Nine business models and their metrics

Metrics are a really important part of a growing startups, they show you what you have to do in order to launch and keep your business going.

But sometimes, based on your business model, your metrics suite can get quite complicated. Especially when you have to think about what investors are actually looking into before investing in your business.

Anu Hariharan (Partner at Y Combinator’s Continuity Fund) gives us an insight through her talk into which metrics we should choose to track based on our business model.

How do we think about what metrics to track?

This depends on which business model your startup fits in!

A business model is a company’s plan for making a profit. It identifies the products or services the business will sell, the target market it has identified, and the expenses it anticipates. On one hand, this definition gives us a general perspective of what a business model is, on the other hand it is a known fact that there isn’t one model that fits all, and that there are plenty more out there.

Anu Hariharan’s talk for Startup School by Y Combinator comes in and gives us some clearance about 9 business models, and what metrics they should have and that are wanted by investors. In this talk we understand how important it is to have measurable and helpful metrics for our company, and to not get lost in other ineffective details. She points out the common mistakes that are made at every business model as a friendly reminder that if you are not paying attention to your metrics you can lose valuable users.

Enterprise

The first model discussed was the enterprise type which is a company that sells software or services to a large enterprise. She further explains that when you work with enterprises you work in terms of contracts, and that should be your main focus from which you can draw out the needed metrics. What an enterprise company should track is:

  1. Number of bookings which actually means the value of customer contracts the company has.
  2. Total customers — total number of unique contracted customers in a specific day.
  3. Revenue which is recognized when the service is actually provided over the life of the agreement.

But she also advises startup founders with an enterprise business model to be careful about the common mistakes founders like them are usually doing, which are:

The first mistake is confusing bookings with revenues and having the contract written down when working with enterprises. Startups signed contracts but they haven’t delivered anything. The contract hasn’t even kicked in but they’re already reporting it as revenue and that’s not entirely true because you haven’t delivered any service, and in conclusion you have no revenue.

The second common mistake which is probably more relevant at the stage that you’re in is not having a contract signed with the company you are working with, and for you the revenue and the contract is more important than it is for them.

SaaS (Software as a Service)

It is used by a company that sells subscription-based licenses for a cloud-hosted software solution. You as a company charge your user monthly for a software you provide.

Examples of SaaS companies are Salesforce, Mailchimp, Slack, Shopify — all of them requiring a monthly subscription from the user in order to use their platform.

For a SaaS company there are also a few key metrics to track, and that will help the founders grow their company even more and have investments in it. The most important metrics are:

  1. Monthly Recurring Revenue (MRR) — which basically says the product should be liked by people and that you should have users that will continue to pay your subscription monthly.
  2. Annual Recurring Revenue (ARR) is a good metric to track in comparison with MRR, as it shows the pace of revenue, as compared with just the absolute revenue number, moreover it shows you an annual situation of your company when it comes to subscribers.
  3. Gross Monthly Recurring Revenue Churn (Gross MRR Churn) — this metric is important especially when you’re early stage and you only have a few customers, losing even one or two has a real impact on your revenues, so this is why you should be really careful with how you keep your subscribers.
  4. Paid Cost to Acquire Customers (Paid CAC) — if possible you should acquire users organically, but eventually you will experiment with paying (for example in advertising) to acquire users once you reach a certain stage where you need to grow more.

Of course, there are SaaS company founders that also make a few mistakes when dealing with these metrics:

First mistake is that they don’t use ARR and ARRR interchangeably. In this case, founders should keep into account because if your customers are not committing to 12 months of payment, you don’t have a recurring revenue business. This leads to confusion — if you start calling it ARR, everyone thinks, “Oh it’s repeat business.” It’s not, because you have to go back and acquire them each month, which inquires about a cost that is either time or money that you might not have.

Subscription

A business model that is similar to a SaaS model but it usually has a lower revenue per customer. Examples of companies are Linkedin, Netflix and any other company that is usually targeting B2C, and that offers a cheaper monthly subscription affordable for every customer. The metrics are pretty much the same here as they are at a SaaS model.

  1. MRR — users who would pay a monthly amount of money to receive your product
  2. CMGR — because usually on a subscription based company the subscription revenue is smaller so you need to take into consideration this metric as well.
  3. MRR Churn — just like at a SaaS company this metric is important when you’re early stage and you only have a few customers, losing even one or two has a real impact on your revenues.
  4. Paid CAC — if possible you should acquire users organically, but eventually you will experiment with paying (for example in advertising) to acquire users once you reach a certain stage where you need to grow more.

