You haven't rebutted his point at all. Jason Cohen been around the block a couple times. He saw the "type 2" startup argument coming and addressed it very early on. Specifically: you are losing money if you are not accounting for the fair market value of your time, no matter what your pro forma cash flows in Excel tell you is going on.
Also: if the only reasonable trajectory for your business is to "raise a round"...
This, it seems to me, is one of the most common mistakes people make when talking about their businesses on HN.
Well, what do you suggest instead of "profitable"? It's an extremely useful fact and contextualization, and obviously no one thinks you really mean "profitable"? What do you suggest we call it? "monetarily self-sustaining hobby that pays for the direct - but not opportunity - costs the founders, er, hobbyists, incur in, uh, playing with it, which they are doing in the hopes that beyond paying for the current direct costs, in the future the hobby's revenue is able to be used, either through sale of the hobbyist's ownership at a rate commensurate with a multiple of the hobby's then-present revenues and which valuation will factor in the ability - as of the extent to which it will have been proven by that future date, of the founders to use outside money to generate value for the outside shareholder, -- or, in lieu of such a sale of ownership, through sufficient growth of revenue, to have made the hobby a more valuable use of the founders' time, in retrospect, than the amount of money they lost by not doing something different?"
I humbly submit that "profitable from day 1" (or day 7 or 14 )is a useful shortcut to name all of the above. Of course it doesn't mean really profitable.
But it also doesn't mean that you're hosting a news a blog that has readerships but hasn't made a penny.
The mistake Cohen is talking about is mostly about not fully accounting for costs.
If, after factoring in opportunity cost (ie: what your full-time salary would be had you done something other than start your venture), that equation produces a negative number, you are not "profitable".
It's weird that this should generate so much controversy. The concept of opportunity cost is not controversial among businesspeople, among investors, or among economists.
The term you are looking for to describe the "kind of profitable" to which you're referring is "cash flow positive".
That actually isn't his point. He's very clear that what he's talking about is that your cost of living should be counted as a business cost. Once your business is covering your cost of living, he says that you should count it as profitable, even though you're not yet making the salary that you could.
But that's obviously stupid. See my other comments. If you stop working on it and pay someone 800 per month to maintain it and do nothing else, and ten years later the account payments go into has 200k in it, what, is that 200k from another dimension? This is so obviously wrong. The article is completely wrong economically, and can be summarized as: "Don't say you're profitable from day 1: say what you mean, that your business is cash-flow positive with respect to its own business expenses other than your original time in developing it." whoop-de-doo. not an important semantic distinction, but I will grant the author it.
I will not grand the author the contention that you shouldn't tell people if this is the case.
The difference is that the author is implicitly assuming that you've got a business that requires your active involvement to keep going.
If the business requires 0 energy from you, and makes money, then his point becomes much less relevant. But most of the businesses in question are not like that. You have paperwork to keep them going, decisions to make, customers to serve...
Fine, the article should therefore argue, "Stop claiming to be profitable since day 3: claim to be cash flow positive not including consumer expenses such as apartment, car, home Internet and mobile telephone, since day 1." Such an important semantic difference. (Not.)
For virtually everyone on HN, the difference between $1000/mo profitable (which BTW is a dream scenario for the majority of would-be founders here) and $11k/mo underwater is about as extreme a distinction as can be made.
Why do people keep talking as if this is a semantic argument?
It isn't a semantic argument.
I know it feels amazing to build something with enough traction to reliably put $1500 a month in the founder's pockets, but that "profitability" is counterfeit. You cannot run that business forever; it is paying you less than the minimum wage.
If you think this is a semantic difference, try re-reading Steve Albini's "Some Of Your Friends May Already Be This Fucked" rant.
You don't understand. Internet profit isn't profit, we just learned that. Obviously the Internet works such that if it took you 100 hours to develop it, the Internet eats your hard drives every 30 days and you have to spend 100 hours again just to be at the same place. It's no different from standing at a lemonade stand for 100 hours. No different at all in any way. /s
It's not a straw-man argument. The post would make perfect sense if it were talking about an offline, labor-intensive business. Unpaid development time has nothing to do with cost-of-running-a-business expense. That's a fact. You can say from YOUR point of view it does. But it does not from the business's point of view.
This is like saying that a surgeon can't launch a profitable web business, because the time spent on it will not generate as much profit for him as if he had spent the time practicing surgery.
that's plainly completely false, and the web business can be very much profitable (just not to him.). Just THINK about it.
