Some survival math for startup CEOs

yankeesabralimey:

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Today, I emailed out my portfolio CEOs with some thoughts following a series of conversations I’ve had with US VCs. I thought it would be helpful to share these more broadly – as I’d love more perspectives in the conversations.

Here’s the email:

Dear CEOs,

I just
wanted to ping you all with some data points from a few VC conversations I’ve
been having in the valley.

I
think there is a widespread and growing sense that some sort of slowdown is
coming in tech. This is
going to range from a “slowdown” to a “nuclear winter.” Whether or not this should happen or does happen is beside the point – the point is that most VCs see it coming. Either
way, nearly everyone in the US VC landscape seems to be convinced that it’s coming.

What
that means for each of you in your fundraising – especially if you are early
stage – is that there will be a massive flight to quality. Metrics that might
have mattered in the past (downloads, registrations, engagement, monthly growth
vanity metrics) matter a lot less now. What matters most is evidence that you are building a real business – and for fast-growth enterprise startups revenues are the key metric that begins to prove this. (I’m focusing here on top-line only – but of course the unit economics of your sales efficiency matters a great deal as well. In the early stages of a technology company, however, revenue growth matters most.)

Think 5x or 15% monthly revenue growth

For
early stage companies, what that typically means for most of the VCs I’m
talking with is “well over 2x” revenue growth per year.

If
your revenues are currently at or below the $2M/year mark, to win the interest
of most US VCs, you should have a credible plan to scale revenues by at least 3-5x in a
year.
 At 3x-5x you will probably raise. At over 5x, you will almost certainly raise (No math tricks! This assumes your base is large enough to be meaningful). At below 3x, you are in trouble. And at below 2x, things are going to be very hard. The challenge is that the lower your revenue level, the higher growth you
are going to be expected to show.

If
you are doing MRR of 5K (ARR of 60K), you probably need to show a credible plan
to get to at least MRR of 50K within 12 months. That would put you at a 600K
ARR, which would position you as a “fast grower.”

If
you are doing MRR of 50K, you probably need to show a plan to get to 150K MRR
at the very least (which would put you at $1.8M in ARR).

This
means 10-15% monthly revenue growth (consistently) or 33-50% growth quarterly.

An
interesting implication of that monthly growth rate is that in absolute terms –
your growth in the twelfth month is going to need to be at least 3x
your growth in the first month
….that means you need to be geared up operationally for a tripling of lead gen, on-boarding, support, etc. And probably not increasing your burn to get there. 

Anything
less than that, and VCs will probably conclude that you are “great but just
not for us” or “too early” – code for the fact that they just don’t see you as
a potential big winner.

Some questions 

For
those you that are still early stage and not yet cash flow generative, it’s
probably worth asking a number of questions:

  1. How
    much cash do I have left?
  2. How
    much time do I have left at current and forecast burn rates?
  3. Will
    the insiders back me?
  4. Do
    I have a plan to grow revenues by at least 3-5x in the next 12 months?
  5. For
    a low-touch SaaS business – Is my monthly revenue growth rate at or above the
    level it needs to be at in order to sustain that growth rate?
  6. For a
    high-touch enterprise sales company, is my sales funnel big enough and my pricing solid enough that I have reasonable visibility
    on deals that will lead to 3-5x revenue growth in the next 12 months?

In
terms of raising a round now (or using cash you’ve just raised), you can think about it this way: If you raised for 18-24
months, you have 12 months to scale revenue 3-5x. You have 3-6 months of
“wiggle room” to refine the model and figure out how to sustainably grow
revenues by ~15% per month, and 3-6 months to raise from VCs once you have
achieved that growth rate.

Other stuff

Some other stuff to consider:

  • Cohort analysis can help a lot. To raise, you need to show a credible plan to scale revenues as described above. That is going to be based on assumptions, and cohort analysis can be helpful in communicating to your team and your investors about whether or not your assumptions around operational improvements are grounded in reality. This can work even for enterprise sales. For example, suppose you sold 1 deal in 2Q15 that took you 6 months to close. 2 deals in 3Q that took you 5 months to close on average, and only 1 deal in 4Q that took only 3 months to close. That’s a kind of “cohort analysis” because it shows that even though revenue may not yet be growing in line with targets, your sales cycle is shortening – and that can help generate confidence that your sales targets are realistic.
  • Cash matters. I should probably post separately on this, but cash is always king. If you are in any kind of recurring revenue business and you can incentivize your sales team (bonuses) and/or your customers (discounts) to commit to multi-year contracts and pay upfront, that can help with both cash flow (lengthening runway) and revenue visibility.
  • Visibility is actually the issue.  Speaking of revenue visibility – that is what investors are really trying to get a handle on. If you have multi-year contracts, or recurring revenue, or expected upsell, you have greater than zero visibility on your forward revenue. Use that to your advantage. Graph it. Show it. Talk about it. Remember, that is why you chose a recurring SaaS pricing model in the first place….
  • Sales efficiency really matters. If the level one concern is revenue growth, the immediate next concern is the sales efficiency of your revenue growth. Keep a close watch on this. Eroding your sales efficiency in order to scale revenues sometimes makes sense – but only sometimes. And remember that your target growth rate isn’t going to come down any time soon – so you might as well make sure you are selling in an efficiency way. Or at least convince investors you are focused on keeping this under control and improving it over time.
  • Bad revenues don’t count. Not all revenue is good. Everything I wrote here assumes we are talking about good revenue – profitable sustainable revenue from your core business – the ones that illustrate the thesis behind your company. But there are also all manner of bad revenue – and those should be avoided unless they are only way to avoid shutting down. From a VC perspective, bad revenue can (depending on circumstance) refer to jacking up prices on existing customers, customized consulting work, revenues that create unsustainable engineering debt, non-core products, etc.
  • Psychology. Being focused on scaling sales may not be what excites you most about running your business. But at a certain stage, once your business has been funded and some sort of product-market fit has been achieved – making sure sales is humming and revenues are growing becomes a core part of your job as CEO. Grow sales and your company will live to fight another day. Take your eye of the ball and nothing will save you. 

Hope
this is helpful. Let me know if it’s consistent with what you are hearing
and seeing. Happy to discuss in detail with any of you.

Good
luck!

Gil

I’m pleased to announce that my AngelList syndicate to back the best in European & Israeli enterprise companies is now one of the largest syndicates based outside the US. We are now at well over $1M in backing per deal.

The syndicate has made two investments so far: one in Israel and one in the UK, both oversubscribed and both with quality co-investors.  I’d be honored if you’d consider backing the syndicate – you’ll be in pretty good company and there are quite a few awesome companies in the pipeline…

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