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Revenue vs. Value

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.

Startups aren’t supposed to be revenue machines right away; at first they’re designed as business model experiments.

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.

How can we identify these pre-revenue startups with significant upside and get involved in them before this happens? I believe there are many publicly available signals that indicate how a company is doing, and I am building tools to track, measure and organize this information.

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.

These signals, combined with dozens of other more subtle ones reaching me subconsciously, lend the company an air of inevitability.

Be everywhere, be awesome.

Capturing Value

How much does this public awareness increase the value of the company? A lot.

As a founder, investor, or employee what matters more? $10,000 in revenue this month or the beginnings of a brand that is known and loved thousands of people and growing every day.

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.

© Mattermark 2024. Sources: Mattermark Research, Crunchbase, AngelList.