On Startup Metrics and Picking The Right Investment

Controlling the right metrics is one of the indispensable features of a great founder. Management by numbers is key for growth, and critical in adapting a startup operation along its quantum leaps of scale. However, we can’t predict when your path as an investor will cross the path of a founder who have already reached that maturity… so the question becomes: since scale is the trigger for better metrics, how can we detect a precocious number orientation in a pre-growth startup?

Numbers don’t lie

You may want to read Semil’s recent take on how investors should spray and pray versus be picky. It’s a very good article, and this particular quote had me wondering:

So, is it just “spray and pray?” No, that is too easy. It’s about branding for deal flow, about securing the perimeter for coverage, about staying close to your companies and helping out, and having the financial access, right, and flexibility to follow along into subsequent rounds as the best companies emerge

The best companies emerge, he said. As an investor, how can you be there before it happens? This situation reminds me of Mark Zuckerberg right after the IPO, when asked about Facebook being overpriced. He said the company stock was undervalued and that it was a great opportunity for people to double down before it went up. Only he and the Board had the real glimpse of how Facebook was going, and that was because only they knew the key growth metrics. You can only price well what you measure well.

The deeper and faster you get into the metrics of a potential investment before closing a deal, the better are the odds to make a good decision. This looks like an obvious conclusion, but you’d be amazed that many investors don’t know which metrics to analyze. Doubling down is significantly de-risked with real numbers (even if they’re still small), and this is why I’m picky on metrics and dedicate long hours to make them right. Good metrics are a collateral benefit of a good strategy.

Startups are a tool to build scalable businesses, so you’re not looking at a “role model startup” if you don’t get the numbers – and role models are the only ones worth investing in. Even when there’s not enough operation history, the proper metrics are mandatory and key for a VC to evaluate the business evolution.

Using a simple analogy, startup founders who don’t know their metrics are like slow drivers on the fast lane: they should either go faster or pull to the right. The ones who drive faster and measure their way are still on the race; the slow drivers who don’t measure performance are thinking about something else than the race – and startups are all about winning that freaking race.

How to pick them?

Instead of focusing on the metrics themselves – because they vary according to the business model and there’s extensive online content on that matter – this is how I assess founders and startups with a simple framework and four levels of metrics maturity:

  1. they have no idea (or are uncertain) of what are the right metrics for startups
  2. they know the fundamental principles for startup metrics, but don’t know which ones to pick
  3. they know which metrics are the best for them and do perform measurements, but didn’t create a routine evaluation process
  4. they implemented an automated dashboard and the business is constantly refined according to the right measurements

This way VCs can easily prioritize the deal flow with one single objective criterion, instead of looking in the mirror every morning and pinching themselves thinking how unbelievably good they are when picking investments. Startups scoring 3-4 should be looked into before others. The higher the investment round, the closest they need to be to 4.

One might argue there may be excellent investment deals out there who operate under the radar, run kick-ass products but still didn’t figure out the right metrics. Well, considering the amount of information on the subject, that would be as condescending and contradictory as listing good VCs who don’t guide their strategies relentlessly and insanely by their own performance metrics.

We’re constantly being reminded that seed-stage valuations are reaching all-time highs. Check out the Q3 2015 Halo Report to understand why. I believe the proper intepretation of metrics reduces venture capital waste – but you need to be sharp on which ones to look into.

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