Senior Partner Jens Düing looks at business models and cash flow, and shows why a bird in the hand is worth two in the bush
At the beginning, most new businesses focus on generating revenue. And rightly so, as revenue is valid indicator of the traction a new product or service has in its marketplace. After all, only when customers part with their cash can you have an offering that solves an existing problem.
Furthermore, when trying to raise money from early stage venture capitalists, revenue and revenue growth are the underlying indicators on which these outside investors typically base their valuation of a young company.
As a company matures, the focus gradually shifts to profitability. Again, this makes ample sense, the profit metrics allow to compare both the relative value added by a company’s solution, and the effectiveness of providing this solution. It is, for instance, this comparability that is the main reason why public market investors value companies on EBITDA or net profit multiples.
However, reigning supremely over all of these indicators is: cash. Initially, cash is the resource with which you can build your offering. But, eventually it is sustainable cash generation that underpins the value of a business.
Often overlooked is the impact a well-designed business model can have on cash generation. Take the example of Frog portfolio company sofatutor, a company that excels at iterative innovation. Over the years the team have designed subscription models and incentives, such that a significant number of customers choose to pay upfront at the beginning of their subscription. Subsequently, the company is beginning to reap the benefits from these type of business model innovations.
Stephan Bayer, founder & CEO says: “Last year we generated positive cash flow, ahead of the accounting profits we are achieving now. Over the years we have built a sustainable, profitable business with less than €20m raised. Now we have a truly unique asset with 80k subscribers and a digital library of over 10k videos, 35k exercises and 40k worksheets. And the future is promising: Digital content still only reaches 3% of German school students, and the federal states are just beginning to bring digital content to the classrooms.”
Cash and a clever and sustainable business model are the critical elements of a sustainably profitable company – which is one of the key reasons why we at Frog love working with CEOs like Stephan.