...When your business throws off $1500/mo (without salaries), that’s not the case. If you’ve been at this for a year, clearly next month won’t be $5000, (unless it's an internet business, where a single good source of publicity can easily bring you from 500 from x paying customers to 5000 from 10x as many) which means even in the sense that it’s “kicking off cash” it’s not sustainable in the long-term, (unless, like all Internet companies, costs are largely fixed or at the least certainly don't grow linearly with number of paying customers) not defensible in the market, not supporting even one human being in that effort, etc.. (unless it's an Internet business that can go from paying you 200 per month to 2000 per month without you so much as being sure where all these customers came from, how they heard about you.)
Therefore, in the normal sense of the phrase “profitable business,” it’s not. (unless you mean "profitable business" as a person normally means it when it comes to a startup).
So now that I’ve perhaps unfairly ridiculed you, (now that the author has ridiculed himself) let’s just recognize what’s really going on, because it’s wonderful and amazing and fantastic and exciting: (since it's not descriptive of most projects)
You’re building a business! (your project is cash-flow positive.) Sure it’s just begun, sure it might need a kick in the ass, sure it might be struggling, sure sure sure, so what? You and every other little new business. You and every other bootstrapper who by very definition doesn’t explode out of the blocks because you’re doing it part-time and with no cash. (that's not anyone's definition. you can explode out of the blocks or you can languish.) This is exactly what you’d expect it would do, even if you’re actually the next 37signals. (unless your expectation is different.)
That’s exactly what my company WP Engine looked like for the first 9 months. Now we’re making millions of dollars, employ 20 people, growing at 15%/mo, etc.. But we started just like that — slowly, and not profitable. (sounds like you did it from 50-100k in savings or seed capital, which puts you squarely in the type 1 bracket.)
Same with my previous company Smart Bear — it took 2.5 years before I could even hire one employee, and even then it was 1/4 of the salary he deserved (and later ended up making). Eventually we, too, made millions of dollars a year — in profit! — but not for years. (during those years I bet the net cash flow ever had reached -20k easily. all in direct costs.)
In other words, there’s nothing strange or bad here. It’s just not “profitable from day one.” Stop saying that. (unless you're cash-flow positive from day one, which is a different type of internet project).
Dispense with the feather-fluffing and get to what is — the strengths you have, the challenges you want to overcome, the resources at your disposal. (And if you've proven a scalable, repeatable business model that pays for its own hosting and direct expenses other than the time to develop it, I suppose you shouldn't boast about that fact? After all, it's not like if a web service is developed in 100 hours, you can keep running it without redevolping it from scratch every month, as though you'd just lost all your backups.)
And then set your mind and goals on making that sucker profitable for real! (turn your positive cashflow into a sizeable source of revenue. which nobody assumes you have if you mention the former.)
P.S. Need help figuring out how to do that? Go here to learn about the Smart Bear Live podcast where I’ll help you one-on-one, or email me to see whether I can turn your question into a blog post. (step 1: start with some money to burn.)
I'm sorry, what are you talking about. When people say "profitable since day 1" that doesn't mean $1000/mo profitable since day 1 - i.e. that within 30 days of deciding to do the project they billed $1000/mo. Nobody thinks that's what you mean.
You're telling me when people say "profitable since day 1" they should instead say "cash-flow positive not including consumer expenses I'm using for business". Fine. Go ahead. Say that instead. Or say the synonym "profitable since day 1" since everyone knows that's what you mean.
Let's do this. Do you think the article would still make the same argument if it read, instead, "Stop claiming to be cash-flow positive since day 1 - meaning day 6-23, besides your fixed consumer expenses!"
Then the article would read: (In parentheses is my point-by-point critique).
Stop claiming you’re cash-flow positive (not including consumer expenses)
JUNE 19, 2012 2 COMMENTS
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My company is cash-flow positive, and has been from day one. (meaning day 7-23 after coding it up and getting customers very soon)
– every high-tech bootstrapped founder (Actually, only a SMALL percentage of ALL projects, and a LARGE percentage of projects that can justify you giving them money.)
I know what you really mean.
What you mean is that the only business-related charges on your PayPal MasterCard — aside from those on intentional detour for tax-deduction like the external DVD drive you needed to rip CDs after you realized the MacBook Air in all its luxurious, silent, thin, sexy glory still cannot import “The Best of Pat Benatar” without the aid of a peripheral half the size and weight of the laptop itself — is an account with Amazon AWS where a medium instance whirs away for only $40/mo, just two clicks away from rebirthing as an XXL should you need “scale,” plus $0.67/mo for the S3 storage for web app uploads, plus $0.072/mo of S3 storage to back up the Pat Benatar mp3s.
