Numbers are probably the least favorite thing for the majority of founders… especially the CEO types. BUT they are vital to any startup’s success.
When you are not leading your company by using several KPIs (key performance indicators), then you are driving your startup blind. How do you decide what path to follow when you do not know how you are spending your money, which sales and marketing strategies are working well and what products or services are successful? Numbers and KPIs are actually fun (as fun as they can be) once you actually understand them.
Before we deep dive into several KPIs commonly used by startups it is good to briefly cover key performance indicators (KPIs). KPIs are measurable values that function as a way to effectively understand the performance and health of your company. They help you understand whether important goals are being met. KPIs are vital metrics that help you see what is working and what is not.
Not every startup uses the same KPIs. There are numerous methods and which ones are appropriate for your company to adopt depends on your type of industry, company and even department. An online SaaS startup wants to measure different things compared to the HR department of a large corporate firm.
So let’s dive into the 10 most commonly KPIs that I come across.
1.) Active Users
The number of active users is critical for online services and apps. Think about online software, social media platforms, online games and mobile apps. Active users represent the amount of individuals (not to be confused with the number of sessions) that perform activities on an app or webpage, e.g. per month.
When you have insight on the number of active users you can better predict the demand for a product and the user growth rate. Moreover, it will provide you with information regarding potential for strong revenue.
2.) Gross Margins
The gross margins show you the difference between the total production cost of your product or service and the total revenue of the related sale. Long story short: total revenues minus total costs.
A high gross margin means that you generate relatively low costs related to the production of your products or delivery of services. It is safe to assume that the gross margin of a SaaS company is much higher than that of a 3D printer production company as the production of printers is likely to be more costly compared to the delivery of online software.
In order to arrive at your startup’s operating profit (EBIT) you deduct operational expenses such as sales, marketing, R&D, etc. from the gross margin. A high gross margin therefore automatically means that you have more margin to cover such operational expenses. Moreover, you could use your gross margin to compare your performance to similar startups to see how competitive you are in terms of buying materials and sales price.
3.) Burn Rate
Cash is Critical! The burn rate is vital for determining the runway and helps you establish at what point in time your company will be out of money based on your current cash flows.
Having a positive burn rate means you have spent more money in a given period than that you have earned. Say that you own $50,000 in cash at the beginning of the month and are left with $40,000 at the end of that month. That would mean that in this specific month you have spent $10,000 more than you have earned and therefor your burn rate is $10,000. Keep in mind that most companies have “seasons” this will also help you plan for those particular months where your customer is not buying. It also helps you explain your startup story to potential investors.
When you have more money flowing in than out of your company, your burn rate is negative. This might seem counter intuitive, but is in fact a good thing!
4.) Runway
The runway is vital for every startup. Do not be the founder that only sees it coming when your office rent check bounces. The runway shows you the time your startup has left until there is no money left anymore, usually expressed in a number of months. The runway closely relates to your burn rate.
This means that you are literally looking at your bank statement of today and that you calculate on the basis of your burn rate how many months you can survive with the cash at hand. This is crucial for startups that often want to grow faster than they could organically, often resulting in more costs than revenues.
By measuring the burn rate and runway you know exactly how much money is burned every month and when you will need additional funding. When your runway is short it is time to start looking for new funding as soon as possible. Unless you are planning on bootstrapping your startup.
5.) Operational Cost as a Percentage of Revenue
Why don’t you try to allocate your operational expenses in a given period over a number of categories? It can significantly help you manage your startup.
You could use the following categories: Sales & Marketing, Research & Development and General & Administrative. Personnel could be a fourth category but you could also include personnel costs over the three categories mentioned above.
The next step is to represent all costs for each category as a percentage of your revenues (by dividing the costs of each category by your total revenues and multiplying the result with 100%). Below an example of how your results could look like:
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Sales & Marketing costs: 25% of revenues;
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Research & Development costs: 15% of revenues;
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General & Administrative costs: 5% of revenues.
