Metrics, KPIs, and being data-driven; What do these really mean?

After years of directly working in, on, and with hundreds of startups and observing their common mistakes, if you ask me what the biggest mistake founders make is, I have no answer other than “Founders tend to fool themselves. Many of them talk, and worse, make decisions based on optimistic assumptions — in fact, things they wish to happen.”

There’s only one way to escape this trap: Face reality (= numbers) and be data-driven!

Data-driven — big words! But what does it mean? Does it mean finding the right metrics and KPI(s) and tracking them? Yes, but that’s not all.

The relationship between these metrics and the KPIs is just as important as the metrics themselves!

Let’s get even further: without understanding the connection between your metrics, you won’t be able to find your KPI, and without understanding your KPI, metrics, and the relationship between them, you can’t make the right decisions. Let me break it down.

What is a metric?

Every quantifiable (numerical) data point you can capture from your business is a metric. From the number of visitors on your website to the salary of your marketing staff! However, not all metrics are equal in value from a decision-making perspective. Some vanity metrics could even be misleading. Let’s leave it here, as it’s not our subject today.

What is a KPI?

As its name suggests, a Key Performance Indicator (KPI) is one single* metric that, if it grows, your business is definitely growing. It may sound easy to find and understand at first sight, but believe me, it’s not that simple. Your KPI is unique to your business model and pricing and should consider CAC, LTV, margin, and potentially other relevant metrics.

*Some people say it’s okay to have more than one KPI; I think when it’s a KEY Performance Indicator, it should be one.

Why are basic metrics (like revenue or number of users) probably not good KPIs?

Let’s talk about the revenue first. As a company, your goal should be to generate revenue. Your KPI should help you to achieve your goal (which is revenue) by giving you direction on where to focus. If you put revenue as your KPI, you know if it grows, you’re growing, but it doesn’t give you the data on how to grow.
Revenue should not be considered a KPI in itself, as it is the result of other positive metrics and KPI(s).

Additionally, you probably* should not consider other basic metrics like the number of users (paid/unpaid) or subscribers as your KPI. The reason lies behind the word definitely a few paragraphs above. Can you say that your business is definitely growing as your number of paid subscribers grows?

In a high-margin, low-cost business model, you might be able to say “Yes” (that’s why I said probably*), but in many modern business models (like a subscription-based SaaS), it’s not that simple.

For example, suppose you have a subscription-based platform charging customers $10 per month with a 70% margin and a Customer Acquisition Cost (CAC) of $24. In that case, you’re losing money on each new subscriber you onboard to your platform(!), UNLESS they remain subscribed to your platform for at least four months.

Let’s do the calculation together: You make $7 per month per subscriber (70% * $10), and you spend/invest $24 on finding and acquiring each subscriber. So, for a subscriber to generate profit for you, you need to keep them on the platform for a minimum of 4 months. (24 ÷ 7 = 3.42)

For this example, I suggest another KPI: The number of paying subscribers who were on the platform for equal or more than four months. With this KPI, if your numbers are growing, you can definitely say your business is growing*.
* As long as you keep your KPI updated to reflect the ongoing facts of your business.

Revenue, number of subscribers, or other similar, known, and not unique metrics can’t cover the different aspects of your business. In reality, the costs of operations, marketing expenses, the quality of your product and many other factors impact your business. Therefore, your KPI should be impacted by all of these factors as well.

How would understanding the relationship between metrics and KPI(s) help?

Back to the example above, imagine your platform suffers from a bad UX, which leads most subscribers to stay no longer than three months. In this situation, if you don’t know your KPI, you may pour more money into your marketing channels to acquire more users (instead of improving the UX/stickiness of the product), happy with your vanity growth. Your number of subscribers is growing, and your revenue is also growing, but your business is not. In reality, the more users you onboard, the closer you will get to bankruptcy.

Knowing your KPI and the metrics impacting it allows you to understand your options to optimize your business, avoid works that don’t really progress your business, and focus on what really matters for growth, on things you can tweak that would effectively impact the equation.

If you understand the relationship between your KPIs and the metrics associated with them, you can enhance the KPI (the business) by adjusting the metrics that influence them. This approach is how you make data-driven decisions.

In the example above, assuming our KPI is “The number of paying subscribers who were on the platform for equal or more than four months”, and understanding in the calculation of this KPI, the CAC, pricing and margin, and subscribers' lifetime were involved, then we know by improving any of these metrics, we can improve the overall KPI (and business):

• CAC (CAC itself consists of other metrics like marketing expenditure and number of subscribers). So, one option would be to find a more efficient and impactful marketing strategy to lower the marketing cost or increase the number of subscribers without adding to the budget.
• Margin and Pricing: Other options would be to increase the price or to decrease the costs associated with the user, like improving the architecture to lower the processing cost on AWS or even creating a support chatbot to lower the support cost.
• User stickiness: Another set of options would be relevant to increasing the time users remain as subscribers. Which can be done by improving the UX, creating more features, etc.

