Your startup may have a high rate of growth, but is it financially healthy?
Even if you have great revenue, these top-line numbers can be superficial and don’t tell the whole story.
Investors, potential buyers, and lenders often look deeper. Especially investors, who are looking for the right opportunity which involves specific criteria. Primarily things like:
That said, one ticking issue is either going to allow them to move on to the rest of your pitch deck or unfortunately on to the next potential investment. And that’s the financial health of your company.
Four key metrics paint a picture of financial health, for you and anyone who needs to know. Here, all four are covered, along with tips and resources to improve each.
According to Investopedia, cost of acquisition is “the total expense incurred by a business in acquiring a new client or purchasing an asset.”
“Total expense incurred” means exactly what it says. The more accurate your accounting practices, the easier it is to calculate your acquisition cost. Finding all of the line items that go into getting someone to say “yes” is much easier with carefully kept books.
If your startup is on a recurring revenue model, you understand the term “churn”. It’s the percentage of customers leaving in an average timeframe (e.g. “monthly churn” at the company is 10%).
A company with 10% churn completely turns over their client base every 10 months (10% X 10 months = 100% of clients).
Subscription-based E-commerce, subscription-based content, and SaaS companies looking for investors must focus on churn. High retention (low churn) of your users is an indication of lower risk for investors.
Further reading: Check out more than a dozen examples of “aha!” moments from real SaaS companies.
The next step is to determine, again on average, how much each customer pays you for the life of their account. This is the lifetime value (LTV). A quick search will tell you, there are a number of different formulas, constants, and methods to get to your number.
It’s not terribly difficult to come up with your own.
An incredibly simple formula is to take your average income from a deal/recurring client. Then, multiply by the average amount of time the client stays with you.
If a SaaS company charges $200/mo for their product and the average client hangs around for 3 months — the LTV is $600.
Again, this is a ridiculously basic equation. There are a number of other factors to include that will make the number a bit better, including:
Further reading: This monster guide shows multiple formulas and offers a deep dive into various formulas.
A run rate is essentially a forecast of future revenue based on current financial status. If you did $250,000 in the last 3 months, your annual run rate would be $1,000,000. Again, a prediction based on recent performance.
Unfortunately, many founders use this as the biggest drum to bang, when it comes to pitching VCs or lenders. Investors want a closer look under the hood, not just multiplying your last quarter by four.
It is best to utilize a fully developed model to show forecasted revenue growth. Using a financial model is a great idea for any business.
Creating a forecast allows for better decision making. And not just revenue. Factor in your costs, churn, growth rate and LTV for a full-fledged financial model. Investors will take a quick look at the projections, but you’ll be able to use the numbers to:
Investors love to understand founders and their ambitions. They’ll pay attention and think seriously about the opportunity based on a compelling story. But as they’re listening, whether or not you know the financial health of your company will ring clear.
The data and metrics will ultimately make the difference, whether you’re trying to raise another round of funds, or even if you’re focused on maximizing growth.