(And you also don't count your rent, phone, Internet, and other expenses you currently have related to launching your business.)
So all you needed to do is sell one $49/mo account — which you did — and you’re cash-flow positive! (Except the above-mentioned things).
I know that’s what you mean, but when you say “I’m cash-flow positive” to someone with a modicum of experience it’s a turnoff, (unless they care about a scalable, repeatable business model you have already proven) because it’s actually bullshit (if somebody with "common sense" thought that any Internet business on the planet got ten thousand customers the very first day the founder had the thought to start coding it up). And when someone’s streaming bullshit at 720i, it means they’re either a full-blown bullshit artiste or they’re merely ignorant; in neither case do I want to hear more. (in other words, I've been burned by the recent bubble pop and I need some time to see you grow some more before I continue gambling. That doesn't mean it's not great that you're already cash-flow-positive. It means I'm a sore loser.)
The first and biggest error is thinking you can ignore your own salary. (Which nobody expects you to include when you say you're cash-flow positive.) Sure your time is worth $1000/hr (your opportunity cost is more like 80 dollars per hour if you weren't running the business, since you would accept a salary at 160k... the 1000 dollars heuristic is only to keep you on track if your business will keep growing and be acquired), but no you do not have to cover that to be dubbed “profitable.” (nor do you have to cover your foregone salary of 160k). But you do need at least a ramen-profitable definition of valuing your time. (no, you don't. even 2 dollars per hour is not necessary, nor is being able to pay for your apartment, car, phone, and Internet.) If your business makes $3000/mo after direct expenses, but isn’t paying you, and you still have a full-time day job to keep up with the mortgage on your under-water house, then you’re not profitable. (and if you can stop doing any work on it and the venture keeps generating $3000/mo after direct expenses, making 36k in a year or 200k in ten years as usage tapers off and customers switch away, and you use that 200k to buy a house somewhere. Well, you didn't just buy a house with the profits or positive cash-flow of your company, no-siree, you bought it with, uh...)
Why not? Because the business cannot sustain even one person to run itself, which means that $3000 is not “extra money which can be plowed back into the business or distributed for an awesome vacation.” (Unless the business can operate without one person, which is not mentioned here, or unless you can hire someone for a thousand dollars a month to maintain it and pocket the 2k per month difference). It’s just made-up leftovers because you’re not acknowledge the actual costs of a startup, which include time and you having to work a second job. (Likewise, your salary isn't actual cash-flow you can use to buy stuff. It's an illusion! If you make 200k in salary, but could be making the equivalent of 500k by founding a startup and selling it 5 years from now, that's not 200k you're earning. That's 300k you're losing. You don't have a job: you're a parasite on, well not society, but on your alternate self, whom you're robbing of 200k...)
In that case what have you proved? That if you slam yourself to the limit of endurance and ability, you can earn less money than Dell would give you for creating 1/34th of BIOS version 8.4.3.5?
That’s not a “cash-flow positive business.” (Unless you look at cashflow).
If you are living off it, even if that’s $3000/mo, then you’ve made it. You might not have a dynamo on your hands (yet!) but at least you’re in a somewhat sustainable place. Maybe next month you’ll make $3200 and you can “plow that extra $200 back into the company.” (likewise, if someone gives you 500k per year to be VP of Vatever at their company, and you spend it all on your lifestyle, you haven't made it at all.)
The other error is that it’s a misuse of what’s normally connoted by the phrase “profitable business.” (cash-flow positive business. Normally it means, in the first year of a business especially, but usually in the first couple of years of a startup, that you could keep putting time in and getting more money out than your business uses up. If you have savings of twenty k, you can run the business for two years and have savings of...thirty k. Where does the extra 10k come from? Oh, that's right the "non-profit" we all totally rightly call "profit.")
When someone says they’ve been in business for two years and they turned profitable last month, what that really means (if it’s a healthy, growing business) is that they are sustainably profitable, able to indeed “plow the rest back into the company” with a quantity of cash that could visibly move the needle on top-line revenue, or could significantly reduce further risk, or would allow for investment in a long-term project, or could be a down payment on a superstar, or something similarly valuable. (Or maybe it means the restaurant costs 10,000 per month in property, commodity prices, waitstaff, and all other expenses, and has just turned a profit of 200 for the first month after all that stuff was paid for, and at this rate you'll regain the 50k you invested to get it there in...well I'll let you do the math. That doesn't mean it's healthy does it.)
