While a startup that has received its initial rounds of angel investments may appear to be on a solid footing, this might be only an illusion. Since the bulk of the funding will inevitably go towards actually structuring the company, there’s still a chance that something goes wrong. One of the main causes of companies going under is a lack of funding, or more precisely, improper allocation of funding. And when that funding comes from investors like you, it’s only natural that you may feel that you have a vested interest in checking the company’s progress.
But how to do that? As it turns out, many metrics that are valuable to investors are also vital for the company leadership, so it shouldn’t be hard to get some raw numbers regarding performance.
Why Do KPIs Matter?
In the simplest possible terms, KPIs (key performance indicators) put into numbers the growth and progress of a company. Once set, they are the benchmark against which the company’s value proposition and scale of work is measured, providing invaluable insight into how likely the company will reach both its short-term and long-term goals.
Measuring and tracking KPIs is typically relatively simple, unless you want to combine multiple metrics into one. While this might give a clearer picture of your company’s “wishlist,” so to speak, it can sometimes be much harder to precisely define a particular KPI that makes sense in context for your company.
Why is that important?
Well, precisely defined KPIs ensure that you’re only tracking the data that is directly tied to your mission objective. As an investor, these will be tied to the company’s growth, profit, and customer acquisition. If you fail to pick the correct KPIs, even the most meticulous measurement can yield misleading insights and hinder decision-making. On the other hand, precise KPIs provide much-needed clarity. This aligns you, as the investor, with the company on shared priorities, avoids “analysis paralysis,” and helps channel limited resources to where they will have the greatest impact, as is typically needed when working with small startups.
With this in mind, let’s see which KPIs are the best to focus on.
Customer-Based KPIs
While a startup in its early stages might not be at the point where acquiring new clients is the priority, a business won’t be able to turn a profit unless there is some audience base to tap into. In the planning phase, there are typically two KPIs that are worthwhile to track: customer acquisition cost (CAC) and customer lifetime value (CLV or LTV).
The CAC is the expected cost of getting a client or customer on board with the company’s services. It accumulates the projected expenses on marketing, sales, and overhead (i.e. personnel salaries). If CAC is high, it can erode expected profit margins, and drain the reserves that the investment has actually put into the company. This makes CAC arguably one of the biggest KPIs for smaller companies.
CLV is partially in direct contrast with CAC. Where CAC calculates the cost of getting new clients, CLV estimates how much each client will be “worth” to the company, i.e. how much the average customer expected to spend on the company’s products and services. CLV is particularly vital for software-as-a-service (SaaS) and subscription-based services that have become increasingly common. They lead to not only relatively high CLVs, but also break down that figure into tangible monthly income to the company.
Somewhat obviously, you can track both of these metrics separately, but it can also be a good idea to pit them together. If the CAC is higher than the CLV, then the company is likely to run into cashflow problems, as it needs more funding to obtain new customers but is not being compensated enough by them. This can lead to a different metric – payback period – which indicates how long a customer needs to remain with a company (assuming a subscription-based model) until they “recoup” the cost of acquiring them.
Revenue and Financial Metrics
These might not come into play until later in a company’s lifetime, but it’s still a good idea to start measuring how much money the company is earning, especially when compared to the amount invested in the company.
There are a few different KPIs that you can track here. Monthly recurring revenue (MRR) or annual recurring revenue (ARR) are two of the most important, as they directly indicate how long it would take for the company to actually become profitable.
However, these numbers aren’t particularly indicative of how well the company is doing. They are sheer statistics. To get more sense out of the numbers, you can calculate periodic recurring revenue based on a certain month, quarter, or year, and then compare it with totals from previous periods. This leads to the revenue growth rate, which is arguably something that the startup has already calculated, as it’s one of the more “attractive” KPIs to present to prospective investors.
As mentioned, most early-stage startups are churning through the funding provided to them by investors or founders. But there has to be a point at which the company’s revenue starts outpacing the costs accrued by the company. Typically, the costs remain fixed, as salaries, marketing efforts, and other overhead costs don’t vary much between one month and the next. This leads to the revenue growth metric being used to “predict” at what point the company will actually start turning a profit.
Conversely, it can be a good idea to calculate this in reverse, i.e. how much money the company is “burning” from the investment funds. The “cumulative burn rate” can indicate how long the company can stay in operation without any other sources of income (such as actually selling the product). Typically, the burn rate also defines the “runway,” the actual length of time until the entire fund has run out. In most cases, a runway of 12 to 18 months is considered healthy for startups, as it gives them a bit over a year to develop and market their product to start gaining revenue.
Strategic KPIs
So far, all of the metrics have been internal. They tracked the expected lifetime of a company given ideal scenarios and factors that can be directly calculated through costs and earnings. However, a startup can live or die on whether it’s able to present itself on the market.
That means that you also have to track the potential audience for the company. This can be done in various ways, with one of the most common relevant KPIs being market share, which indicates the percentage of the total market the startup owns. This can be difficult with a “fresh” company that has only just started putting its product on the market, so the “total addressable market” is a good starting point. This KPI calculates the total potential audience that the company could tap into. This will help direct its marketing needs but can also help investors determine how much the company could feasibly grow.
Startups usually find this metric through market research or social media, which can also help and make the company’s offer “go viral.” Coincidentally, this is yet another KPI that could be measured, called the K-factor.
The K-factor is the potential for the company’s products or services to be referred via other customers. Let’s say you get three customers, and then each of those customers refers three other people to start using a company’s services. Everyone in the “first batch” will have a ratio of three (as they successfully referred three people). This is an oversimplification, of course, and the actual K-factor is calculated as a function of invites over a certain period compared to the total number of monthly users. As the user base grows and more invites are created, the K-factor starts fluctuating.
In general, startups that have a high K-factor (which is, arguably, anything over one) means that the user base can potentially grow by itself without any further marketing efforts. When the K-factor is near one, however, its impact is nowhere near enough to provide meaningful benefits, and can be considered a neat “extra.”
Team KPIs
These days, startups are seldom one-man operations, especially in fields such as software development and IT. Typically, these will allude to the required person-hours to complete necessary projects, employee satisfaction, team cohesion, and employee turnover rates.
These will indicate the short- and long-term operational health of the company internally, which is arguably as important as its financial health. For startups in the early stages, it could also be helpful to determine hiring requirements and practices. As an example, a company should track what positions it needs to fill to continue offering its products and services. With some key personnel, such as leadership or senior positions, the company would need to do market research to determine how many candidates for the role it has. Perhaps more importantly, the costs of hiring the personnel need to be taken into account, as those will directly tap into the already limited resources that the company has at its disposal.
How to Use the KPIs in the Startup?
Ultimately, as an investor, your goal is to turn a profit on the startup in which you invested. This can be done by calculating the turnover time based on the financial KPIs mentioned above. For example, the runway period is perhaps the most indicative of how well your company is doing in the short term. The longer the runway, the more “grace period” the company has where its functional without actual revenue.
Don’t be fooled by a single KPI that looks excellent. In the same example, the runway could be long because the company isn’t actually using the investment it received in the best way. In that case, other metrics such as CAC could pinpoint where the money is going (or should be going) to provide more meaningful actions.