Transactional

The type of business model that charges a fee for each transaction. Examples of companies here would be: Paypal and Stripe — since these companies do use a fee from the user every time they use the product. The most important metrics here are:

  1. Gross Transaction Volume (GTV) — why is this metric so important? Because if you have 30 customers that are going through your company processing you will have a large sum of money in total transactions, that’s GTV. But the volume of payments that goes through your platform isn’t revenue for your company, the real revenue is the second metric you should take into consideration which is
  2. Net Revenue — money that you take out of the transactions flowing through your platform, those that go into the company’s bank account.
  3. User Retention on a Monthly Basis — due to the way of functioning of transactional businesses, you will most likely have a large volume of customers and because the customer has a high probability in gaining a lot of money, there should be no reason they stop using your platform, unless you have other problems with it that should be fixed as soon as possible.

Of course a transactional company can make mistakes as well, after all if we don’t make any how will we realise that we can grow? The most common mistake for a transactional business model is actually confusing GTV with Net Revenue and only counting the cash that enters your account, without thinking how many transactions are made through the platform.

Marketplace

A type of company that acts as an intermediary between two consumers, connecting them to buy or sell a good or service. Examples of companies here include Airbnb, Ebay or Booking.com. Marketplaces connect sellers and buyers to exchange a good or service. Key Metrics that you need to track here according to Anu Hariharan are:

  1. Gross Merchandise Value (GMV) — for example if the user sets a price for a good he wants to rent or sell, from that price a percentage will go to the marketplace company.
  2. Net Revenue is the percentage of the GMV that a marketplace company gets in their bank account.
  3. Net Revenue Compound Monthly Growth Rate (Net Revenue CMGR). Since Marketplaces are typically B2C companies the volume of users matters that’s why you should always check User Retention because a consumer that only uses the platform once and doesn’t come back won’t help your revenue, and your company grow.

Common mistake for a marketplace business model is blending paid user acquisition with organic user acquisition. If you don’t separate out the two metrics, you won’t have a good sense if your growth will be sustainable.

E-commerce

This is a company that sells physical goods online. Generally they manufacture and inventory those goods — a good example for this type of business model is Amazon. In e-commerce, you may make the products, but you can source the products as well — Amazon does that too with some of their products on the platform. What you have to remember that users will come back for your brand, and the services that you offer.

Key Metrics to track here include:

  1. Monthly Revenue — since there’s no recurring purchases you need to track the monthly revenue.
  2. Revenue Compounded Monthly Growth Rate (Revenue CMGR) -measures the return on an investment over a certain period of time, and the revenue that comes from it.
  3. Gross Margin is calculated by gross profit in a given month and divided in total revenue in the same month

The question you need to ask yourself if you are an e-commerce company is: How much money are you making for each thing you sell? With a business model like this you need to make sure that you are getting paid from every transaction that takes place on your platform.

Advertising

An advertising company is one that offers a free service, and derives revenue from selling advertisements placed inside the free service. Examples of companies that work on that model are Snapchat, Twitter, Reddit — basically platforms that are used by a high number of users, they are the most important part of your company — especially if you are early stage. Key Metrics to track if you have an advertising business model:

  1. Daily Active Users (DAU) — this is the number of unique active users in a 24 hour day, averaged over a period of time — the users who do not come back to your platform are not helping. You need to know how to keep them there.
  2. Monthly Active Users (MAU) is the number of unique active users in a one month period, how many kept using your platform after day one.
  3. Percentage logged in — users with a registered account that log in and log out over the same 30 day period.

A common mistake for an advertising company is how they calculate their retention when it comes to the users they have. Some founders even forget to take that into consideration at some point and they end up regretting it.

Hardware

And the last business model that Anu Hariharan talks about is hardware which is a company that sells physical devices to consumers. Examples of such companies are Fitbit, GoPro, Xiaomi. This type of business model is really similar to the e-commerce one and that is why all the key metrics are the same.

Key Metrics to track if you are a hardware company:

  1. Monthly Revenue — there’s no recurring purchases, so simply track revenue per month.
  2. Revenue Compound Monthly Growth Rate (Revenue CMGR) since we are talking about users and tracking volume, and because averages aren’t the whole picture for this type of business you should track compounded.
  3. Gross Margin where you need to make sure you’re making money on each transaction.
  4. Paid CAC which is simply the average money you spend in obtaining a customer. Whatever business model your company has you should always take this matter into consideration so you can have a ROI (Return of Investment) from every action you do.

Overall, metrics are here to give you a clear direction for your business, they structure the direction in which you should be heading as a company. It is up to you to decide which metric best fits your company and how you should use it for growth.

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