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Early on, your main goal is to figure out if you have a business. In simple terms, this means you eventually need to figure out how to have less cash going out than you have coming in. As consumers, we’re exposed to a wide variety of strategies for viable business. Think about all the ways you can access cars, such as buying, leasing, financing, renting, sharing, or hailing. In some cases we pay for products as we consume them, as with food, gas, or haircuts. We also pay monthly subscriptions to access services such as mobile networks, music libraries, or insurance.

The transaction-focused business is quite easy to model. There is the cost to provide the product or service and there is the cost to acquire customers (and often also to provide support to make sure they’re having a great experience). You can determine whether the business makes sense if your customers pay you more than what it costs you to make the product or deliver the service.

Subscriptions are a bit more complex, as there are more questions to answer. Will an annual subscription cover all of your costs? How many months would it take until you begin to receive more cash than you’ve paid out to provide the service and acquire the customer?

We also need a different type of analysis to estimate the value of customers overtime. Lifetime value (LTV) refers to how much you expect customers to spend with you in total. If they are subscribers, you can think about this as the number of months that they are customers multiplied by the price of the monthly subscription. If you sell a product, you might think about how many times they might upgrade to new products.

Your ability to make money depends on understanding not just how much you will make but also when cash will flow in and out of your business. Simple models can help you think through different sales, marketing, and pricing strategies and also reveal the costs of unhappy customers. David Skok of Matrix Partners offers many great benchmarks and metrics to understand the dynamics of cash flows for software-as-a-service (SaaS), and those benchmarks are broadly useful for businesses of all types to think about.


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