Revenue can sometimes be a Vanity Metric
In most situations, I’ve found the following startups cliches to be true:
“Nothing happens until you sell something”
or another favorite of mine:
“A contract is a great way to validate a customer’s pain”
However, sometimes revenue can actually become a vanity metric.
If you aren’t familiar with the concept of vanity metrics, the idea is that often startups will show numbers from their business that while impressive on the surface they are not actually predictive of the startup’s progress in developing their business. Caleb Wojcik explained them simply as “numbers or stats that look good on paper, but don’t really mean anything important.”
Examples of a few really common vanity metrics include:
- Showing compounding total users instead of analyzing customer interactions by cohort
- Number of followers on Twitter or likes on Facebook
- Total app downloads
Each of these may be helpful contextually in the early days of building a business, but ultimately they don’t really mean anything.
Getting to the point of this post, sometimes revenue (even when analyzed correctly) can also be a vanity metric. The easy example would be legacy service revenue. For example, if you had a consulting business that you used the revenue from to bootstrap your new startup. While it’s obviously great to have that non-dilutive source of capital as you get started and certainly that’s impressive, the amount of service revenue is really irrelevant to the valuation of the startup going forward given you’d stop doing services once you received investment to “focus on your product”
However, the more interesting example that I’ve encountered a few times recently is sometimes a business will generate revenue that isn’t scalable and isn’t part of it’s long term vision. In some cases, it wasn’t even from the market that they ultimately believed would be their primary source of revenue and instead was from intermediaries that the entrepreneur pitching me was quick to point out had a relatively modest upside and “wasn’t our long term customer.”
In either case above, those revenue numbers are simply vanity metrics.