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Updated September 15, 2023You’re reading an excerpt of The Holloway Guide to Raising Venture Capital, a book by Andy Sparks and over 55 other contributors. A current and comprehensive resource for entrepreneurs, with technical detail, practical knowledge, real-world scenarios, and pitfalls to avoid. Purchase the book to support the author and the ad-free Holloway reading experience. You get instant digital access, over 770 links and references, commentary and future updates, and a high-quality PDF download.
Product-market fit means being in a good market with a product that can satisfy that market.Marc Andreessen, co-founder and General Partner, Andreessen Horowitz*
Understanding where you are on the product-market fit continuum is an extremely helpful way to think about how much money you really need to raise. Early-stage companies likely won’t have reached product-market fit, but the earlier you start thinking about how you plan to reach it, the more confidence investors will have that you’re the right founder to invest in.* When you pitch investors in your seed round, your task will be to show them that the amount you raise will help you reach or progress significantly toward product-market fit. Understanding product-market fit and its components—products and markets—can be the difference between working for eight years only to discover no one wanted what you were building and creating a company that produces immense value for the world, your employees, your investors, and you.
Product-market fit is a relatively new, yet essential concept that startup founders at any stage need to understand. This section synthesizes the best resources out there on what it is and how it works, from business professors, venture capitalists, growth experts, and entrepreneurs. Product-market fit can mean different things to different founders. Here’s our definition of the concept:
Definition Product-market fit (product/market fit or PMF) refers to the notion that there is a point at which a given market responds so positively to a company’s product that the product “fits” the market’s needs. A precise point at which “fit” has been achieved does not exist. Instead, product-market fit represents a continuum of traction that ranges from absolute clarity that a company does not have product-market fit to maybe they have product-market fit to experts disagree whether they have product-market fit all the way to it’s beyond all doubt they have product-market fit.
This may feel dull or even juvenile, but grab a piece of paper or open a Google Doc and write down the following two questions:
What is a product?
What is a market?
Without reading ahead or Googling around, write out a definition.
Each of these terms is something we all have an intuitive sense of, but when it comes to defining the two, people can have a wide range of differing ideas about what each means. Understanding product-market fit is dependent upon a shared understanding of both products and markets.
Products are straightforward. They are anything produced or anything that people trade with or for. Markets, on the other hand, are more challenging to define and more widely misunderstood. Our favorite explanation of what makes a market comes from Bill Aulet, an author and managing director at the Martin Trust Center for MIT Entrepreneurship and Professor of the Practice at MIT’s Sloan School of Management. In his book, Disciplined Entrepreneurship, Aulet lists three conditions that define a market:
“The customers within the market all buy similar products.
The customers within the market have a similar sales cycle and expect products to provide value in similar ways. Your salespeople can shift from selling to one customer to selling to a different customer and still be very effective with little or no loss of productivity.
There is ‘word of mouth’ between customers in the market, meaning they can serve as compelling and high-value references for each other in making purchases. For example, they may belong to the same professional organizations or operate in the same region. If you find a potential market opportunity where the customers do not talk to each other, you will find it difficult for your startup to gain traction.”*
Product-market fit is widely misattributed to Marc Andreessen by bloggers and writers, but Andy Rachleff coined the term. As of Spring 2019, Rachleff is the President and CEO of Wealthfront, a lecturer at Stanford Business School, and the co-founder of Benchmark Capital. In a 2007 article, “The only thing that matters,” Andreessen credits Rachleff for the term and synthesizes much of Rachleff’s thinking, which has inspired the thinking of investors and entrepreneurs alike for more than a decade. Andreessen highlights three important frameworks:
Rachleff’s Law of Startup Success. Rachleff says, “The #1 company-killer is lack of market. 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.” This idea is critical for founders to understand, especially when considering raising venture capital. If the market for your product is not big enough, you will struggle to raise venture capital. Many companies lie in the startup graveyard because good entrepreneurs unintentionally chose to build products for small, crowded, or shrinking markets.
Rachleff’s Corollary of Startup Success. “The only thing that matters is getting to product-market fit.”
BPMF and APMF. The lives of startups are divided into two categories, “before product-market fit” (BPMF) and “after product-market fit” (APMF).
important So much of the venture capital ecosystem is built up around these three concepts. Early-stage funding is designed to help founders get their companies to product-market fit; investors at this stage are looking for a company to demonstrate progress toward product-market fit. After a certain point—usually but not always by the Series A—a company that cannot demonstrate some progress toward product-market fit will seriously struggle to raise venture capital.