All these costs are called indirect costs, meaning that they do not directly depend on the number of products you create or services you deliver. This means that they are generally easier to reduce temporarily when this is required. For example you need your runway to be extended because your funding round is taking longer than expected.
6.) Conversion Rate
The conversion rate is the number of people that perform a certain action on the basis of a call to action. This is represented as a percentage of the total number of people that have been exposed to the call to action.
For instance, let’s say you create a blog page that includes a sign up form for a weekly newsletter in which new blogs are released. If a thousand people have visited this blog page and one hundred of them subscribed to for the blog’s newsletter (the call to action), then the conversion rate is 10%.
Conversions occur on various levels: from lead to client, from website visitor to newsletter follower, from Facebook visitor to webinar subscriber and so on. By measuring conversion rates and experimenting with different calls to action or various user experiences, you can try to improve your conversion rates and sequentially create more leads or customers.
The conversion rate validates or invalidates both the ability of a startup to sell a product/service and the demand of the market for that product/service.
7.) Customer Acquisition Cost
CAC (customer acquisition cost) show the average expenses required to acquire a new customer. These typically include sales and marketing expenses. The CAC informs you about the effectiveness of your sales & marketing strategy and helps you with optimizing the ROI with execution. It is therefore important to monitor your CAC for different sales & marketing strategies in order for you to learn which acquisition channels are most effective.
Are you acquiring a high number of new clients via Google Adwords and via Facebook advertising, but is your CAC lower for Instagram advertisements? Then you would want to shift more investments into Google and Facebook and then either reduce efforts into Instagram or chance strategy.
8.) Customer Lifetime Value
The (CLTV) customer lifetime value is the total revenue that one client will generate on average during the time that he/she is buying or using your services or products. These can be complicated depending on the type of company and customer. Maybe another blog in the future?
CLTV are critical because it provides you with strong insights when used in combination with Customer Acquisition Costs (CAC). CLTV will show you what you earn per client during his/her lifetime as your customer; the CAC shows you the costs of acquiring a new customer. Therefore, when your CAC exceeds your CLTV you know something must change quickly.
9.) New Customer Leads
New Customer Leads are the number of new leads and new customers acquired in a given period. Every startup has focused strategies to acquire new customers. On the basis of the conversion rate from new customer leads, you can calculate the number of leads you need to achieve your target of new clients. If you seek to acquire 100 new clients per month and your conversion rate of lead to client is 10%, you will need to generate 1000 leads per month.
For firms that are working with subscriptions it is recommended to also have a look at the churn rate, aka turnover rate. The churn rate is crucial for firms with a business model that include recurring revenues and shows the amount of customers that cancel their subscription during a given period. A low churn is a good indication as it means that few customers are leaving. Especially for SaaS companies but all companies should be more focused on keeping customers and then acquiring new customers, although both are vital.
10.) Revenue Growth
The existence of revenue validates that there is demand for your products or services and revenue growth indicates that you have adopted an effective sales and marketing strategy.
Revenue growth expressed per week or month is not always insightful as it can fluctuate significantly during such short periods of time. More informative is revenue growth for semiannual or annual periods. The Compound Annual Growth Rate (CAGR) is a strong KPI to better give insight into your startup’s health and growth. CAGR is the return on investment over a period of time. It measures a true return on an investment by calculating the year over year returns, compounding them, and considering the investment values. In other words, it’s a far more accurate way to measure the overall return on an investment than using an average returns method.
This is probably one of the more complicated KPIs explained in this blog so I have included a link that will help you better understand how to calculate your startup’s CAGR. myaccountingcourse.com
Again these are just 10 of the most commonly used. There are many more and every startup needs to understand which KPIs are the most vital to track to understand their company as well as to be able to communicate effectively with future and current investors. Numbers are typically the least favorite of a founder’s responsibilities, but they are critical and deserve strong focus.
