Disclaimer: I am just a thought leader (without any experience in running a company). So take what I am going to write here with a pinch of salt.
Yesterday I was discussing scaling a startup with a founder friend, and here are my thoughts around it.
For any VC scale startup the 2 things which matter the most for raising a round post your seed are.
1/ Your contribution Margin (CM)
In the last few years, no one gave a fuck about accounting terms like these. But suddenly everyone does. Herd behavior right? But that is how it is. So lets understand what CM is and why it matters so much.
Definition of Contribution Margin: Contribution margin is a product’s price minus all associated variable costs, resulting in the incremental profit earned for each unit sold.
If you are making money with your start up at an UE level or to simplify the math further, if you are CM positive, then you can always convince your VCs that you will be able to build a sustainable company.
But if you are losing money on each order as a late stage company, In today’s investing climate at least, it will be super hard for you to raise a new round.
Profitability is the buzz word now. That is where we are in the cycle. I saw this back in 2015 too when mass layoffs were happening and growth at all costs was not a hook for VCs anymore.
5 years later we are in the same scenario. From caring only about GMV, to Revenue to Gross Margin, we have come a long way!
Okay, Say you are CM positive. What’s next?
You need a way to earn predictable revenue through scalable acquisition channels without high variance in CAC. If you can do that, then you can raise more money, scale your orders and since you are CM positive, you can earn enough to cover your fixed costs, and turn profitable overall.
So the 2nd important metric is
2/ Predictable and Scalable Distribution/ Acquisition channels
It is easier said than done though. In the early stages you can show growth with lower CAC from facebook marketing, or by running a good referral program. But once you exhaust your initial audience, your CAC might shoot up leading to your margins becoming slimmer.
Wrapping up, If you can become CM positive, and there is enough growth to be had through predictable acquisition channels with reasonable CAC, then you can raise a VC round even in today’s date. Or even load up on debt.
Fixed costs can always be cut later to achieve overall profitability.
See how Ola, which is anticipating a tough economic climate, and wants to do an IPO, laid off 1/5 to 1/3 of their workforce to cut their fixed cost.. Suddenly their overall losses will have gone down massively.