $30. It might be worth shelling out the extra for copywriting unless you’re confident you can handle it. I created a boilerplate with a few tips in it, if you need a jumpstart. Most of those points are covered if you use an organization like PRMac2, which also provides the email list you need to cover all the relevant news organization.
Twitter is suprisingly important. Set up a Twitter account for your app and link to it liberally (from your app’s web page, other social media, in emails…). Twitter accounts for apps often end up being more about support than marketing, but it’s an easy way to stay in touch with the people who are most interested in your app, and gives you a base group with which to start conversations and make announcements that will spread beyond your follower count. Facebook may also be relevant, but I haven’t personally found or seen Facebook pages being nearly as relevant to an app’s success as Twitter. Go ahead and set up a Facebook page, and use Google+, too, but as of today I don’t think they’re your primary source of gold.
You want people to organically talk about your app; a few good Tweets from major sources can get that started. The only way to do that honestly and not have it backfire, though, is to impress the right people and let them talk about it on their own. You can DM those who follow you and ask if they’re interested in promo codes, etc. but don’t be pushy. Once the blogs mention the app, this will generally happen naturally. In any emails you send mention whether it’s ok to talk about it on Twitter and let people know you’d love to have them mention your app. No cheesy Twitter contests, no giveaways at the start, just organic mentions.
Promotions
Once you have some coverage, sales, ratings and reviews, you can consider a promo. Whether it’s through something like $2 Tuesdays or just one you run on your own, that should get its own press release and blog contacts. Unless your app becomes quite prominent, it’s best to time those when other deals are happening and try to be mentioned in a roundup post. A lone sale doesn’t usually warrant a blog post, but if a blog is doing a “Deal Roundup” of sorts, it’s easier to get a mention there.
I’ve found from experience that the occasional discount can produce some major benefits: all the people who saw your app but decided not to get it will suddenly give it a second thought. Those people add up and the lowered price can be more than made up for in quantity of sales. Then you get the runoff: more customers means more reviews and ratings. Assuming those are relatively positive, that boosts the likeliness of future sales to people who want to see average ratings and total number of ratings (total number is quite important, people are more likely to take a chance on an app they can see has a fair number of satisfied users).
In closing
Don’t stop here. Check out what people smarter than me have to say. Steve Sande and Erica Sadun from TUAW have written a book called Pitch Perfect3 which concentrates on effective marketing in this area. If you’re doing this on your own, you should get it.
None of this is guaranteed to work, of course. I’m just sharing what I’ve learned over the years. Even the best apps can fail. Don’t take any of this as strict guidelines; it’s probably safer to take them as the rantings of someone who’s flailed around long enough to go slightly mad, yet had a little success. Nonetheless, best of luck with your new app!
Clients Pay For Value, Not For Time
A few years ago, I was a much-put-upon grunt programmer at a large Japanese megacorp. I go home every Christmas to Chicago, so I was going to be in Chicago during December 2009.
I have an Internet buddy in Chicago named Thomas Ptacek. We met on Hacker News. He's the #1 poster by karma and I'm #2. Since we apparently share the same mental disease characterized by being totally unable to resist comment boxes, I decided to invite Thomas out to coffee. My agenda, such that it was, was to gossip about HN threads.
Thomas runs a very successful webapp security consultancy, Matasano. (Brief plug: they're hiring and if it weren't for this business thing I'd work there in a heartbeat: some of the smartest folks I know doing very, very interesting work which actually matters. If you can program they'll train you on the security stuff.)
Anyhow, after we got our coffee, Thomas invited me into their conference room. We talked shop for three hours: Thomas and his VP wanted to hear what I'd do to market their products and services offering. I had been writing about how I marketed Bingo Card Creator for a while, and started applying some of the lessons learned to their content creation strategy.
(The actual contents of the conversion are not 100% germane to the story, but I blogged a bit about it and Thomas posted his thoughts on HN. Long story short: programmers can do things which meaningfully affect marketing outcomes.)
At the end of the conversation, Thomas said something which, no exaggeration, changed my life.
Thomas: Some food for thought: If this hadn't been a coffee date, but rather a consulting engagement, I'd be writing you a check right now.Me: Three hours at $100 an hour or whatever an intermediate programmer is worth would only be $300. Why worry about that?
Thomas: I got at least $15,000 of value out of this conversation.
You'll notice that I immediately thought the proposed transaction was time-for-money, but Thomas (the savvy business owner) saw the same conversation as an exchange of business-results-for-money. He correctly anticipated that Matasano would be able to take that advice and turn it into a multiple of $15,000. (They did, within two weeks, but that isn't my story to tell.)
This is, far and away, the most important lesson to learn as a consultant. People who are unsavvy about business, like me in 2009 or like most freelancers today, treat themselves like commodity providers of a well-understood service that is available in quantity and differentiated purely based on price. This is stunningly not the case for programming, due to how competitive the market for talent is right now, and it is even more acutely untrue for folks who can program but instead choose to offer the much-more-lucrative service "I solve business problems -- occasionally a computer is involved."
So after this conversation, I stopped saying "I don't think I could do that" when companies asked me to work with them... and I also stopped calling myself a programmer.
