I get a lot of feedback asking why the monthly startup momentum index doesn’t include revenue as a signal. There are two reasons, and the first is that most startups don’t want to provide that data to outsiders. The second is a bit counterintuitive, but stick with me and I’ll explain: revenue doesn’t actually matter for finding hot early stage startups.
While revenue is a useful signal to founders, indicating they are creating something people want, it is also a lagging indicator of success. Startups who are willing to reveal revenue data publicly do so because it reflects well on them. They’re in control of their destiny and decide when and how to raise money. Investors and employees have already missed the window of massive upside that comes with getting in before the company reaches this milestone.
By the time a startup has a predictable and steadily growing revenue stream that means it has built a product and brought it to market successfully, so the risk of investing in it has gone down tremendously and so has the reward. This is why Y Combinator stands to be massively successful – they invest early enough to capture the upside of startups that haven’t figured these things out yet, and then they help them improve and de-risk the company before involving future investors. The YC model tolerates much greater uncertainty than other angel investors and in return they receive outsized gains from big wins, plus minimal losses from companies that fail.
Revenue First
Early revenue can be dangerously distracting for founders. Once you have some of it you want more, and without strict discipline it’s easy to optimize for immediate gratification rather than the big vision. For founders who have never made $10k a month this feels like a lot of money, especially for the young software engineers straight out of college who never even had salaries that high.
Now in order to make your graph go up and to the right you need to make $12k next month, and $14.5k the next, and $17k the month after that. And that’s just 20% growth month-over-month, which is not actually that sexy of a growth rate – after a year you should have a $87k month in revenue, giving you an annual run rate of just over $1 million. That’s a tiny business, and remember this is revenue not profit. If you run a tight ship this might be break even, but if you’re doing B2B software you probably need to hire support, sales, and lot’s of engineers. You need to raise more money.
What if this same startup, who is seeing steady but not spectacular linear revenue growth, is also fast becoming the most well known new company in its emerging space? They’re discussed on Hacker News all the time, friends have started using them, they’re clever and engaging on Twitter and I see them retweeted all the time, their company blog shows up on Techmeme once in awhile and when their CEO comes to speak at a conference he is the highlight of the event. I’m seeing them everywhere. A couple friends have gone to work there.
Be everywhere, be awesome.
Capturing Value
How much does this public awareness increase the value of the company? A lot.
When you see unexpected, small, or otherwise questionable companies in my latest top 20 list swallow your cynicism and dig deeper. For investors this is a list of pre-qualified leads worth reaching out to. For knowledge workers these are companies with upside opportunity if you join the team right now. For founders, this is acknowledgement of the hard work you’re putting in pre-revenue to build a massively valuable company.
Don’t let revenue be your vanity metric.
My experience with startups is that by not focusing on revenue/profit, you’re essentially buying a lottery ticket in regards to your chances of being successful. I think the issue you’re experiencing with the pushback from your lists is because you’re lumping in “startups”, with actual real revenue driving companies, comparing them side-by-side, where they shouldn’t ever be compared side-by-side in my opinion.
I agree getting a consistent signal on revenue is hard, but every $25k in revenue is another entirely dilution-free Angel investor. So while I agree with your logic, I would say it only applies to companies that are going for stratospheric growth and valuation. And that is a fine thing to index, but only accounts for a very small percentage of start-ups.
Interesting perspective, Danielle — but I couldn’t disagree more.
Your model can work if you get 50 at bats (i.e. a VC) but doesn’t work very well for the individual entrepreneur, who has to keep chasing more and more cash to keep their startup in a pre-revenue stage.
Don’t get me wrong — it’s way more fun to live in that reality distortion field, but my problem with it is how flimsy the business truly is, when you treat revenue as a vanity metric.
It’s an order of magnitude harder to both build a brand that people love, and that generates enough revenue to sustain itself, and less fun.
In the recent past, too many startups have been getting a free 12-18 month education in your care-free revenue-agnostic world. I see it as a very good thing, the shift towards caring about revenue early.
Of course there are multiple paths to riches… I advise people to go for a base hit on their first at bat vs. swinging away for a home run. Put some money and experience in the bank, and perhaps swing away on venture #2.
To be clear I am not anti revenue at an early stage, but I think it is just as game-able as an other metric and can only be trusted so much in the early stages
Outside of SF/SV — you know, the real world — revenue is what matters. People pay what your product is worth, and if you aren’t generating revenue then you will be selling stake in the company to old people that don’t need any more money instead of issuing those shares to the people that really determine your success, your employees.
Danielle, I’ve enjoyed reading your posts but I do not agree with this need to judge every business on the same set of criteria. There is no easy way to compare one company to another. The amount of moving parts makes it impossible to measure.
How could you not agree a consumer internet startup is not purely judge on user growth? Take viddy for example. They found a way to get huge growth, raised a shit load of money then failed because their re-engagement was abysmal.
Revenue sometimes directly indicates value. Take Uber for example. Revenue is a direct indicator of how well their company is doing. Anything but focussing on revenue growth from day one would have been a mistake.
Building a company is all about solving a problem. If that problem is large enough, effects enough people and your solution is 10x the current solution, you have a business. Learn what it means to you for your business to be successful then execute the shit out of it.
There will never be a systematic way of comparing all businesses against each other.
Revenue is the best compass to follow for a startup to make decisions. It’s the ultimate compliment from a customer and its the hardest thing to generate. This is like celebrating taking 8 years to graduate college with a communications degree. Focus, take the hard classes and leave startup stage for real sustainable company status as soon as possible.
Disagree. Revenue should be the focus from day 1, it is a business after all. Otherwise call it a hobby or an experiment.
It definitely should be the focus, but not the most important metric.
Danielle – I’m curious after monetizing Mattermark from the beginning, if you still feel the same way about this post?
Interesting post, Danielle. I must to admit that I disagree with your premise though. In my opinion, revenue is the most important metric. I would call everything else a vanity metric. Well, except for profit.
In the midwest (where I am), people invest based on revenue, not buzz / Hacker news / conferences. Sounds like the climate is different in SF.
The point I’m trying to make is that for early stage companies revenue is not usually a meaningful indicator. You can “buy” revenue, but if your are spending $10 to make $1 it’s really hard to understand what this predicts about the future of the business.
I do agree profit is extremely meaningful.
I love this article! I’m someone working on my startup and this is the very question I’ve asked other investors. Do you care more about a great product, and data and the ability to grow, or do you care about us having a steady stream of money first before you invest. Most unfortunately say steady stream of money. For me I want to say, if I have a steady stream I wont need you at that point! Help me get to that point!
Such a good article!
I agree with the article for the most part. But… I don’t understand why most articles I read involving startups is centered around computer applications. In case you haven’t noticed not every startup is a software play!