Reminder – success equals profits

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Jason Fried of 37signals made a great post yesterday which he titled The bar for success in our industry is too low.  It is a bit of a rant and his main is that we in the tech industry are celebrating companies as successes before they have become successful – a point which he argues is defined by profits. 

As an example he uses a New York Times article, Using ‘Free’ to Turn a Profit which lauds the track record of Evernote (a cool and popular web and phone app for taking notes and pictures and storing them for later) which has done a great job of getting to $79k per month in revenues, but is projecting that profitability won’t come until January 2011.  Jason’s point is that the headline and tone of the article are misleading and that however great Evernote’s product is, at this stage the company can only be accurately be described as having potential, as there is a chance it could still be a bust.  In the same vein generating a lot of traffic doesn’t constitute success, raising a lot of money doesn’t constitute success, and generating revenues doesn’t constitute success.  All these things are important milestones, create value, and increase potential but are ultimately a waste of time unless profitability follows.

Note: I know very little about Evernote and wish them every success.  This is in no way a comment on whether they are likely to succeed.

I think this is a great point.  My purpose here is to extend it and add a little historical context.

First the extension.  In my eyes a successful company is one that generates a return for it’s shareholders*, and that return can come from either profits paid back as dividends or a sale of the company via IPO or M&A.  It can also come from both – some profits paid out as dividends and then a sale of the company later on.  For example, a number of my friends were angel investors in a UK medtech startup called abcam – the business has been successful for many years now and repaid the early investors a multiple of their investment as dividends before it had an IPO on AIM in London after which they were able to sell their shares and increase their returns.  There have, of course, also been many successful businesses that have been acquired and delivered great returns to their shareholders without ever having turned a profit (or even revenue), particularly in the venture space.

The historical context is that post the dotcom bubble and then the web2.0 mini-bubble the chances of being successful by selling a company before profitability has been established have diminished.  In all but a very small minority of cases at a minimum an acquirer is going to want to see strong evidence that significant profitability is imminent before she writes a big cheque (you need to have a blow out success like Twitter or Facebook to count as one of those minority cases).

This context is important because with the change in what it takes to get acquired comes a change in what it takes to be successful.  The reason I have picked up on Jason’s post is that he really rams that point home.  It takes time for collective views on issues like this to shift and if they change too slowly more companies than necessary will flame out, which would be bad for everyone.

None of this is to say that all businesses should aim for profitability from day one.  For the right companies going loss making for a short period of time, often funded by VCs, will remain the best option.  What I am saying is that it is more important than ever to have significant profit generation over the medium term as the number one objective.

This is a point I have come at from different angles a number of times before e.g. the importance of building sustainable value and On web business models, profitability and scale.

*In our world founders, employees and other stakeholders are usually also shareholders, and for simplicity in this post I have have assumed that success for shareholders is also success for these other groups.

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  • Great point Nic. One additional axis that may be considered is value creation. I see companies that turn a profit (spammers, etc.) that can identify an opportunity and go after is aggressively, that end up generating returns to their shareholders. I find it hard to call them successful. There needs to be “thick” value for success.

  • Nick – are you sure success isn't just about how many times you can get your business name mentioned at networking events and dinner parties? 😉

  • Great point Nic. A return for shareholders can come in different ways and is not necessarily predicated on profits as you say. Another source of return for shareholders could be a share buyback.

  • 😀

    That warm glow inside is no substitute for a good meal…

  • martinowen

    Until there are profits, any enterprise is less than a zero sum game. In a buy out, or even in an IPO, losses are passed from one investor to another. It is only when a product/system/service is actually genreating added value can it be successful. Individual investors can be successful – but that would be as a result of some other investor's loss. Only when returns exceed investment is there a real “success”

  • martinowen

    Until there are profits, any enterprise is less than a zero sum game. In a buy out, or even in an IPO, losses are passed from one investor to another. It is only when a product/system/service is actually genreating added value can it be successful. Individual investors can be successful – but that would be as a result of some other investor's loss. Only when returns exceed investment is there a real “success”

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