I could literally talk for several hours on properly pricing consulting services. Erm, strike that, I literally have. Ramit Sethi and I talked about it for a few hours (here and here, with transcript). It was also the topic of a recent podcast episode with my cohost Keith Perhac and Brennan Dunn, again available with transcript. Read those. People have told me that, in aggregate, they've made hundreds of thousands of dollars just by walking their rates up as a response to those interviews. (Brennan also writes a book about concrete strategies to do that. I bought a copy myself. It is worth your time.)
I wish I could tell you that after speaking to Thomas I had a sudden burst of enlightenment on this topic, but that would be a lie. When I started consulting several months later, I went straight back to $100 an hour "to get my feet wet", but did learn one thing from the experience: I charged weekly rates.
Charging Weekly: It Makes Everything Automatically Better
What's the difference between $100 an hour and $4,000 a week? Aren't they mathematically equivalent? No. Weekly billing strictly dominates hourly billing.
- Weekly billing means you never waste time itemizing minute by minute invoices ("37 minutes: call with Bob about the new login page").
- Weekly billing means you have uninterrupted schedulable consulting availability in weekly blocks, and non-billable overhead like prospecting or contract negotiations happens between the blocks (when you weren't billable anyhow) rather than during the workday (when, as an hourly freelancer, you are in principle supposed to be billing).
- Weekly billing makes it easy to align units of work to quantifiable business goals, where those goals dwarf the rate charged.
Weekly billing also does wonderful things for pricing negotiations... because you'll stop having them. When I write a proposal for an engagement, I typically write a list of things we can do and my estimate for how many will fit into 1, 2, or 3 weeks. If clients don't have 3 weeks in the budget, we can compromise on scope rather than compromising on my rate.
If you quote hourly rates rather than weekly rates, that encourages clients to see you as expensive and encourages them to take a whack at your hourly just to see if it sticks. Think of anything priced per hour. $100 an hour is more than that costs, right? So $100 per hour, even though it is not a market rate for e.g. intermediate Ruby on Rails programmers, suddenly sounds expensive. Your decisionmaker at the client probably does not make $100 an hour, and they know that. So they might say "Well, the economy is not great right now, we really can't do more than $90." That isn't objectively true, the negotiator just wants to get a $10 win... and yet it costs you 10% of your income.
When you're charging weekly rates, the conversation goes something more like this: "So you don't have $12,000 in the budget for 3 weeks? OK. What is the budget? $10,000? Alright, what do you want us to cut?" You can then give the negotiator something to hang his cost-cutting hat on while still preserving your ability to charge your full rate in this engagement and all future engagements. (Word to the wise: no client, anywhere, likes giving up discounts after they've been given them. I have ridiculously successful client relationships where I, stupidly, cut them a discount years ago and I'm still paying for that decision.)
So I bet you're wondering how I got from $4,000 a week to $X0,000 a week. Sadly, no silver bullet: I just climbed a ladder of project importance, gradually (over ~20 engagements and ~2 years) accumulating wins and using each win to get me to the next rung of the ladder. Let's look at how.
Getting Clients: The Importance Of Social Proof
One of my first consulting clients was Fog Creek Software. They got in touch with me after having read my blog and forum comments for a while. We've done the odd gig together over the years, beginning with a relaunch of their marketing site for FogBugz (writeup here) and continuing with a very fun project that will be written up on their blog Very Soon Now (TM).
People occasionally tell me that my strategy is not replicable because I'm, air quotes, "Internet famous." Back when Fog Creek got in touch with me, my blog had a few hundred readers on a very good day. I never demonstrated (and don't possess) untouchable genius unmatched by anyone before or since... I simply talked openly about things that worked.
I always ask to follow a successful consulting engagement with a case study. My pitch is "This is a mutual win: you get a bit more exposure and I get a feather in my cap, for landing the next client." Case studies of successful projects with some of my higher profile consulting clients (like e.g. Fog Creek) helped me to get other desirable consulting clients. Very few clients turn down free publicity, particularly if you offer to do all the work in arranging it.
If you can't get a public case study (do all the work for them and just ask for their approval -- this makes it very easy to say "Yes, go for it."), there are intermediate options. One is to ask for them to just OK a one or two sentence testimonial about working together. Write this testimonial for them and ask if they want to make any changes to it.
Here's a bad testimonial: "Patrick is smart. We enjoy working with him. -- A Client" That testimonial does not resolve the #1 issue in your prospect's head: will this engagement make the business more than it costs?
Here's a much more persuasive testimonial:
Patrick's advice on starting a drip campaign for WPEngine was an epic win for us -- it permanently moved the needle on signups after just a week of work. And it's easy to measure and therefore to improve.-- Jason Cohen, Founder & CEO, WPEngine
"Permanently moving the needle on signups" is one of the most persuasive things you could possibly offer a SaaS business. (It sure sounds better than "He wrote 8 emails. They were good!")
That testimonial is in Jason's own words, but I hinted in the direction of what would be useful for him to say. (The main change he did was striking a number that I had suggested.) Notice that this testimonial, even with that edit, remains specific, focused on a business result, and highly credible. In a discussion with a new prospect, their big worry is "Can Patrick do something valuable for me?" and "If I have him do it, will it generate a wildly positive result for the business?" Jason's testimonial assuages both worries.