These are all options you would have as a founder/CEO.

Thanks to understanding our metrics and KPI, we have the options in front of us. But how to find “the best option”? We’re not there yet; we still need one more step to take.

How a simplified “Financial Forecast” document would help us?

A financial forecast is a document that shows your calculations on how you will grow over a couple of years: How many users will you get, how much money will you make, and how much will you need to spend? The goal is to see the impact of a minor change in one of your metrics on the whole business, both in the short and long term.

Before creating the financial forecast document and finding the golden but buried key performance indicator, you should understand your business model, specifically the expense and revenue streams.

Start with a Google Sheets. The goal is to create an intentionally-simplified financial model. A document that shows how much you will make every month for the next five years and how much you will spend.

This document should have three sections: Business Metrics, Revenue, and Expenses. Eventually, you will compare revenue and expenses to understand how your business is doing, but your business metrics are impacting factors causing your revenue or expenses to go high or down.

Start with the Business Metrics section first. If we continue with the example above, the idea would be to find the total number of paid subscribers you can acquire monthly. To understand that, you have to start from a very basic metric where you can have an estimate for. For example, in most online businesses, you can have an idea of your monthly visitors or monthly downloads if you have a mobile app. Alternatively, you can rely on Cost-Per-Click ad tools like Google Ads to see how much they charge you to send you one visitor and estimate the number of visitors by dividing your budget by the cost from CPC networks.

Then, map your customer journey from there. Ask yourself what steps a person needs to take to become a paying subscriber, and what is the conversion rate between each step? For example, I can get 1000 visitors, with a conversion rate of 20% between visitor and user, I would have 200 non-paying users, and with a conversion rate of 5% between users and subscribers, I would have 10 paying subscribers. Each of these steps will become a row under your Business Metrics section.

Now that you have the number of subscribers, you can forecast your revenue by multiplying the number of subscribers from the Business Metrics section by the monthly price per user (a row in your Revenue section). The objective for the Revenue section is to forecast your gross revenue. (total money you receive from users, without any deduction)

Now it's time for your expenses. Expenses are usually easier to list. You can write all the costs you must pay to operate your business, including salaries, infrastructure, outsourcing, etc. You just need to be mindful of two things:

• The variable costs: Some costs will increase based on some other metrics, like your infrastructure costs, which will grow as the number of users grows. You can read the number of users from the Business Metrics section, which you prepared previously, and calculate the infrastructure cost based on that.
• Costs should make sense: If, in the Business Metrics section, you mention you would have 50,000 monthly visitors, you should reflect the associated cost in the Expenses section.

Now that you have the first column filled with numbers, you can assume a growth rate for your metrics and fill out the entire forecast sheet for the remaining months.

It’s very important to use the formulas for this document and all the calculations and avoid inputting the numbers manually. The goal is to see if you change one number and how it would affect other numbers.

Example File

A few months ago, I was thinking about running an online classified ad business, and what I usually do when a new idea comes to my mind is to create one of these financial forecast documents to see if the business idea makes sense, at least on the paper. I never launched that (typical), so I’m sharing the document for your inspiration. You can download it from here.

Please note that this document (and each financial forecast document) reflects the very specific business model for which it was created. You need to create your own.

Very Important notes:

• Everything in this document is an assumption. If your business has been active for a few months or more, you should already be able to have a good assumption of the Business Metrics numbers (like your conversion rates or your monthly visitors on the website). If you’re doing this before starting the business (which is the best thing you can do), don’t worry about not having the numbers. Put your assumption, your best guess or what you could find from the most reputable resource around you. As you run your business, replace the assumptions with actual numbers; after a couple of months, your data will be pretty accurate. But for now, the goal is to help you understand the relationship between each metric better.
• This is a highly simplified version of your financial document. It does not consider many factors, like refunds, the decline in growth rate over time, marketing channel saturation, etc. We know that, and it’s fine for the beginning. You need to have more and more accurate documents as your business grows and evolves. As a founder, you should take the responsibility of always visiting, reviewing and updating not only the numbers but also the formulas and even the structure of the file to always represent the current situation. Once you make enough money, you will hire someone to do it for you.

Finally, how to be data-driven?

Now that you’ve created your basic document, the fun time begins: Change one of the conversion rates by only a fraction of a percent, decrease the price by 10%, remove the salary of your graphic designer and outsource the job, and then see how your KPI (and your revenue) in the 3rd year has been impacted.

The more you spend time on this document, the more you will figure out the relationship between your metrics, and the more you will understand what matters and what doesn’t. Just play with this file!

Let’s recap: Now you know your KPI and the metrics that impact it, so you understand your options to improve the numbers. Plus, you have a financial forecast document that lays out the relationship between each metric, your KPI, and your revenue/profit.

When you want to make a major decision as a founder/CEO, create different versions for each option (solution/actual activity) you’ve identified based on your KPI and metrics. See what changing any metric does in the short and long term. Then, pick the best option and focus on making it happen.