These guys are saying, "If you're a businessman that can make a cash-cow from buying 500 hours on oDesk, but instead of buying that time you're also a coder and do it yourself - BAM, suddenly the cash-cow isn't profitable anymore." Fine, it's not profitable. It's still profitable.
What this guy is saying is "If you're a businessman that is 'profitable' because your server costs $20 a month and your startup brings in $1500 a month, while you put more than 200 hours a month into it, then you're not profitable."
And he's not wrong, because on oDesk you could be bringing in $4000 a month with the same time investment, and the only reason your startup is profitable is because you're not factoring in all of the capital costs (not just cash).
Yes, the guy is saying "if your startup brings in $1500 while you put more than 200 hours a month into it, then you're not profitable." But it's wrong. Because you're developing it, you're not hired labor. This is the fundamental reason it's wrong.
So let's get this straight. You're saying that a surgeon can't create a profitable online business if the total profit from it to him is less than if he had spent the same time practicing surgery?
we're not talking about whether it's "worth it" for him, we're talking about from the point of view of whether the online business can be called profitable to an outside investor. Nobody cares about your unpaid sunk development costs.
> Nobody cares about your unpaid sunk development costs.
Not if they happened a year or six months ago, but if your unpaid sunk development costs are happening every day, then you're not profitable. You're not profitable until you're paying everyone who is working for you something relatively close to the wage they could be making as a regular employee somewhere else.
I still disagree. Profitable, to me means the business owner takes home something at the end of the month from earnings. It may not be much. But it has to be something.
Secondly I don't see a rule that says that a business has to support a full time employee to be profitable.
Now something may be profitable and not sustainably so, and that's a point the author kinda sorta halfway makes later on. The point where the business is supporting the owners and there is money to reinvest, that's sustainable. Profitability however is where the net profits > 0.
This is actually important if you are looking at the health of the business.
Your disagreement is noted, but why should we care?
The point of this post isn't that people are wrong about the definition of a word.
The point is that the underlying meaning often communicated by the word is absent in its usage by lots of startups.
Is your usage of the word "profitable" defensible? Of course it is. You win. Can we get on with discussing the actual point of this post? Because this comes up a lot on HN: "profitable" startups that are actually secretly costing their owners many tens of thousands of dollars a year, because to many first-time startup founders, the concept of "opportunity cost" is just an abstraction.
First you can't put "opportunity cost" in your ledger on the expense side. Opportunity cost doesn't really work that way. Moreover opportunity cost is am abstraction. It's an abstraction which is partly there to keep you aware of the fact that where you take one road, there are others, and you can't take them all.
I think what the article is trying to get at is the difference between sustainability and profitability. Something may be profitable and yet not sustainable (for a variety of reasons). Something may be sustainable and yet have no profit (the Apache foundation), but one key part of sustainability is being able to fund core activities.
As for why folks should care, I think it is important to be clear about things when analyzing financial health of a business. A business which makes $1000/month net profit a month may not be able to support the founder (but presumably the founder has some other source of money to live on) but what it can do is absorb $1000/month in additional expenses without requiring additional investment. A business with no money in the bank but $1000 in net profits every month may be better able to weather unexpected mishaps than a business that's losing 2000/mo with 20k in the bank.
Here's the point: Profitability is one key performance indicator and a very important one. In a sole proprietorship model, you don't count the proprietor's earnings into profit. In a corporate model you track executive compensation but this isn't really the same as tracking salaries since it could be on a minimal salary + bonus model.
That doesn't mean it's the only metric. But it is probably the single most important one. It gives you an idea of whether a business can survive and meet its financial obligations in the face of unforeseen events. For a corporation of course equity ratio or debt to equity ratio are also important.
I'm interested in what you have to say (not your parent), try to think it through. There's really maybe this tension in this thread between profitability from the point of view of the business entity and "whether it's worth it" to the founder. It sounds like you are almost trying to say Mark Zuckerberg couldn't possibly anonymously launch a profitable business by himself as a sole coder using nothing but an AWS instance, since his time is worth so much at Facebook. Yes, that's true in some sense, but no, not at all true. Of course he can still launch a profitable business. Maybe he "shouldn't", but that doesn't mean the business is suddenly unprofitable.
At one extreme, a company that is cash flow positive before founder wages to ~$2000/mo is paying two founders less than minimum wage. That's not a profitable company.
At the other extreme, a company throwing off $20,000/mo before founder wages is potentially paying founders as much as $120k gross. That's a profitable company.
A lot of first-time founders on HN will post "Show HN" threads talking about how they're profitable when they're in that first scenario.