If you can't get either a writeup or a public testimonial, at least ask for a private reference. I have a few from companies which I can't publicly mention as clients. They sometimes help sway people who are on-the-fence about hiring me, particularly companies which are at the upper end of places where I could reasonably work. (I'm being oblique here. Sorry, nature of the business. I can reasonably work for Fog Creek / WPEngine, and in fact have. I couldn't reasonably be entrusted with strategic level projects at, say, Google. There exist a few order-of-magnitude jumps in between those two. Periodically, I try making one of those order-of-magnitude jumps. When I successfully manage one, I will -- naturally -- ask to do a public case study.)
I occasionally joke that every time I get a new case study, my weekly rate gets another zero, but that is directionally accurate. My first rate was $4,000 a week. It is now several multiples of that, all justified by "A client very similar to you paid my prevailing rate and had $THIS_FABULOUS_RESULT. If I could do that for you, what would it be worth?", with rates moving up every time I was comfortable doing so. (Both in terms of "My pipeline is sufficiently stuffed such that losing engagements over price shock is not a problem" and "Even at 25% more than what I charge right now, I'm still confident customers will have a successful outcome from working with me.")
Scaling A Consulting Business
I don't do consulting full-time because I enjoy running my own businesses more. That said, there are a couple of ways to take a consultancy and scale it. They're fascinating, since you can layer so many different business models onto the base money-for-time offering.
If you do well by your clients, you'll soon have too much work to handle. You've got two options at this point: raising your rates and turning away work in excess of your capacity to deliver, or raising your capacity, typically by hiring people. (Working more hours has serious scaling challenges... another reason to do weekly rates, by the way, as many folks working hourly succumb to the temptation to bill "just another hour" and end up with miserable work/life balance.)
Anyhow, you can either hire other people on a per-engagement basis (a freelancer managing freelancers, like my good buddy Keith Perhac) or you can have full-time employees who you charge out to customers, like Brennan Dunn's Rails consultancy. We talked in-depth about these models in our podcast recently.
The big surprise to me, when I investigated this as an option, was that you have to be very careful to maintain your margins. I once had the bright idea, back when I was charging $5k a week, to bring in someone at $4k a week and pay them $80 a hour. $800 a week for doing nothing, right?
That's a catastrophically bad idea. In addition to having to cover your overhead, when you're sitting between a client and your employees' paychecks, you are absorbing significant risk of non-payment or delayed payment. Your payroll check needs to clear on Friday regardless of whether the customer has paid their invoice yet. There are occasionally terrifying cash flow swings in the consulting business... heck, that is practically the definition of the business.
Ooh, let's do story time. Earlier this year I got married. Weddings are expensive. You don't get any significant price break for buying two of them at once, which I did because my wife and I are from different countries and we wanted to include everybody. I recommend getting married, assuming you've found the right person, because how else are you going to have conversations like "You should pay $500 for a single balloon" and find yourself saying "That sounds perfectly reasonable, but only if we could pop the balloon immediately on receiving it."
One particular portion of the wedding cost $30k. I anticipated that $30k of receivables (work that had been done but hadn't been paid for yet) would turn into $30k of wire transfers prior to the wedding hall needing the money. They didn't. There was nothing unusual at all with this state of affairs: collecting invoices is like trying to dance the samba while simultaneously juggling, and I missed a ball or two. I ended up putting that on a credit card for a few weeks while waiting for my business to sort things out.
If you have two employees, you can easily have a wedding worth of cash go out the door every two weeks. Accordingly, you need to be better at cash flow management than I was. One way to do it is by charging your employees out at a rate substantially higher than you pay them, and then using the difference to build a cash-flow cushion. (Brennan recommends having $30k around per employee prior to scaling to your next hire. That strikes me as a great start.)
Concrete example: If you charge someone out at $4k a week, you should reasonably think of paying them on the order of $60 an hour (if they're freelancers).
Things get even more difficult if you hire full-time. You have to worry about maintaining utilization of your team -- i.e. always having work for them ready to go, because they get paid whether or not you've got them scheduled. In general, you should shoot for about 70% utilization, or them working 3 weeks a month. Let's say you hire an intermediate Rails developer at market rates: $8k per month. This costs you about $12k after you pay for taxes/health care/etc etc. (Employee benefits: welcome to being a business, please enjoy your stay.) You'll need to hire them out at in excess of $6k a week to accomplish that safely, at 70% utilization.
The economic returns to running a consultancy come largely from "leverage": being able to bill out your employees, as opposed to walking up your own rates as the principal. (Many principals find that their take-home goes down after hiring employees, at least for a while, while they iron out the kinks of cash flow and pipeline management.) After you're at 3 employees, even at a fairly healthy rate for yourself, you're probably making half your money on your billings and half on the margin between what your employees cost and what you successfully bill them for. This scales right on up, with the additional wrinkle that as one has more employees one spends more time on non-billable overhead (prospecting, HR, business administration, yadda yadda) and less on what you got into the business to do.
A necessary collorary to this: the principals of a technical consultancy do very well for themselves. I don't know if that is a secret but it certainly isn't well appreciated: nobody says Occupy Boutique Rails Consultancies, but the principals of them do end up in the 1%.
