The pressure for revenue growth has hurt a lot of young companies. It starts with an entrepreneur representing a growth story to an investor. Then the investor represents the growth story to his firm to gain support for the investment. And then the investment happens. Then the company takes the investment, invests in sales and marketing, and the company grows. Everyone is committed to growth, gets used to growth, and expects more growth in the future.
This is all well and good – if and only if – the single unit value is there, especially in mass market companies that service consumers or small/medium size businesses. There are two aspects to single unit value: (1) single unit satisfaction and (2) single unit economics.
Single Unit Satisfaction
The fundamental question is if you take a single customer, do they derive sufficient value from using your product or service?
- For a consumer social web service, maybe the key value measure is whether a user will tell two friends about it.
- For a SAAS company, the key value measure might be renewal.
- For a transactional company, the key value measure might be a repeat transaction rate.
This is not intended to be rocket science. Companies need to focus on a single customer, that is in their target market, and make sure they can deliver sufficient value to that customer to drive the right behaviors (referral, renewal, repeat usage). It goes without saying, trying to build a great business on the backs of customers that don’t perceive sufficient value in your product or service is impossible.
Single Unit Economics
The fundamental question now is if you now take that satisfied customer, can you make money based on your business model? Companies need to fully burden the cost of servicing a single customer to understand single unit profitability. This includes marketing, sales, cost of goods, capex, servicing, overhead, etc. The question therein is whether that single satisfied customer is profitable given all that it costs to acquire and service them?
- Many online video sites excelled at single unit satisfaction, but they got hammered on the economics because they didn’t generate enough ad revenue to cover a single cost component such as bandwidth to deliver the videos.
- Some mass market companies that can cover sales and marketing costs, get caught up in the cost to service customers on the back-end. The old local food delivery service, Kozmo.com had this issue.
- Infrastructure oriented companies, like wireless service providers, that have up front capex to deploy new customers, need to be crystal clear on lifetime value of customers – to cover capex. Otherwise growth is in fact detrimental.
- It goes without saying that if your selling your product for less than what it costs you – some of the early online retailers like MotherNature.com faced this. You can’t make up negative gross margins with volume.
Sometimes the pressure for growth obscures the importance of single unit value. In reality, there is no reason to invest for growth if the single unit value is not there. It’s more prudent to wait, get customer satisfaction and economics nailed right, and then push for growth. Pushing for growth prematurely at best will waste money unnecessarily, and at worst, will accelerate the demise of the company. On the flip side, if the economics and value are there, rather than tiptoe forward on the growth plans, it’s prudent to invest aggressively for growth. That’s when great companies are built, but it often requires patience in the early days.
Larry Cheng is a Managing Partner with Volition Capital in Boston, Massachusetts. This blog post was originally published on March 11, 2010. You can find this post, as well as additional content on his blog titled Thinking About Thinking.