Every entrepreneur believes they have the greatest product that is going to revolutionalize the world, worthy of venture capitalists bathing them in piles of cash to achieve their dream. But, venture capitalists don’t back products, they back winning business models. And, winning business models are anchored by companies that have the potential to generate lots of revenues with easily scalable, repeatable and profitable sales and marketing strategies. And, none of that will be truly determined, until you successfully test and optimize your product-market fit with potential customers. This post will help you learn exactly how to do that.
WHAT IS PRODUCT-MARKET FIT?
Product-market-fit is the point at which you have identified the best target industries, buyers and use cases for your product, to the point sales become repeatable and scalable and your product is flying off the shelves. It is the holy grail for most startups, that dictates whether they are on the path to being the next one-in-ten “10x” investment return companies for their investors, or the next three-in-ten flameouts that crashes and burns out of business.
HOW TO IDENTIFY PRODUCT-MARKET FIT?
To me, there are several distinct phases in the search for product-market fit: (1) you need to have a basic understanding of the market landscape and the key pain points being solved by your products; (2) you need to research the various industry verticals and potential buyers where your product may sell, to find the one where you think your business will have the most success to start; (3) you need to take your product to market to validate your hypotheses, and begin to optimize your target clients, use cases, messaging, price points and go-to-market strategy; (4) you need to close your first clients and learn your conversion funnel metrics, marketing economics (e.g., CAC and LTV) and learn user behaviors like their product engagement levels, utilization rates and lost customer churn rates; (5) you then optimize the above to make your sales process repeatable and scalable in a large market vertical, including optimizing your hiring, employee training, customer onboarding, the sales-to-operations handoff; and (6) you validate your ability to scale is profitable, your churn rates are low and will result in a material size business.
THE RIGHT WAY OF GATHERING MARKET INTELLIGENCE
The best way of doing market research is actually talking to your potential customers, dozens of them. And, no, not in some online survey; in an actually face-to-face or phone meeting with them, that is more interactive, and you can see how the conversation evolves in real time. Ask them what their current painpoints are around your industry, products or competition, or how much they would be willing to pay for that solution, you would be amazed what great insights come out of their mouths. They’ll tell you exactly what you need to build to make their lives materially better.
In addition, seek insights from your employees, especially your sales and operations team. Your sales people are in the market everyday talking to customers, you need to have a process to get those insights into the head of senior management. And, your operations team is typically seeing all the problems with the product and hearing the complaints from your customers. Any customer facing complaints need to bubble up to management and the product team, so they can quickly fix them. But, worth mentioning, make sure you have a large enough data sample here—the opinion of one person, is just that, an opinion. But, hearing the same points over and over again from multiple stakeholders, is something you most likely need to jump on fixing.
TEST, TEST AND TEST AGAIN
There is not only one correct answer for determining product-market fit. You need to be tinkering and testing with all the inputs along the way. For example, try three different price points, and see how far you can push it, before the customers start complaining or your conversion rates fall. Or, as another example, A/B test various sales pitches, emphasizing different aspects of your product, to figure out which specific feature is the one that gets your customers the most excited. Then double down on the winners after each iteration along the way.
FOCUS ON ONE VERTICAL AT A TIME
It is very easy to say your product appeals to many different industries and many different use cases, let’s go out and sell our products to them all. That is a recipe for disaster. When startup budgets are limited, it is always better to have a much more narrow focus, to start, and go really deep in that one narrow vertical. That will make you the clear industry expert in that domain, which will help spread the viral word-of-mouth and stimulate growth materially faster. In this case, it is much better being the master of one domain, than being a Jack of all trades. After you have built your scale and profitability in your first vertical, you take those “bullets” and fire them away in the second and third tangential verticals to your first. But, before doing do, make sure you have documented your process, learnings and framework from the first vertical, so you can apply to the next verticals, so you don’t make the same mistakes twice. And, at all times, make sure you stay focused on the long term vision. Don’t get swept up in the whims of the market that can having you chasing rabbits into unprofitable rabbit holes.
CREATE BUYER PERSONAS—CUSTOMIZE ACCORDINGLY
As you will learn, the behaviors of one industry, buyer role or use case, may have a materially different “rhythm” that another. So, you can assume what worked in one vertical, will work exactly the same way in the next vertical. Everything could be different. From your go-to-market strategy, to your sales cycle to your sales funnel metrics. For example, let’s say you are selling marketing technology. The needs of an enterprise level chief marketing officer (more strategic), will be different from the needs of lower level enterprise marketing manager (more tactical), will be different from the needs of a marketing agency serving that same enterprise client (more service oriented). So, customize your pitch accordingly, depending on who you are pitching.
IMPORTANT BUSINESS CONSIDERATIONS TO MAXIMIZE PRODUCT-MARKET FIT
First of all, you need to calculate your total addressable market size, to make sure you have a realistic chance of materially scaling your revenues. Second, you need to make sure you have a product that can withstand the onslaught of competition that will follow you into this market, if you are successful. That typically means having some clear competitive moat or customers who are not sensitive to price. For example, products related to “wisdom” typically come at premium and defensible pricing to “widgets”. And, third, think through your lifetime value of your revenue stream. You want products that are consumed frequently, to drive high repeat purchases, and solve major pain points for your customers. As I have said many times in the past, you need to be building “painkillers” for your customers, not “vitamins” to have any chance of materially scaling your business.
HOW TO MEASURE PRODUCT-MARKET FIT?
You can’t manage what you can’t measure, and the same holds true for your product-market fit. So, you need to figure out what key data points will help you track your success here. Some of those data points are pre-transaction, like sales cycle, unit-level economics and conversion rates. And, some of those data points are post-transaction, like repeat buyer percentage, lost customer churn rates and average daily usage of your product by your customers (e.g., how sticky and engaging is the product). So, figure out what makes your business tick, in terms of product-market fit, and track and manage against those data points.
David Skok, the venture capitalist at Matrix Partners, wrote a terrific blog post on this product-market fit topic. It included a great list of the key questions you need to be asking yourself along each step of the product-market fit process. And, it included a great calculator template to see how you can score your product-market fit. Create a similar calculator for your own business, and you will quickly learn if you are heading in the right direction or need to retreat into a new direction.
RINSE AND REPEAT THE PROCESS
Just because you found the holy grail of product-market fit, doesn’t mean you will keep it. You need to constantly be re-learning the market conditions and talking to your customers to learn how their needs may be changing over time. Constantly stay “paranoid” of losing your customers, to keep your competitive edge at all times.
CLOSING THOUGHTS
As you can see, determining and optimizing for product-market fit is a really big deal. It can be the difference between a huge win for you and your investors, or a complete loss of invested capital, even with a really great product. If customers are not lining up to buy your product, or your product isn’t sticky enough to retain them, or your product creates unnecessary strains for you or your customers while fulfilling your services, it is time to go back to the drawing board, and start rethinking your product strategy.
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