Hybridizing Consultancies With Product Businesses
Over the years I've seen a few people run product businesses concurrently with consultancies. (And I do it myself.) Some of the models are very interesting, but they're not obvious.
Probably the most common one is using the consulting revenues to underwrite product development. For example, 37signals and Fog Creek both started as web development consultancies. There are quite a few products produced along the same model these days: the principals hire themselves out at generous rates, only take modest salaries, use the difference to hire programmers at market rates, and have the programmers build the product they wish to sell. This has a lot to recommend it over e.g. bootstrapping the product from nothing (everyone gets a paycheck every two weeks) or e.g. taking investment (it is hard to close $20k in angel investment but easy to close $20k in consulting contracts, and if the product takes off, you can stop consulting but you can't conveniently forget ever having been invested in). Consulting also helps develop generic business skills (which are very applicable to product businesses) and helps expose you to the problems of companies which pay money for solutions to problems, which makes customer development for your products much easier. (You can even share sales channels.)
The recent course on lifecycle emails which I made was a variant of this: it is a productized consulting offering. Basically, I took an engagement that I've delivered five times now and said "How could I refactor this engagement such that I can deliver much of the value for near-zero marginal time investment?" The answer was collecting my expertise and experience in a package that customers could use to self-direct themselves through implementing the advice. It seems to have worked out really well for many customers: instead of paying me $X0,000 for a week they can pay $500 to hear much of the same advice. It worked out very, very well for my business, too: I got approximately 1~2 weeks of consulting revenue without needing 1~2 weeks of on-site availability, and I now know that it will work if I want to repeat the experiment.
Another popular offering for consulting firms is to offer training workshops. For example, if you are an expert in a particular field, many companies are willing to pay for you to train up internal experts at their company. You can either convince one client to pay for a 1-, 2-, or 3-day event, or sell tickets to one which you put on for yourself. Typical rates I see for internal training range from $5k to $15k per day depending on what is taught and to whom. For public training, price points in the $500 to $1,500 a ticket range are common. Why is that a hybrid product offering as opposed to being straight consulting with a different charging model? After you have the curriculum/courseware for the engagement mapped out, you can then scale delivery of it almost arbitrarily: the cost of a trainer to deliver a day-long workshop in e.g. optimizing Postgres performance is much cheaper than someone who can actually optimize Postgres performance at an arbitrary company, and they're (relatively) common. You could take your single expert's knowledge and then package it up in several dozen workshops delivered in-person or online, with delivery performed by folks hired for the purpose. Amy Hoy and Thomas Fuchs used to run in-person and then online Javascript performance training workshops. It worked out very well but the rest of their businesses basically ate their availability. Sometimes billing $25,000 for a day just isn't worth the opportunity costs. #firstworldproblems
Many consulting companies shut down their availability after successfully getting a product business going. That isn't a law of nature (Pivotal Labs' consulting arm survived Pivotal Tracker, for example), but after you've figured out scaling for a product business (highly non-trivial), they often scale so well that continuing with the consulting would be economically irrational.
Is This Interesting To You?
This is a bit off the beaten path for my writing, but a lot of you asked for it over email, and I seem to get strong responses when I post about it publicly. If you want to hear more like this, hit Reply and tell me what, specifically, you'd like to hear about. I tried to keep this fairly generic but if you want to hear a deep-dive into e.g. how to sell consulting clients on A/B testing or just want to hear what is in my bag-of-tricks I'm happy to oblige.
I also look forward to doing some more writing about software in the near future. If you've got a particular topic you want covered, drop me an email. I read them all and respond to most. (n.b. A belated Happy Halloween. Sorry for the few months of dead air -- six weeks of international travel plus the busy season for my business coincided, and that cut down a bit on my available time to write these.)
Until next time.
Regards,
Patrick McKenzie
P.S. Quick plug: Brennan Dunn has a podcast on consulting. They're at six episodes now and they're all fantastic and, moreover, actionable, like on how you can use content marketing as a lead generation tool. I'd definitely suggest listening to them at the gym or whatever.
It’s 4.50am. Sunday morning. And I couldn’t sleep. I have much on my mind since I just returned from a week on the road. 5 days. 3 cities.
Late night Mexican food. Beers. Airports. Delays.
I left on a Sunday. I had to miss a full day with my family, camping in the mountains. I returned home Friday night at 10pm – too late to see my kids.
I’m reminded of this feeling. It’s all too familiar. It’s what life was like as an entrepreneur. I didn’t sleep much back then. I was on the road much and I internalized much of the stress so that others didn’t have to.
And so it goes again. I’ve been on the road much of 2012 and part of 2011. According to the SEC we’re not allowed to market the fact that we’re fund raising, so I won’t. But for some strange reason they make you file your progress on fund raising, which is the widely picked up by the press. Go figure.
So it is now publicly known that we have closed $150 million in our 4th fund. Ok, well, it’s more than this but I’m not allowed to tell you specifics. I plan to write about it early next year when we’re all through. We have a little more to go until the finish line. It has been a fascinating experience. But now you know why I’ve had many nights away, many airports and much time on the road.
And why I woke up at 4.50am. But this is nothing like the stress of being an entrepreneur. As I’ve written about before, You’d Have to be a Big Baby to Complain about Being a VC.
