I was recently in a board meeting for one of my portfolio companies, and we had a discussion that must happen in almost every board meeting. The CEO shared the revenue target for the year at X, and the revenue target for next year at 3X. Sounds pretty normal, doesn’t it?
The discussion that ensued was insightful and I thought it would be worth sharing it here for founders who are dealing with a similar issue. One of the board members asked a simple question: “Why is revenue our North Star KPI?”. No one questions the importance of revenue, but asking the question enabled us to start thinking on what would be the right metric. Did you know that companies like Airbnb, Spotify and Netflix purposely avoid setting revenue as their North Star Metric?
In this post, I will cover why revenue is important, why it’s a bad north star KPI and what startup founders should consider when choosing a North Star Metric (NSM).
Why is revenue important (the obvious facts):
We can all agree that revenue is important, or even essential, for startup success. There are of course exceptions, mainly in the B2C world, like Waze, which sold to Google for $1.4 billion with zero revenues, or Whatsapp, that sold to Facebook (aka Meta) for $19 billion with little or no revenue.
- Revenue is the only path to profitability and being ‘default alive’ (or in other words, profitable, and independent from outside investment for survival)
- Cash is king – a startup’s runway depends on revenue and cash can solve a lot of problems when it comes to resource scarcity
- Revenue has a big impact on the company’s future valuation in a subsequent round and can be the major driver for price in an acquisition scenario
- ARR is the lifeblood of SaaS companies and determines your budget, marketing spend and other metrics
- Revenue is a reflection of customers willingness to pay for the product/service the startup provides.
But when thinking about revenue/growth, it’s worth taking a few things into account before you set revenue as the main goal for a company.
Why is revenue not a good ‘North Star’ Metric?
- Revenue is not necessarily an inspiring goal for employees – to attract top talent, you will need to inspire employees with your mission, not just your metrics. Employees may or may not be able to directly contribute to a revenue target (depending on their role) and won’t be inspired by it. A better question to inspire employees can be, what value do we unlock if we’re successful with our mission?
- Revenue doesn’t measure sales efficiency – you can hit a revenue target but the question is at what cost? i.e. if you get to $1M ARR, but reduce your runway by 6 months, is it worth it? Sequoia shared this advice on sales efficiency with portfolio founders in their recent ‘adapting to endure’ series.
- Revenue can optimise short term thinking – extracting as much money as possible from customers can help you hit a quarterly or annual revenue goal, but it doesn’t tell you much about usage and customer satisfaction. Without measuring customer delight/NPS and reducing churn it can backfire and become unsustainable in the long run.
- Revenue doesn’t imply product market fit – if people are paying for the product but not using it, you don’t have product market fit. Revenue can be the result of good marketing, but without taking into account usage and retention, focusing on revenue alone can be misleading.
What’s a good North Star Metric?
A well-chosen north star metric will drive growth by focussing everyone in the company on a single customer behaviour. Your North Star Metric captures the effects of all the things your team is doing today that lead to sustained growth. It doesn’t just measure progress, it drives insightful and dynamic thinking.
Lets look at some examples:
“To uncover your North Star Metric you must understand the value your most loyal customers get from using your product. Then you should try to quantify this value in a single metric. There may be more than one metric that works, but try to boil it down to a single NSM”
Sean Ellis, What is a North Star
“Your north star is how your users would behave if they loved your product”
Nick Black, What is a North Star Metric and how to set one
For example, a meaningful output metric for Spotify could be time spent listening to music.
“A North Star metric is the one measurement that’s most predictive of a company’s long-term success. To qualify as a “North Star,” a metric must do three things: lead to revenue, reflect customer value, and measure progress”
“Revenue” is a poor North Star Metric. Revenue is the price that your customers pay, while your North Star Metric is the value that your customers get back for that price.
A north star metric should consist of two parts:
- A statement of your product vision and
- A metric that serves as a key measure of your current product strategy.
In “Don’t let your North Star deceive you“, Reforge makes an important distinction between input metrics (results) and output metrics (actions). When choosing a north star, it’s better to focus on actions, not on the scoreboard/results. In a nutshell, Reforge claims that a North Star Metric should measure value obtained by user, not results.
In the case of Spotify for example, users get the most value out of the app when they listen to songs, so a meaningful output metric for Spotify (i.e. action) could be “time spent listening to music”. Time spent is the result of a set of actions. You need to determine what those actions are by breaking the metric down into layers of input metrics. To do this you would ask yourself, “What actions could we take to lead to our users to spend more time consuming music?”
Two potential answers would be:
- You could bring the user back to the app more often and/or
- Get them to spend more time listening during each session
In “Choosing your North Star Metric“, Lenny Rachitsky describes the north star metric as the top-line metric that all company priorities are aligned around. Choosing the ‘input metrics’ mention for Spotify above, the team needs to know what levers to pull.
After surveying over 40 growth stage companies, Lenny concluded that the North Star Metric depends on the company’s business model and what drives growth. I summarised it below:
- Marketplaces – basket size and volume of transactions (nights booked, rides taken, and orders placed, respectively)
- B2C subscription based companies – where most of the value is driven by paid marketing, mostly select ‘growth efficiency’ as their north star, meaning a sustained improvement in margins and LTV/CAC.
- Freemium B2B products -like many of today’s SaaS startups which start free and grow bottom up via paid subscriptions (think Slack or Coda) choose either engagement or customer growth (like Airtable’s weekly paid seats or Asana’s weekly active paid users)
- UGC subscription based products – companies like Twitch or Loom focus on consumption rather than engagement, because the sharing and consumption of content is at the heart of their growth flywheel.
- Ad-driven businesses – like most of the media and social media platforms like Meta, Snap or Pinterest, focus on engagement as their north star. DAUs, WAUs or MAUs, are a good indication of how valuable is their audience for advertisers.
- Consumer subscription businesses like Tinder, Duolingo or Strava, choose either engagement (in many cases because their models are ad-driven when free and engaged users are more likely to convert to paid) or customer growth. Spotify, which has both a subscription business (music) and an ad-based business (podcasts), focuses on engagement, customer growth, and consumption.
Take a look at this list of 40+ North Star Metrics for growth stage companies (click to enlarge)
Revenue is a bad north star KPI because it doesn’t necessarily reflect the success of a startup. Venture capitalists often look at revenue as the main indicator of a startup’s success, but it’s not the only metric that should be considered.
Finally, no matter what stage you’re at as a startup or company with a new product line, expect your North Star Metric to change as your strategy shifts. It will evolve as you learn more about what keeps your team focused, motivated, and building toward the ultimate vision. Your North Star Metric is your strategy, and your strategy is your North Star Metric. Choose wisely.
Lenny Rachitsky, Future.com
Remember that the north star metric is about value to the user, not a scoreboard for the startup and try to answer the question: if you’re successful with your mission, what value are you unlocking?