To show investors—and determine for yourself—that you’re on the right track, you want to be able to measure your progress toward product-market fit. These takes on measuring product-market fit from Andreessen and his business partner at Andreessen Horowitz, Ben Horowitz, show that experts in the field of venture capital don’t always agree on what they’re looking at:
You can always feel when product-market fit isn’t happening. The customers aren’t quite getting value out of the product, word of mouth isn’t spreading, usage isn’t growing that fast, press reviews are kind of ‘blah’, the sales cycle takes too long, and lots of deals never close. 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. Reporters are calling because they’ve heard about your hot new thing and they want to talk to you about it. You start getting entrepreneur of the year awards from Harvard Business School. Investment bankers are staking out your house. You could eat free for a year at Buck’s.Marc Andreessen, co-founder and General Partner, Andreessen Horowitz*
I am sure that Twitter knew when it achieved product-market fit, but it’s far murkier for most startups. How many customers (or site visits or monthly active uniques or booked revenue dollars, etc.) must you have to prove the point? …[There] may be multiple sub-markets, each of which need their own product. I show below that [Fred Wilson] himself didn’t realize that Loudcloud had achieved product-market fit even though we had. It’s usually not black and white.Ben Horowitz, co-founder and General Partner, Andreessen Horowitz*
So how can you measure progress toward product-market fit when no one agrees on what it means to reach it? First of all, many don’t agree with the “BPMF/APMF” approach. Rather, some founders (and investors) see product-market fit as a continuum, something you can move closer to and farther away from over time. So the idea of reaching product-market fit and then taking it easy is completely moot. It’s more important to find a way to figure out how close you are. Fortunately, several entrepreneurs have wrestled with the challenge of measuring product-market fit and come up with data-driven approaches for understanding where your company is on the product-market fit spectrum.
Building on earlier work from Sean Ellis and Hiten Shah, Rahul Vohra, co-founder and CEO of Superhuman and, previously, Rapportive, published “How Superhuman Built an Engine to Find Product-Market Fit.” We’ve summarized the key points below, but this is an absolutely essential essay that we highly suggest every founder take the time to read. Vohra created a simple four-question survey companies can send their users to gauge their satisfaction with the product:
How would you feel if you could no longer use [product]? (Set possible responses as A. Very disappointed, B. Somewhat disappointed, or C. Not disappointed.)
What type of people do you think would most benefit from [product]?
What is the main benefit you receive from [product]?
How can we improve [product] for you?
Vohra then recommends a four-step process for optimizing product-market fit, using the survey data:
Segment. Research the respondents. What job title does each person have? Are there commonalities in those who selected option A (very disappointed)? Vohra recommends using Julie Supan’s High-Expectation Customer Model to build personas for your most ardent supporters, so you can get a better idea of who loves your product.
Analyze. By looking at the feedback from users who selected option B (somewhat disappointed), companies can get an idea of what they need to build to turn option-B users into option-A users.
Build. Start with high-impact, low-cost features that option-B users are asking for while making sure the experience that option-A users love doesn’t degrade.
Repeat 1–3. On a regular basis, send this survey to your users and repeat the process so you continue to deliver new value—not only to the users who love you already, but also to those who are on the fence.
“The Never Ending Road to Product-Market Fit” by Brian Balfour is another essential piece on how to measure product-market fit. Balfour was previously the vice president of growth at HubSpot, is currently the founder and CEO at Reforge, and is a prolific blogger on product-market fit and how to grow a startup. He believes there are four checkpoints for knowing where you are with product-market fit.
The Leading Indicator Survey. Balfour wrote this piece before Vohra published his (he references the same work by Sean Ellis that Vohra does), but we’re confident he’d have included Vohra’s piece as a suggestion for how to gather data here. What companies are looking for when gathering leading indicator data is signs that people like the product. Ellis’s and Vohra’s surveys are great options, and Balfour also recommends using Net Promoter Score (NPS) surveys.
Leading Indicator Engagement Data. In this step, companies should be looking for data on what users are actually doing and whether they’re doing it with any kind of regularity. Do users only use one part of the product? Do they come back daily? Once a week? These data complement the leading indicator survey because they back up the idea that people like the product with proof that they’re actually using it.
The Retention Curve. If people like a product, they use it repeatedly. Retention curves are a critical tool for measuring a product’s success. A retention curve is a graph of what percentage of your users use your product (y-axis) over time (x-axis). If some segment of your users keep coming back, your curve will flatten out and that is a good indicator you’ve found product-market fit within a group of users.
The Trifecta. Balfour’s trifecta includes non-trivial top-line growth, retention, and meaningful usage. Companies that can prove they can grow the number of people using their product, that those who use the product once continue to use it, and that those users are consistently enjoying the product, can say they’ve reached product-market fit.