What’s it really like being an entrepreneur?
That was the topic of my keynote at Seedcon, an event hosted by the University of Chicago, where I am a graduate of the MBA program.
I like to speak about this topic with first-time wantrapreneurs because if you read the tech press every day you’d get the impression that it all glamor. It’s not.
You’d imagine that every founder was getting rich. Actually, positive outcomes for founders are quite rare. You probably follow some high-profile entrepreneurs on Instagram and Twitter and see conference pictures of them in Davos, Mexico, Monaco or wherever. You might be psyched out into thinking you’re doing something wrong for being in your shitty little windowless office. Clicking on their glam party pictures. You’re not. You’re where you should be.
There is a difference between a Conference Ho and a successful entrepreneur. But it’s hard to know that from the press. From the Instgram and the Twitter.
As a startup founder you rarely have much money in your bank accounts. Neither in the personal nor business account. That’s stressful enough.
I recently had coffee with a young friend who just finished his first startup. It didn’t end how he would have liked. But he learned. And he’s young. And I’m certain he’ll bounce back.
He told me,
“I have $6,000 in my bank account. Throughout the course of last year I never had more than $8,000 in my account.
I want to do this again. But I have to be careful. Maybe I need to do slightly later stage.”
He probably didn’t know but he has more in his account than most Americans so there’s that. He had raised nearly $500,000 from investors. Many are well known. He shut down his company gracefully and even thought it must have felt like a crap sandwich doing so I’ll bet his reputation is still solid with his backers.
Think about it – most entrepreneurs who manage to raise seed money or venture capital usually raise enough money for 12-18 months maximum. Many times it’s less. So at any given point you are likely operating with a maximum of 9 month’s cash.
And yet you have to ..
- Recruit employees in the blind belief that the amazing job they’re quitting to join you will be worth it in the long run
- Sign up customers who are paying you money for a service you can’t 100% guarantee is going to be operational for the full period that they’re expecting
- Tell the press how great you are and hope that they aren’t publishing your obituary 9 months later rendering you a fool.
- Tamp down the enthusiasm your naive family has about your “impending IPO” (honey, when can we buy shares? Uncle Morty wants to know) from “your successful daughter” (we’re so proud of her! she’s so successful! we always knew she would be. she was so precocious in high school. that’s my daughter – did you see her mentioned in the New York Times!) Shit, ma, stop sayin’ that. I don’t want you to have to eat humble pie with your friends next year!
- Raise money. Need money. More money. Yes, please give me money. No, I don’t really know if I’m going to be able to return it. But without it I know I’m forked. I need it. So I’ll ask anyway and hope like hell I don’t have to avoid you at future cocktail parties. Quick – why don’t entrepreneurs celebrate when they raise money? Because they know that they’ve just signed up for much more obligation.
Early on in my first company I had an employee ask if it was a good time to buy a home. We had less than 6 months’ cash in the bank. I was pretty sure we were going to raise another round of capital. But not sure, sure. I mean you never know if your investors are REALLY going to keep backing you. And you can’t go around telling all of your employees your deepest insecurities about it or you’ll soon have no more of said employees.
Trust you? Yeah, I trust you. But why don’t you just give me the damn term sheet you promised so I can trust you even more.
You have secret doubts about your co-founder. She seems depressed. And she isn’t pulling weekends anymore like you are. I know, right? Total bullshit. She’s just not as committed as she once was. I don’t think she really believes any more. If I told my VCs would they then lose interest in our next round? Would they blame me? Would they back me or think I had gone off the rails?
So Facebook just announced that they’re going to compete with you. Apple announced that they’re shutting down your category. Salesforce.com just bought your main competitor. Your main competitor just raised $75 million and took all of the oxygen out of the room.
Far fetched stuff. If you’re not an entrepreneur. If you’ve been one for a while you know how much you fear every WWDC. Every F8. Or DreamForce. What announcements are going to crush you? [I wrote about what to do when this happens here.]
My biggest fear as an entrepreneur? I was worried that I was going to get married and be on the altar unemployed. “There’s my son. He should have been a doctor like his father!” Truthfully, that’s one of the things that kept me going. I didn’t want to disappoint.
I didn’t want to disappoint my parents. My wife. My employees. The press who trusted me enough to report on our successes.
I didn’t want to disappoint my customers. People seldom understand that when enterprise customers choose your software it isn’t just a purchase order. It’s a human being inside the buying organization who has trusted you. He went to his bosses and asked for budget. He beat down the other factions that wanted to choose your competitor. He has staked his reputation on a project to use the software of some shitty 2-year-old startup company because he believes! In you.
So you ask why on Earth being a founder is stressful?
No, it’s not as bad as working in coal mines. But it is quite the roller coaster and the stress is real. Some people love roller coasters. Others prefer a smoother ride.
One of the most asked questions I get about being a VC who was formerly an entrepreneur is if I ever miss being an entrepreneur? Do I ever want to go back to it?
Of course I do! How could you not want to go back to it. It’s addicting. It’s an adrenaline rush like no other.
I often answer this way:
It’s like sports. If you have a chance to be on court and shooting 3-pointers as the game clock is winding down OF COURSE you still want to be on the court. There is no comparable feeling from the sidelines.
