In Search of a Business Plan
I’ve been spending more time talking with WordPress freelancers over the past year. Many provide services. Some provide products. Both are trying to make a living. They may not call it “running a business” but that’s what I call “trying to earn a living.”
The other thing they have in common is that they’re trying to run a business without working all day, and all night. And so invariably, the conversation starts there – about their time. But it never ends there. In fact, to be honest, the conversations rarely end.
The reason they don’t end, the reason they don’t come to a resolution, revolve around two questions I often ask. And these two questions are at the heart of things for me. They’re at the heart of every business model.
But you can see why, if a person can’t answer these two questions, why the conversation just has to go on pause. Because without the data, there’s not much point talking more. Other than encouraging them, and hoping they’ll show up to a WordCamp that has a business track.
Metric One: What does it cost you to get customers?
The first metric I think everyone needs to have a handle on is the cost of acquisition (COA). This a simple metric, really. If you want to get fancy, you can make it more complicated. But it comes down to this.
Take all the money you spent in sales and marketing. That’s every penny you spent on Google Adwords. That’s every penny you spent sponsoring a WordCamp. That’s even the cost of going to a WordCamp (if you did it to network). That’s every marketing software package you pay for.
Take all your sales and marketing costs (and don’t forget to include your own cost) for a period – make it a month, or make it a quarter.
Then, take all the customers you signed on in the same period (the month, or the quarter). Now do simple division. Divide the sales and marketing costs by your total new customers. That tells you the cost of acquisition.
But before you wrap up that calculation, don’t forget the following as parts of your sales and marketing costs. Make sure you’ve put all this stuff into your equation:
- Monthly software costs for email campaigns
- Email lists you purchased
- Conference registration fees
- Conference travel, stay and food fees
- Cost of offering any trial products
- Cost of supporting those trial products
- Any free proofs of concept you worked up
- The time to work on RFPs
All of that is part of your cost of sale. So make sure you get the whole cost together before you divide it by the total customers you acquired in the period.
When you’re done with that math, you have your COA.
What’s amazing to me is how many people don’t know that number. You need to know it. It’s one of only two numbers I think you should know as you move and breathe every day, week, month and year.
And if it’s going up, without you knowing why, slow things down and find out what’s up – because that’s not good.
Track it at least monthly – have it all calculated by the third of the month. And then compare it against previous periods and the same times in previous years. If it moves, you should be able to talk about why. This is a critical metric for you.
Metric Two: What is the value of your Customer?
The second metric I think everyone should know, is what a customer is worth to them. After all, if your COA is higher than the value of your client (what we call the Lifetime Value – LTV), then you need to find a new business.
In the product game, your LTV is not only the revenue that comes from your initial product, but from the additional add-ons and other services you sell. It’s your maintenance contracts, membership fees, and more.
In the service game, your LTV takes more time to initially gather, but it comes from the notion of repeat business. Certain clients will regularly bring you more than one project, of a particular size. So you can know what their LTV is by making some guesses about the number and size of those deals.
What ruins LTV?
Even though I promised not to write about more than 2 metrics, I find a third somewhat helpful – which is your churn or attrition rate. This is the rate at which people quit you. Not me, because I can’t quit you. But others.
High churn, or high attrition, will lower your LTV and make things harder for your business model to make sense. Instead, you want happy customers. Customers who stay. And customers who bring their friends. That’s why I think your attrition is another metric to put on your list.
Customer satisfaction is another dynamic that lowers your LTV. People who are unhappy, and share this, will hurt you – often as much or more as those who are happy with you. Another secondary metric (which I love but is bigger than this article) is the Net Promoter Score (NPS).
Either way, tracking custom satisfaction, their desire to share you with their friends, and the rate at which they quit you, are all helpful ways to know if your LTV will be dropping soon. Stay on it!
So let’s assume that you have your two metrics calculated just days into every month – your COA and your LTV. What next? Well, I promise this isn’t going to be difficult math. But it’s still a bit of math.
What these really are is guides to help you. The first is a no brainer, as I mentioned before. If you can’t know that you’ll make more from your client than what it costs you to win your client, you should pack it up and find something else to do. That’s in the form of this equation.
LTV – COA > 0
Like I said, pretty easy.
The second equation depends on a lot of things, but it boils down to how much better your LTV should be than your COA. I think it should be significantly better, but I know others that suggest modest levels of better. But since I’m writing the post, here’s my target.
LTV – 4(COA) > 0
What does that mean? It means the lifetime value of your customer should be four times (or more) greater than the cost to acquire them. Like I said, I know this is up for debate. You may have your own metric. But please, whatever you do, take a stand and make your own and then monitor it.
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