Maybe once in a blue moon, someone will try to argue that a founder in the second category isn't "profitable" because they could be making $200k/yr at a BigCo instead of $120k/yr.
The question is, where's the line. What's interesting to me is that the line right now is drawn in a very silly place: right at "cash flow positive". I don't care how much further beyond cash flow positive we draw the line, just as long we recognize that right at cash flow positive is a silly place to draw it.
It's not "where's the line." There is a line in the sand there, and the author is saying you shouldn't tell people when you've crossed it. That's debatable. But he goes beyond that: he says the line isn't there at all. Of course it is.
I don't often say this, but I've thought this through completely, and the people who say that people working for equity, options, etc, should be accounted for as though they were working for a straight market salary before you can say you're profitable, are simply wrong. I'm right and they're wrong. And it's important.
Let me put it this way. Say Facebook was already very profitable, making millions.
It had superstar elite ninja developers who worked a thousand times faster than a normal developer and any one of which was worth their weight in gold. To hire them on salary you would have to pay them a million dollars a year, because they don't want a salary, they want to be part of the next big thing.
So, like all Internet companies, Facebook gave out a lot of options and employee equity.
Now when Facebook was making millions and quite profitable, you're saying it wasn't REALLY profitable, since it didn't REALLY get to use the labor of those people who had equity as part of their compensation. But this is obviously completely wrong. THe founder's equity falls into the same category.
The fact that you're getting something below market rate doesn't mean you're not REALLY profitable.
This is like crying "Apple isn't REALLY profitable because they get their components below market rates by being good negotiators!! If they had to pay market rates they would be operating at a LOSS".
Well, too bad for the component sellers. Apple is still profitable.
Too bad for you if you could be making 200k per year and instead are giving it up for equity in a company that is worth less than that. The company is still profitable.
This would be like saying that back when Rackspace gave all YCombinator companies free hosting, if their hosting bills "would normally" be more than their profits, they weren't ACTUALLY profitable. Regardless of what they were making.
Well, that's obviously not true at all.
This is equivalent to saying that you can't be considered profitable unless you're paying through the nose for everything, including super-expensive managers who are able to single-handedly get a business off the ground and are easily worht 200k-500k to a fortune 500 company, and then STILL have left over.
why should anyone say that??? why should the line for "profit" be drawn anywhere other than whether the company pays more than it receives in revenue or pays less than it receives in revenue?
That is a real line, Facebook had every right to boast about it when it crossed it, the entire Internet startup sector depends on people having the right to work for equity and startups getting access to that labor by issuing shares and paying a low salary.
I mean, by this argument of what is a "natural" salary, you could say that there isn't a single profitable prostitute working in California, because the "true cost" of a job as a prostitute is firstly spending $1800 million dollars and four years fighting to legalize prostitution, and only afterward hiring a prostitute at a market (not black market) rate. Therefore, since they are empoying themselves only at a black-market rate (where a legal rate is $1800 million and four years of lobbying more expensive), they aren't actually profitable. Any prostitute in California would have to make another $1800 billion or so and spend it on hiring an actual prostitute at "market rate" not black-market or (in the startup analogy) equity rate.
That's nuts. Of course a business can be profitable without accounting for a DIFFERENT kind of rate. (one that doesn't include equity, for example).
the whole perspective of other people here is simply wrong. It's that simple.
Suppose I live on $2k/month with one kid, and I choose to live somewhere rural where this can actually work. So I bring in approx $24k after business expenses, and in the end I end up getting a little more back from taxes than I pay via the EIC. Suppose I like this life.
Suppose I could go to work for BigCo Inc and make $130k/year. You wouldn't say my business is losing $100k/year. That would be silly.
Exactly. We are in total agreement. The argument, most posters here, and the parent who I responded to disagrees with us. They're wrong and you and I are right.
If your business gets to use your labor for "free" just because you happen to be a 100% owner, it is no different from Facebook getting to use employee's at 30% of market rates because, collectively, they own 6% of the company. It's exactly the same thing.
The article and people who defend it are very wrong. You're right.
The author explicitly, expressly contextualized the usage by including the example "profitable since day 1." Which everyone understands, first, not to mean literally within 8 hours of when you started working on it, but more the first few days or even couple of weeks, and secondly, everybody understands it refers to the direct expenses of the project. There is no misunderstanding. There is no miscommunication. Everyone knows you're talking about cash-flow and hosting costs.
Also: if the only reasonable trajectory for your business is to "raise a round"...
This, it seems to me, is one of the most common mistakes people make when talking about their businesses on HN.