5 Reasons Startups Need Revenue As Well As Users
Some analysts argue that revenue drives growth, while others say user growth drives revenue. Both have worked. Google reached $1B in revenue within five years of incorporation, and now has a market capitalization of over $400B. Twitter showed no focus on revenue in the first five years, but was able to parlay 500M users into a $22B public company, now growing revenue.
Every startup dreams of achieving that milestone, when they can focus more on scaling the business and enjoying their earnings, rather than fighting for another investment infusion. Most are still confused about the right priority. Should they focus on increasing revenues and profitability, or entice more and more users with “free” services, to increase their valuation.
Traditionally, it was simple. A business only achieved critical mass by becoming cash-flow positive. Revenue growth (top line) then had to be converted into profit growth (bottom line), before a business was deemed to be self-sustaining and worthy of public investment.
It’s only been in the last ten years that social media companies, like Facebook and Twitter, have achieved market valuations in billions of dollars, while clearly sacrificing revenue to gain users. In my view, the pendulum is swinging back, with investors looking more for the traditional indications of business integrity, stability, and growth:
Some element of organic growth is a good thing. The purest form of capitalism has always meant charging a fair price and making a fair profit. Re-investing profits to grow the business is organic growth. The concept of free goods and services to get you hooked, financed by deep pockets, or advertising, seems marginally ethical to many.
Long-term stability requires revenue growth and profit. Most modern investors still look for a business model that embodies a gross margin over 50%, and a net margin in the 20% range.