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Ann Arbor Spark

November 16, 2021

What is Product-Market Fit?

Product-market fit (PMF) is one of the most recognized and important concepts for all startups. It means you’ve created a product or service that satisfies a market need by delighting its customers, which becomes evident through exponential organic growth. It is the holy grail for startups and should be the focus until it is achieved.

“Product-market fit means being in a good market with a product that can satisfy that market … And you can always feel product-market fit when it’s happening. The customers are buying the product just as fast as you can make it — or usage is growing just as fast as you can add more servers. Money from customers is piling up in your company checking account. You’re hiring sales and customer support staff as fast as you can.” — Marc Andreessen, co-founder at Andreessen Horowitz

One caveat is that the market always takes primacy in product-market fit. The market trumps everything. You want to be in a big market to succeed (greater than $1B). And you need to find and address a real and significant pain point for the customers in that market with your product.

“When a great team meets a lousy market, market wins. When a lousy team meets a great market, market wins. When a great team meets a great market, something special happens.” — Andy Rachleff, co-founder of Benchmark Capital, and founder/CEO of WealthFront

In an ideal world, as Andreessen says, you’ll feel PMF when it’s happening. But PMF can be slippery and may not always be so easy to identify in real-time when you’re running a startup. Reality and markets are fluid and constantly changing, and there’s not likely to be a single ‘a-ha’ moment or magic number that signifies when you’ve achieved it — unless you’re lucky.

“Knowing you have reached product-market fit typically isn’t a clean-cut answer. It is a line that is always moving.” — Brian Balfour, former VP of growth, HubSpot

So, let’s dive deeper into the PMF concept, the path to get there, and how to measure your progress along the way.

How to Achieve Product-Market Fit?

1. Identify Your Product Concept:

The start of your PMF journey begins with the product concept during the company’s Idea Stage. The founding team’s background and expertise determine what solution you can build and the initial hypothesis for the problem it aims to solve. The problem should of course be significant for customers.

2. Find Your Initial Target Market:

After you’ve developed the product concept, you need to find an initial target market experiencing the most pain around the problem. Keep a wide aperture as you search and analyze markets and narrow in on the market segment that is most desperate for a solution. Your first instinct for an initial market may or may not be correct. So, you need to do as Steve Blank suggests, “Get out of the building,” and talk to your potential customers (i.e., customer discovery). While there are many knowledgeable resources on customer discovery, one consistent takeaway is to ask open-ended questions about the problem. By doing so, you avoid asking leading questions that might unconsciously bias your solution and skew your discovery results. You may need to analyze multiple potential target markets before you land on one that’s most in need of your solution and is big enough to accommodate exponential growth.

3. Develop Your Value Hypothesis:

Based on extensive customer discovery, define a value hypothesis on how your product creates usefulness for a particular market — how it solves their problem. Use a Value Proposition Canvas to sketch out the customer profile (their pains, gains, and jobs to be done), and your product profile (its pain relievers and gain creators), to clearly identify the value proposition hypothesis you’ll test.

4. Create a Minimum Viable Product Prototype:

Now that you have a value hypothesis, you can go to work defining the initial feature set your customers need to solve their problem. Using Lean Startup principles, you can develop an MVP prototype with these features to do initial testing with those customers. Ideally, you won’t need to build a fully functional MVP yet to gain useful insights. It’s better to start with a prototype version that can simulate reality enough for potential customers to give initial feedback to guide development of a fully functional MVP. A wireframe or mockup might be enough at this stage.

5. Test the Prototype with Potential Customers:

Get out of the building again and have your potential customers test and provide feedback on the product. As before, use open-ended questions vs. closed-ended leading questions to elicit feedback, and ask clarifying questions as needed to get a nuanced picture. Try to find patterns from multiple customers’ feedback to define and prioritize any needed changes to the value hypothesis and feature set. You might re-do this step multiple times depending on how positive or negative the feedback is before developing the functional MVP.

6. Create the functional MVP and Iterate to Product-Market Fit:

Having gone through the prior steps and getting mostly positive feedback on your MVP prototype, you’re in a good position to build a functional MVP, which might sell. This is sometimes considered the Startup Stage of the business. Lean principles continue to be critical as you test the MVP with potential customers. You may need to go through additional “build-measure-learn” cycles with the MVP before anyone will buy it. Each successive development cycle should gain more positive feedback and ideally result in sales of the product. If that’s not happening over a few cycles, go back and question your earlier conclusions.

It’s possible you need to go back to step two and find a new target market, where the problem is more acute, and customers are more desperate for your solution. Andy Rachleff, who coined the phrase product-market fit, believed pivoting to a different market segment was more sensible than excessively iterating on the product.

