Metrics that matter in uncertain markets: a conversation with Tomasz Tunguz.

Since the market’s dramatic shift earlier this year, I’ve wanted to catch up with my friend and past colleague Tomasz Tunguz. Last week I finally managed to book him on my regular webinar series, What I Wish I Knew, to do just that. Tomasz is Managing Director at Redpoint Ventures, co-author of Winning With Data, and author of the must-read blog Tomasz Tunguz. He’s renowned for his data-driven insights, and he brings a unique perspective to measuring business success. I think that, like me, you’ll get quite a lot out of his remarks, so here are some highlights from our talk.

Challenges of a data-centric culture.

I started by asking Tomasz what finance leaders should think about when creating a data-centric culture. He identified two obstacles that I’ve witnessed myself in the past:

• Data breadlines — when people have to wait to get the data they need for analysis and to make decisions.
  • 41% of webinar attendees ranked “getting the necessary data on a timely basis” as their top issue.

• Data brawls — the discord that arises when different teams interpret the data differently, which is generally linked to different definitions of metrics.
  • 24% of attendees ranked “agreeing on definitions and implications of our metrics” as their top issue.
  • 32% said both access to data and their definitions were top issues.

These problems arise due to a shift from a centralized model (IT purchases, deploys, and controls data systems) to a decentralized model referred to as data mesh. In this model, various departments produce and manage their own data. Increasingly, it falls to those of us in finance to take on the role of a company-wide data manager to solve the attendant issues.

Tomasz felt that we finance teams are the right ones to handle this responsibility (“finance is where the buck stops on metric definitions”), referring to us as the dispassionate and analytic ones. I pointed out that the availability of data and fidelity to standard definitions are also probably more important to finance teams, who regularly look to external benchmarks to assess the progress and success of a company.

Tomasz recommended one of my own best practices: a central repository of definitions so everyone can access them, along with alignment from leadership on down on those definitions. My own experience corroborates Tomasz’s caution that “Alignment is the hardest thing inside of a company as it grows.”

Access to new capital.

I wanted to know Tomasz’s outlook with respect to maintaining healthy cash positions while investing in growth. Since the correction started last year, the recommended runway has grown longer and longer, and I asked him what guidance he was giving to his portfolio companies.

“The best place to be is around 28 to 36 months. Initially, the feedback was 18 to 24 months. If you look at prior recessions, on average, those collapses took about 12 to 14 months, and the stock market rebounded 153 days before the end of the crisis. It takes two quarters to figure out you’re in a recession, and by the time you figure it out, the market is recovering.”

However, the current recovery is taking longer than expected. To cool inflation, Tomasz warned that the Fed Funds Rate needs to intersect with the CPI, which is currently at 8%. But he also pointed out something that is important for all of us to bear in mind when it comes to raising money — the unprecedented compression of multiples.

“What we maybe didn’t take into account was that, yes, there’s a slowdown in the economy, but there’s also historic multiple compression that will probably never go back.”

We should not expect to see the levels witnessed in 2020 or 2021 when interest rates used to discount future flows were at 0%. Tomasz noted that venture debt is something companies might want to consider to extend runway until the market becomes more hospitable to new raises.

Efficiency and the metrics to support it.

The shift from “growth at all costs” to “managed growth” to preserve runway has been one of the fastest moves I’ve seen since 2008/2009. I asked Tomasz how that has impacted metrics that are important to focus on.

“Over the last few years, revenue growth was the highest correlated to the valuation of a company, and efficiency metrics didn’t matter as much as the slope of the (revenue) curve. Now it has changed. The highest correlation is EBITDA margin, and the second is sales efficiency: How many sales and marketing dollars do I have to spend in order to buy one gross profit dollar?”

With the market now focused on revenue growth plus efficiencies, Tomasz described a simple heuristic a lot of VCs are starting to use: the total ARR divided by the total cumulative burn of a company.

Finding the right leading metrics.

Pipeline metrics have taken center stage in this market so companies can understand the health of the sales cycle and, in particular, be on the lookout for what Tomasz referred to as “pipeline shocks.” One such shock he drew attention to was the lengthening of the average sales cycle — a condition of the current business environment.