Yet one day you wake up and you realize you can’t run as fast as the young guys. You can’t quite hit the 3-pointers as often. Yes, you have maturity that makes you a wiser player. But you realize that you can be more helpful as a coach.
And yes, I sleep better at night as a coach. And I’m happy as a VC.
Remember that if you choose to be an entrepreneur or to at least try – it’s stressful for everybody who does it. Your competitors have just as much angst as you do. You read their press releases and think that it’s all rainbows & lollipops at their offices. It’s not. You’re just reading their press bullshit. They have their secret doubts. And they’re in their offices reading your press releases and wondering why life is much easier for you. And they’re fighting with their co-founders and struggling to ship code on time.
As I like to say, “we’re all naked in the mirror.” We stare at our own imperfections. And then we go out everyday and see everybody else in their fine threads and wonder why it’s much easier for them.
Being an entrepreneur is about finding your inner self confidence.
- To be constantly told “it won’t work” but to keep plugging away anyways.
- To be kicked a lot and still keep standing.
- To hide your demons so that you don’t scare the bejesus out of your employees.
- To inspire others to join your cause when by all rational accounts they should not.
- And having the cojones to have them join you anyways. Pottery Barn rule. You hire them, you own them now. As in your responsible for these lines on their future resume. Don’t fuck them up.
- To swallow your stresses and insecurities and keep your optimistic game face on in the office. And on your home front. Maybe even try to believe it in your own head.
- It’s about wanting the right speaking slot at an important conference and hounding the organizer until he lets you do it.
- It’s telling your creditors that you need 60 extra days to pay. Please. Yes, most entrepreneurs will be nodding their heads right now. Not fun, hey? But that’s what it takes.
- Firing? Hell, get used to it. It’s a necessity. You better be good at it. Develop a thick skin for it. Not put off the difficult fires. You don’t have the spare budget to suffer fools. Hire fast, fire faster.
- Friday night in the office while others are at the bar. Sundays in the back of a plane. Center seat. Smelly dude next to you.
- Investor emails. They are forwarding you set another mother fucking link to an article about your competitors. And wondering why the hell are we not doing THIS like they are. Enough already!?! I told you not to worry about their move into Latin America. I promise you that won’t be a bit market for us. What? No, I’m not worried that they’re higher in the App Store charts than us. They’re paying for traffic. Paying I say! They can’t have a positive LTV on these downloads. You want me to throw around my money like that too, bro?
Hell, I send those emails. I’ll admit it.
Entrepreneurshit. It never ends. It’s not all glamor. It’s mostly not glamorous at all. It’s just something you have to do. Often because you’re unemployable. Your impertinence would get you fired in 2 days for telling your boss he’s a fuck wit. And it’s why you probably will quit on day 366 after the acquisition.You’re unemployable. You’re an entrepreneur.
It’s not for everybody and you shouldn’t feel bad if you aren’t one of those that chooses this life. You’ll probably be healthier and wealthier. Despite the fact that only the Lotto winners get reported. Many more people play.
But if you do want to go for it, don’t wait. It doesn’t get easier later in life. It gets harder. You’re probably going to fail or have limited success. The math says so. So better that you try as young as you can when failure is easier to bounce back from. When you can wear it as a badge of honor.
I’m not ageist. I’ve backed several entrepreneurs in their forties. No problem. I’m just telling you that if you’ve never done it before and WANT to then the earlier you try, the better. That’s all.
Good luck. Enjoy the ride. I’ll be routing you on from my far comfier seat on the sidelines. Secretly. Wishing. I were still in the game.
If you want to read more on the topic:
** Images from top were from this week’s travel. The left hand side was dinner, terminal 3, Chicago O’Hare. The right hand side was the view from my two-hour delay at Newark Airport. Nice view, actually.
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What you should know before you launch your productThe common refrain “We don’t know anything until we launch” is completely false. Here’s why.
At a recent design meetup here in Boston I was talking to a product manager who was anxious about an upcoming release. He was talking about several new features they were adding that they had high hopes for but didn’t know how well people would use them. To sum up his thoughts he said “Well, we’ll just have to wait and see what happens after we release. We don’t know anything until we launch.”
My first reaction was to agree wholeheartedly…it just sounds right. And I have long been fond of this quote by Mike Tyson: “Everyone has a plan until they get punched in the mouth”. So I agreed with his notion that you can’t know anything until after you release your product.
This product manager isn’t the only one who thinks this way. Every day I hear someone say or write about how you just have to release your product to know anything at all…there is a general ethos that shipping is the only way to know if something is going to work or not. And it’s the way software is going…tools that let us ship faster and faster lead us to believe that shipping is the only crucible upon which wisdom is gained.
What you CAN’T know
Yes, it’s true that there’s a lot you can’t know when you release. Some things are just not predictable until your product actually hits the market and people use/purchase/try it out in a real setting. Here are the big things you can’t know:
- You can’t know if your product is going to succeed.
- You can’t know if you’ll make lots of money.
- You can’t know if you’ll have a high viral growth coefficient.
Each of these things are answered only by the actual market, the group of people who you end up offering your product to. Just like an Olympian can’t know if they’re going to win a medal without actually performing on game day, you can’t know if your product is going to be a success in the market without actually releasing it to the market. But that doesn’t mean the only way to learn anything is by shipping.