After all that, if you’re still not getting traction, you should question whether you have a viable product. This is a tough call, particularly if you’ve invested significant personal assets. But don’t invest good money after bad, as they say. Be honest and objective about the situation and you’ll know the right answer.

On the flip side, let’s assume you’re starting to get some real customer traction and your product is selling. Does that mean you’ve achieved product-market fit? Not necessarily. Before you go and raise a ton of money to scale, you need to measure for product-market fit, perhaps many times, to ensure it’s really there.

How to Measure Product-Market Fit?

“What matters is having forward momentum and a tight fact-based data/metrics feedback loop to help you quickly recognize and reverse any incorrect decisions.” — Steve Blank

You should measure product-market fit continuously for three primary reasons:

  • To know whether to iterate on your product and/or market (or make a more drastic pivot) by going back through the PMF steps above.
  • To avoid premature scaling. You don’t want to raise a lot of money and dump it into a losing battle. Measuring PMF helps determine when to start scaling.
  • To monitor dynamic and ever-changing markets. You may have product-market fit at one moment but lose it at another. So, always track your market even after PMF.

There are multiple ways to measure PMF, with some appropriate early on and others once you’ve achieved increasing traction.

  • The Sean Ellis Product-Market Fit Survey poses the single question to customers, “How would you feel if you could no longer use the product?” Ellis, who started the growth hacking movement, learned that successful companies had 40 percent or more of users respond that they’d be “very disappointed” if the product went away. Finding this out would be a great sign that you’re on the right track.
  • Similiarly, the Net Promoter Score (NPS) method also poses a single question, this one asking respondents to rate the likelihood that they would recommend the product to someone else. It categorizes customers into three groups based on their responses: Promoters (9 – 10 ratings), Passives (7 – 8 ratings), and Detractors (0 – 6 ratings). The final NPS is calculated by subtracting the percentage of Detractors from the percentage of Promoters and can range from -100 to +100. Scores above 0 are considered good, those above 20 are favorable, above 50 are excellent, and above 80 is world class. There are many providers, like SurveyMonkey, Wootric, and HubSpot, that offer NPS surveys.

While these first two measures are easy and useful, particularly in the early stages, they’re only measuring what people say they would do. Therefore, they’re less reliable than actual usage, sales, and retention data. So, the previous two metrics are best when combined with the next three.

  • Sales and Usage – Ultimately you want your customers to buy and use your product. And ideally, if they’re recommending your product to others through word-of-mouth, you should see organic growth without significant sales and marketing effort. They should also be actively using the product on a regular basis without too much attrition. What’s considered successful sales and usage data will vary by industry, so you should benchmark against others in your space. As a reference point, but not a universal rule, many traditional venture capitalists first invest at around $1 million in revenue, which seems to have become a loose proxy for product-market fit for VCs.
  • The Retention Curve – As you acquire more customers over time, you’ll be able to plot your retention curve, which measures the percentage of active users that have continued to return to the product. Companies with product-market fit will at some point see this curve flatten instead of approaching zero, meaning some percent of initial users have stuck with it. Creating a retention curve requires that you pick the right time frame to measure (daily, weekly, monthly, annually, etc.) depending on the intended usage cadence, as well as the appropriate event(s) to measure, which should constitute meaningful activity in the context of the product. Then you can run this data through a cohort analysis to identify changes in retention and plot your retention curve. The are many great resources on cohort analysis, the retention curve, and how to reduce churn.
  • Customer Lifetime Value (“CLTV”) and Customer Acquisition Cost (“CAC”) – These are two of the most important metrics for any startup and they go hand-in-hand. CLTV is the value of a customer over the life of the relationship. CAC is how much money you invest in attracting a new customer, including sales, marketing, special offers, etc. Startups should learn to calculate and track these metrics early on. Also, they’re helpful in determining product market fit both individually and in combination. Individually, a high CAC metric might be telling you it’s too difficult to sell the product (possibly because you don’t have PMF). A low CLTV means customers either aren’t profitable enough (possibly because the product doesn’t command a high enough price), and/or that they’re not being retained over time. In combination, having a CLTV that is three or more times greater than CAC is a possible indicator of PMF (CLTV/CAC > 3x). Another positive metric toward PMF is the ability to recover your CAC in 12 months or less.

These five methods can be very powerful in helping you measure product-market fit, especially in combination.

Final Thoughts

Getting to product-market fit should be the focus of your startup until you’ve achieved it. It’s all about proving your value hypothesis before you start to scale the company. At the end of the day, reality is complex and product-market fit is just a helpful model. But putting some metrics around your product-market fit journey can save you time and costly mistakes.