General Catalyst reposted this
Technology companies today structurally underinvest in growth, which severely hurts their long term equity value. At scale, their largest use of cash is S&M/CAC. This spend creates an “asset” in the form of lifetime value (LTV). A company’s investment in that asset should not be constrained by their balance sheet or other irrelevant metrics – but solely by the yield on that asset. This is how the company maximizes its value. I wrote a longer piece about this. If you find this interesting – or would like to talk through the impact this way of thinking has on companies – please feel free to reach out.
Seth G.
1mo
Very important qualifier on this - you have to exclude in period new customer gross profit if you are excluding CAC, or include the portion of CAC that would be amortized in the first period. Ancient Crunch Inc. is growing 5x+ YoY, and getting to remove all growth marketing spend without removing new customer revenue would honestly paint an overly generous P&L, as much as I would enjoy it
Rahul Gupta
1mo
Agreed, especially true for new age companies where intangible investments are greater portion of total investments. Michael Mauboussin, Anup Srivastava and few others have written brilliant papers that capture similar essence. Link for Michael’s one such paper below for anyone interested to learn more: https://www.morganstanley.com/im/publication/insights/articles/article_returnoninvestedcapital.pdf
Pedro Rocha
1mo
Totally agree. By the same token, we should “capitalize” part of R&D. It’s more akin to capex than it is to normal expenses. There’s the issue of separating what’s maintenance vs “new” R&D. But in financial analysis of asset-based businesses, this is also true for capex.
Ayush Sood
1mo
There is a reason that the best companies in the world treat growth as an engineering discipline 🙃
Really enjoyed the read. Thought provoking Pranav Singhvi . Coming back to EBITDA and thinking out loud. The other big spend for a late stage tech company would be R&D- wondering if there are ways in which it could capitalize those expenses as they build an asset by taking on debt and amortize it over time.
Karanveer Mohan
1mo
One of the saddest things in venture today is how much enterprise value is being destroyed by VCs whose pendulum has shifted from "grow at all costs" to "profitability at all costs." Growth is an output, not an input, the input being the CAC machine (S&M spend -> customers -> lifetime value). When we look at the world through this lens, we start moving toward a world where we will once again start creating long-term equity value
Mark Stouse
1mo
One point I’d make here is that how we think about CAC must be a function of cost, but more importantly as a function of effectiveness. CAC is calculated as a function of money spent v new customer rev, normally translated into “ROI” as CAC / LTV. The problem is that LTV is almost always a bullshit number, and when churn happens it inverts that ROI relationship. So, what does this mean? It means that demonstrating the causal impacts of the components of CAC against any number of dependent variables (business outcomes). This is the only way to support the viability of one CAC level versus another. What’s the multiplier on CAC over what time frame? is the key question.
TJ Allison
13h
post PMF is such an important distinction here, but I love the straightforward approach. you're buying access to revenue growth and matching the investment to that incentive is what makes the most sense
Christian Limon
1mo
I. Old economy CapEx is interest. You have my support for rethinking cash and capital allocation culture. II. "CAC machine" is interesting bc it's emphasizing the cost element. The high-watermark would be instead to build a Cash-to-Equity Transformation machine. Transform $X00M into $XB in equity value, every 2-3 years, at widening ratios Rotating out of M1 (losing purch. power) into Tech Equity is effectively going the full length of the field in record time.
Product Executive, Artificial Intelligence
1moThought-provoking writeup, Pranav Singhvi. Could you clarify a couple of points to help illustrate how to operationalize: 1. I believe you meant to say marginal CAC = marginal LTV. I did not see marginal prefixed to LTV in your equation. Was that a typo or intentional? I believe your point is companies need to spend up and until you get to a break-even customer. 2. How would financing work to fund CAC equivalent to the traditional asset-based financing? CAC can be deterministically measured - looking back. LTV is an estimate. For more recent cohorts, the bigger the contribution to LTV of estimate vs. actual. A company could easily claim LTV for new cohorts will be larger because our product portfolio is bigger, better etc., So what safeguards need to be put in place to determine that this CAC will be collateralized? I can auction equipment. I cannot retrieve money from advertising dollars already spent.