What you CAN (and SHOULD) know
There are many things you can…and therefore SHOULD, know before you launch. Most of these things are crucial to the success of your product and therefore greatly affect your success in the market. Knowing these things earlier will help you improve your chances when you do end up launching.
- How usable your product is: You can know if your product is easy to use. Not just whether people can use it, but can they use it well. It is easier to use than what they currently have, or is it harder?
- How clear your messaging is: You can know if your product is easily understood in the marketplace. This is crucial for new products…even if they are easy to use do people understand what purpose they serve and whether or not they should pay attention to them?
- How valuable your product can be: You can know if your product is valuable to someone, not everyone. Do they enjoy using it and find value in it over time? This is essentially what we need to know in order to have a successful product, and it’s possible to find out with a small group before launch.
Not only that, but you can know some of these things before the first line of code has been written. Before you even hire a developer, you can have a working, clickable prototype that gives you confidence you’re heading in the right direction.
So how much can you know? A lot. How confident can you be before a release? Very.
The Basic Tools
With a simple toolkit you can have all of these things.
- Clickable mockups. Clickable mockups are interfaces that don’t really work but are clickable and appear to work. You can use these to get a tremendous amount of insight into the value of an interface without ever writing a line of code. We use these very successfully at HubSpot to know if we’re on the right track…just last week we completely changed direction because the clickable prototype we were using just wasn’t the right model, saving a tremendous amount of time down the line. You can easily create clickable prototypes in Adobe Fireworks or with tools like Invision.
- Usability testing. Usability testing is the best method to give you specifics about what’s working and what’s not working in an interface. It gives you details that no other method gives you, such as whether an interface element makes sense or whether button text is right. If you believe that details make all the difference then you must usability test. Don’t trick yourself out of usability testing by saying you’ll get plenty of feedback from real users when you launch…while that’s valuable it’s a different type of feedback. Test both clickable prototypes or live software.
- Private beta periods. Once you’ve tested clickable mockups and moved on to build the actual software, roll it out in a private beta. You can tell a lot about whether or not people will actually adopt something by giving it to them this way. It won’t tell you much about the finer details like usability testing but private beta testers do give you a good coarse look at usage and anything bigger you might have missed. If you can’t get people using your software in a private beta, then you probably shouldn’t launch.
Usability testing and interface prototyping give you something most people lack when going into a launch: confidence. They can’t say whether your venture will be a success, but they can tell you if people find what you’ve built easy to use and understand. That’s half the battle. And just like an Olympian practices every day for years before they finally step onto the field, you should be testing and prototyping most every day until your product has proven itself ready to launch.
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In this post, I would like to share a few tips and lessons anyone can use to meet influential people in their life. I developed some of these habits throughout my life and was able to meet a lot of interesting people, Steve Wozniak and Dmitry Medvedev (former President of Russia) among them.
1. Be Proactive
In college, I was a co-founder of an organization called The Kairos Society. It started out as a simple idea of uniting student entrepreneurs in colleges in the U.S., but very quickly grew to become a globally recognized organization (see video below). It wasn’t easy and along the way, we failed more times than we succeeded. Initially, we couldn’t get elite universities to join us, few of the world leaders wanted to support us and we barely had any funding. Our initial momentum was slowing, and it wasn’t until we got Bill Clinton as an advisor that our fate has changed. No, it wasn’t easy!
2. Don’t Give Up
So we had a crazy idea that Bill Clinton will support our organization because it was empowering student entrepreneurs. We tried to e-mail him on a bunch of e-mail addresses we thought would belong to him, no luck. We tried mailing him, again no response. Then, we realized that he was going to be at a charity event in New York and decided to act. We e-mailed charity organizers, telling them about The Kairos Society and begging them to be invited to this event. After much deliberation, they agreed. We drafted up a letter and Ankur (President) went to the event. There he approached Bill Clinton and invited him to join Kairos. To our surprise, he agreed.
The Kairos Society: A Look Back at our First 5 Years from The Kairos Society on Vimeo.
Exercise: You can reach anyone you want in this world and as an exercise, you can start by picking a person you want to reach and trying a number of e-mail combinations that they can be associated with. If they are affiliated with charities or even their companies you can try the following (sitedomain.com is domain url of organization they are associated with):
- first letter of their first name and their last name @ sitedomain.com (For example, if full name to be Alex Debelov at virool.com, it will be adebelov@virool.com)
- first name dot last name @ sitedomain.com (i.e. alex.debelov@virool.com)
- first name @sitedomain.com (i.e. alex@virool.com)
- last name @sitedomain.com (i.e. debelov@virool.com)3. Have No Fear
My senior year in college, I won some business competition as a result of which I was invited to participate in the Youth International Economic Forum in Russia. The perk was that the flights and lodging were paid for and I got a chance to attend an uber exclusive St. Petersburg International Economic Forum (think Davos of Russia).
