Revenue should be a straightforward metric. Unfortunately, it’s not. It often takes unnecessary time away from a fundraising pitch to understand how a startup makes money. Being vague on numbers and sharing confusing or, wrong metrics, is an easy way to get investors to tune out. Instead, build trust by using the right metrics.
I encourage founders to stick with the metrics outlined in the blog post 16 Startup Metrics from Andreessen Horowitz. I refer back to it all the time when evaluating startups. Founders in Latin America can use the established terms of Revenue, GMV, and ARR to paint a clear picture of their business model for potential investors.
Revenue is the amount of money a company generates from the sale of goods or services. It should be displayed in a way that matches the business model. Revenue can be the amount of money a:
- Marketplace receives as a commission for connecting merchants to paying customers
- Subscription business receive from users
- Lender receives in interest payments from borrowers; or
- E-commerce retailer receives for selling its own products
One area of confusion is when founders use the terms ventas (Spanish) or income (English) to refer to revenue. Ventas can be confused with GMV (see below) and income is generally used for gross amounts that flow to people or governments. For businesses income often refers to net income, or earnings. I recommend sticking with the term revenue.
Another source of confusion is to use the cash accounting method for revenue. This method would, for a subscription business, recognize the entire payment for an annual subscription in the month in which the payment was received. This can result in overestimating monthly revenue growth and distorting the ARR calculation (see below). Revenue for annual, or quarterly, subscriptions should be spaced out over the life of a subscription.
Gross Merchandise Value (GMV or monto transaccionado in Spanish), is the total transaction volume that passes through a marketplace. This is a very important metric, but it is not revenue. Founders often refer to this metric in Spanish as ventas which almost always requires clarification as to whether they mean GMV or revenue. A common valuation reference for marketplace models is 1x – 2x GMV.
Annual Recurring Revenue (ARR) is calculated as 12x the latest month’s recurring revenue. For high growth startups, it’s a quick way to annualize a short period of revenue. This metric is typically used for subscription business models. Recurring revenue should only include revenue from clients that are paying for a startup’s core product or service. It should not include revenue for one-time projects or the full amount received for an annual subscription. A common valuation reference for the SaaS (Software as a Service) subscription models is 3x – 4x ARR.
Founders that explain their metrics clearly set themselves apart and build trust with investors. When investors don’t fully understand a business model, they will often move on to the next opportunity before taking the time to ask for clarification. Sharing the correct revenue metrics will have investors leaving pitch sessions feeling like they have learned something and increase the likelihood they will investment.