Image credit: Daniel Foster under CC BY-NC 2.0 Deed LicenseIn the current context, where financing dynamics are no longer what they were in 2021-2022, the premise of a successful business is no longer solely reliant on securing extensive VC funding. Today, a solid business thesis revolves around effective bootstrapping, optimizing working capital and prioritizing profitability over rapid growth at all costs.
Metrics
In the start-up industry, there is a variety of metrics that can be used to measure whether a company is doing well and tends to have good profitability and growth. There are ARR, revenue, EBITDA, cash burn, gross margin, magic number, MoM/QoQ/YoY growth, net dollar retention, funnel conversion, CAC, LTV and many others. Key Performance Indicators (KPIs) play an essential role in the lives of founders when it comes to measuring the efficiency of their business and in the way investors assess whether they are investing in a good company. Metrics are often the best signifier of a company’s operational health. KPIs can also serve as indicators of potential issues within a business model and unhealthy unit economics, which may pose challenges as the business grows and expands.
Unlike in 2021 and 2022, the focus of KPIs in 2024 will no longer be on growth at any price, but on sustainable growth. In this regard, KPIs must focus on efficiency metrics such as ARR per FTE, ROI, CAC, sales pipeline conversion ratios, CAC payback period, net dollar retention rate and so forth. These metrics help businesses not only grow but thrive.
Metrics serve as a crucial means to gauge the vitality and resilience of a business. Yet, in this article, I aim to underscore the equally vital aspects that complement metrics—innovation and value creation. These entrepreneurial principles are significant not only for start-ups but also for the VC industry, investors, and angels, ensuring relevance and sustainability in the business landscape.
Innovation
Change is omnipresent and the ability to adapt to change is important in all areas of life. It is change that leads to evolution itself. Those who resist change will find it difficult to survive. Rather than avoiding change, successful and enduring businesses actively drive it. An analogy from surfing serves as a fitting example: rather than being swept away beneath the wave, it’s better to intentionally ride and dance with it. Many giant companies that illustrate the inability to navigate change or innovate sufficiently often fail to maintain long-lasting endurance in the evolving landscape (50 Brands that Failed to Innovate); (Companies That Failed to Innovate and Went Bankrupt).
The core of change in business is innovation. Investors can use the innovation feature as a benchmark for evaluating good start-ups. This does not only apply to early-stage assessments, but also holds true for the later-stages. Innovation brings many advantages. It gives start-ups a good competitive advantage over their competitors and can therefore increase customer loyalty and retention. However, when we talk about innovation, it is not just about developing new ideas and implementing them. Innovation is essentially a question of resource allocation: it is a catalyst for growth, an act of realigning people, assets, and management attention on the organization’s best ideas (McKinsey).
There are two simple metrics that can measure a company’s innovativeness. The first is R&D to product conversion, which shows how well R&D dollars are being converted into actual sales of new products. The second is the New-products-to-margin conversion, which takes into account the ratio of gross margin percentage to sales from new products. In addition to these key figures, the number of patents filed also provides information about the company’s level of innovation.
Finally, there are the three key elements of innovation coined by Laura Furstenthal (Innovation—the launchpad out of the crisis). If a company knows exactly the “who”, “what” and “how” and implements them accordingly, this can be a good indicator of trajectories to sustainable growth and profitability:
- An unmet customer need (the ‘who’): Who is the customer and what problem do they need to solve?
- A solution (the ‘what’): Is the solution compelling and can it be executed?
- A business model that allows for the solution to be monetized (the ‘how’): How will the solution create value? What is the business model? (McKinsey)
Value Creation
At the core of any business proposition lies value creation. Without this fundamental element, no company can effectively win over its customers. Achieving solid value creation necessitates addressing the pain points of customers. Evaluating a company’s capacity for value creation is not only crucial in the assessment of early-stage start-ups but remains pertinent in later stages as well. The reason is that no company can afford to cease innovating or refining its value proposition as we live in a constantly changing world. Competitors are entering the market, customer demands are constantly changing and new trends are always evolving. A company that stays relevant with its value creation will be able to serve its customers better and survive longer on the market.
The practice of value creation in a business ranges from increasing revenue; initiating business expansion; improving product development, services and processes; reducing overheads; improving cost efficiency and increasing relevance with customers, which can extend their LTV. Improving value creation is at the heart of every company’s long-term success. Satisfied and loyal customers not only contribute to revenue, but also help to reduce churn rates and increase customer retention.
Value creation shows that a company has solid resilience. Resilience means remaining active and adaptable in all seasons, even when faced with adverse circumstances. Recognizing such a resilient company in the various investment phases can lead to a good investment decision.
Conclusion
Both founders and investors need to focus on innovation and value creation, as we cannot always solve problems with old solutions. There are many unmet customer needs that require new solutions and new channels to deliver them. For instance, around 1.4 billion adults worldwide are still unbanked and we still face the ongoing anthropological contribution to global warming.
Innovation is not just a strategic option, but a necessity for companies that want to thrive longer. It is the key to unlocking growth opportunities, maintaining relevance, building a resilient and successful venture, and the solution to global problems that cannot be tackled by governments alone. Companies that prioritize sustainable value creation may contribute positively to the economy and society. By addressing real-world challenges and providing meaningful solutions, companies can make a lasting impact.