While there, I attended a panel, Internet The New Economy, in middle of which President of Russia at the time, Dmitry Medvedev, decided to walk in and listen. The room had around 200 people in the audience and 5 people on the panel. The President carefully listened to what panelists had to say, then he stood up, gave a speech and proceeded to exit through the backdoor that he entered. Luckily, I was sitting in front row, near that backdoor and decided to act. I stood up and approached him, his closest bodyguard extended his arm to stop me and that’s when I said in Russian, “I am a co-founder of the world’s largest student entrepreneurship organization, can I speak with you?” I am not sure why, but the President turned around and said, “Sure. Come here” and we went out through the backdoor.
In a 10 min meeting I had with him, I gave the best Kairos pitch ever in my life and told him that I believe more young people in Russia would become entrepreneurs if they had the right role models to look up to. He agreed. Then I proceed with an idea of organizing a conference in Russia with his help to inspire Russian students. He loved the idea and told me to get in touch with his advisor, who was standing next to him. I got his advisor’s info and returned to my seat.
Five minutes didn’t pass as 4 guys in black suits and earpieces approached me and asked me to come with them. They were President’s security and they were detaining me on a premise that no one has meetings with a President like that. I was brought to a separate house on the grounds where the conference was taking place and was detained for 2 hours, during which they did extensive background check. They turned out to be nicer than I expected and when they released me, they told me that I should come to Russia more often.
Photo from my meeting with President of Russia, Dmitry Medvedev
So I did. Six months later, Innovation Convention took place with the help of President’s Administration. I was able to get a group of Silicon Valley leaders to come to Russia and it became a highly publicized event. A lot of people were inspired, and I hope a lot of young people started companies as a result.
Takeaway:
- If you see someone famous, or someone you highly respect, don’t be intimidated by them. Remember, all people are made up of water, breathe the same air, eat the same food and regardless of their stature and achievements, they are no different from you and I. Always remember that there is no one better or worse than you in this world.
- If you do come in close contact with someone you would like to meet, don’t be intimidated, approach them!
Exercise: I would suggest trying to make friends with strangers. Going to conferences and doing this can be a good start, but even in a coffee shop starting a conversation with a stranger can be a great tool in helping you build self-confidence.
4. Have a Sense of Purpose
Having a mission in life and what you are trying to achieve is very important! I think the reason why people would be interested in speaking with you is if you have a defined sense of purpose. I am sure if I just approached President of Russia and told him, “would you like to grab a cup of coffee with me?” he would have not taken a meeting with me. So whenever you meet someone, just have a defined sense of what you are trying to achieve
5. Be Genuine
When I first arrived to Silicon Valley, I booked a hotel on hotwire. I was placed in Fairmont Hotel in San Jose for 2 nights. When I arrived to checkin the first night as I was going through the lobby, I saw a very familiar man talking to someone. I couldn’t recognize the person right away, so I looked up “Steve Wozniak” on my iPhone. To my surprise, it was him.
I quickly approached and introduced myself, “Hi, Steve. My name is Alexander Debelov and I am a huge fan of your work”. Steve replied, “Are you Russian by chance?” To which I said, “Yes, how did you know? Is my accident that evident?’” and he replied, “Not really, I just have a lot of good engineer friends who are Russian”. And from there on, we just started talking. Three hours later, Steve realized that it was almost midnight and he needed to leave. I thanked him for his time and told him how awesome it was to make such a cool first friend in the Valley. Steve exclaimed, “Wait, you just moved here and don’t know anyone? Do you want to come play Segway Polo with me and make some friends?” Obviously, it was an offer I couldn’t turn down.
Playing Segway Polo with Steve Wozniak
Takeaway: whenever you meet someone be genuine. There is a lot of deception in this world and people enjoy talking to people who are trustworthy. Whatever you do be genuine and honest. You don’t need to make yourself sound better than who you are, you don’t need to hide your failures, we are all humans and we all have faults. When you engage in conversations with people you meet, regardless of their status, you don’t need to make yourself sound better than who you are. If you have a sense of purpose and you are genuine and you follow through on what you promise, believe me, people will respect you and you will go far!
6. Develop relationships
When I got an opportunity to help organize a conference in Russia (Innovation Convention), Woz was the first person I reached out to about becoming a speaker. After some deliberation (he travels a lot), he agreed and went to Russia with me and a group of other Silicon Valley speakers for a week.
You can meet people and have a lot of acquaintances, or you can get to know a few of them and really become friends.
Whenever you meet someone, just keep in touch, invite them to parties, invite them to conferences and trips. Develop relationships – meeting someone is cool, but knowing someone is way cooler!
Woz at the Innovation Convention
Takeaways:
Dream Big – Kairos was a small organization with a few universities on board (5-6 at the time), but we had big ambitions. There is no such thing as a dream too big or ambitions too large. Dream big, life is too boring otherwise
Be Proactive – it’s easy to find anyone’s e-mail, LinkedIn or them giving a speech. Stop making excuses, if you want to meet someone you can.
Don’t Give Up – You are going to face many challenges in your startup and life, after you lose a battle, always jump back up to your feet and continue going.
Have No Fear – start conversations with strangers everyday
Have a Sense of Purpose – I knew what I wanted to accomplish in my 10 min meeting with President of Russia. It didn’t occur to me right away, but when I saw a perfect opportunity to approach him, it all fell in place.
Be Genuine – people love people who are honest and genuine. Don’t overhype yourself and hide failures. We are all human and most successful people know that there is no such thing as success without failure.
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