“If you have a certain number of bookings that you expect, and you double the length of your sales cycle, the impact to your bookings is catastrophic.”

Any increase in the sales cycle should therefore lead to an increase in pipeline goals and a focus on top-of-funnel proxy metrics to measure the health and size of that pipeline. I know that we at Airbase are relentlessly focused on our pipeline metrics, having built forecast models that we plot each day against actuals. This daily report is made available to the GTM team, who are able to adjust their decision-making accordingly.

“Pipeline is the health of any business. And it’s even more important in this environment, where the sales cycle is lengthening. It’s not going to be uncommon to see enterprise companies miss two or three quarters in a row. If you previously were operating at 3X pipe per quarter, you should plan for 5 to 7X now,” advised Tomasz.

Efficiency in marketing spend.

I was interested to hear Tomasz’s nuanced take on cutting marketing spend to improve efficiencies. The tendency in companies is to cut program spend to avoid cutting headcount. “As a board member, I push back on that. If you cut a lot of program spend, you’ll increase efficiency, and the numbers will look good in the short term, but in the medium term, your pipeline will suffer. You’ve got to keep the flywheels going.”

I know that we, like many of you, grapple with what level of inefficiency we’re willing to tolerate today to ensure that we can still meet our growth targets in the future. I noted the negative impact on growth that initial pandemic-induced hiring freezes had on some companies when it came time to resume recruiting.

Measuring marketing success.

When asked by an audience member how companies should measure the success of the marketing department, Tomasz acknowledged that it’s a tough metric. He pointed out that when he surveyed 500 different companies, there was no difference in quota attainment between choosing either leads or meetings as the metric, so it’s just a matter of choosing one.

He suggested focusing on combined sales and marketing CAC. “I would start between CAC and payback period and then parse it. You want to be between 14 and 18 months if you’re not closing enterprise contracts (between $10K and $100K), and if you’re selling $100K plus, then it’s probably 18 to 24 months.”

He went on to say, “I think of the marketing team as a hedge fund. They’re building a portfolio of marketing techniques: some will be profitable, some won’t be.” That seems a fair characterization. In my own experience, the best role for finance to support marketing isn’t to stifle creativity but to help them determine what’s working and what isn’t so that spending can be as efficient as possible.

Protecting retention rates.

In a slowing economy, it’s clear that retention becomes more crucial and, as businesses falter, a bigger risk. He suggests working on adding new logos in non-cyclical businesses that are trending flat to up in this environment. Cyclical businesses, by comparison, are down 20 to 40%. “Repurposing your go-to-market efforts to focus more on stable businesses is one way to reduce the risk of churn.”

Other strategies like product-led growth may be helpful in this environment, but they will come at a cost. “The push to PLG may increase net dollar retention at the expense of ACV. People are going to reduce the initial price in order to fight the lengthening sales cycle.”

Lessons learned in data.

When I asked Tomasz about the most significant lessons he’s learned regarding data management, he was careful to point out that data isn’t always the answer. It’s great for optimizing a tactic or strategy but can’t be relied on in the creation phase of a company or project. Still, companies tend to move too slowly at building out a data structure that can support decision-making.

“The biggest mistake is not having a person building out a data stack. A lot of companies wait until they have a VP Finance or a more sophisticated ERP, but investing early is super important. At the beginning, all you’re doing is experimentation, and without the right infrastructure, it’s really tough.”

Tomasz recommends finding value metrics that provide important insights into your business — no matter how unconventional they may be. “Each business has to come up with its own. That’s a matter of the data team running correlations across as many of the combinations of variables that they can.” An example of this is Facebook’s “aha moment” when it recognized a user getting to seven friends in 10 days as a North Star on the path to 1 billion users.

He reminds us that a company’s particular strategy might produce outlier results for some metrics that are just fine to live with if the strategy is working. Whether it’s a restaurant that tracks water glass levels to determine if customers are getting great service, or a SaaS company watching social media followers to see if marketing efforts are effective, Tomasz encourages us to find metrics that give us better insights into our businesses.

Watch the complete session.