Source: Brian Balfour*
One last model, which is much looser than Vohra’s or Balfour’s, is from Matt Mochary. Mochary is an executive coach who has worked with clients at Kleiner Perkins, Sequoia, Reddit, and more. In The Great CEO Within, he defines product-market fit thus:
[Having] created a product that customers are finding so much value in that they are willing to both buy it (after their test phase) and recommend it. Metrics that show whether PMF has been achieved include: revenue, renewal rates, NPS (net promoter score).Matt Mochary, CEO, The Mochary Group*
The frameworks from Vohra, Balfour, and Mochary should give you the tools to understand where on the product-market fit spectrum your company lies. Many companies take years to find product-market fit; this story about the project management software company Notion is a great example. These tools should enable you to understand your users well enough that you can iterate and build new features until you can proudly proclaim you have reached product-market fit.
At the Series A, companies may be expected to have reached product-market fit, be generating revenue, and more. But at the earliest stages, a highly experienced team with a vision for how to capture value in a huge market may be enough to get investors excited.
The partners at Floodgate, the venture capital firm that invested in the seed round of Lyft and many other notable companies, has a framework called the “three insights”—and Ryan Walsh, formerly a Partner at Floodgate and VP of Product at Beats (acquired by Apple), was generous enough to share this framework with us. These three insights, regardless of stage, will demonstrate to investors your current thinking about product-market fit.
Keep in mind that the purpose of your seed investments is to help you make progress toward product-market fit. These three insights, together or separate, are by no means enough to guarantee your business is successful or whether you are able to convince investors to buy a piece of your company. They don’t mean your company is a good investment, either. But investors are looking to hear a team reason their way through these insights in order to prove their understanding of the market and their ability to think through complexities. Demonstrating knowledge of the three insights will show investors that you are aware of the kind of information and understanding you need to gather in order to be successful. Investor Chris Dixon, of Andreessen Horowitz, calls this the idea maze. The best teams (which are the best investments) will evolve along with the ever-changing world.
These insights correspond to elements in your pitch deck, which might contain research that demonstrates these insights, and/or plans to capture these insights:
Market insight. Be sure you understand the current market size, potential for growth, and portion of market share you can expect to claim in a given period of time. What do you know that the market does not know that provides a venture scalable opportunity? Based on how you see the future, what category emerges based on your market hypothesis? Many venture scale companies come from new or emergent categories with characteristics that clearly show the possibility of a new, large market or product category. (For example, cloud computing in 2003 was a new category with emergence characteristics.) Also, don’t fudge your numbers. For example, if you’re starting a new car company, the entire car market may have one value, but claiming you can capture the entire portion would be dubious.
Product insight. In what emotional way does the product capture and keep the audience’s attention? How defensible is the strongest feature from noise and competition? What’s the core value the current audience sees in the product and how will that scale with technology?
Distribution insight. What do you know that others don’t about reaching your market? Is there something about search engines everyone else doesn’t understand because your team worked on search for ten years? Do you know something unusual about how to reach influencers on social media? How will people learn about what you do? How do you quantify the impact of each tactic you plan on trying to test your assumptions here?
Another way to think about these insights in a way that can be relevant at any stage is: who are you selling to, what is it that you’re selling, and how are you going to get it into your customers’ hands?
Answering these questions can help you set the milestones that will inform the amount of investment you’re looking to raise. Sizing and picking markets, developing go-to-market strategies, and building and iterating on products to address those markets are the subjects of countless books, and may be the devotion of future Holloway Guides. If there is one book we recommend founders read to make sure you’ve been diligent about your exploration of market, product, and distribution, that book is Disciplined Entrepreneurship by Bill Aulet.
Rachleff, who coined the term product-market fit, believes Steve Blank’s The Four Steps to the Epiphany is “the old testament” and The Lean Startup is “the new testament” (as he says in a audioDorm Room Tycoon interview) of knowledge on the subject. Both are lengthy books, but are also considered to be full of important ideas about how to build a company.
For those interested in a more advanced framework for growing a company, we recommend Balfour’s “Four Fits” series, in which he goes beyond product-market fit to consider the other “fits” to pursue for a truly successful business:
“Product-Channel Fit Will Make or Break Your Growth Strategy”
“Get Out of the ARPU-CAC Danger Zone with Channel-Model Fit”
“The Model-Market Fit Threshold & What It Means For Your Growth Strategy”
Andrew Chen, currently a General Partner at Andreessen Horowitz, worked on growth at Uber, and has been a prolific blogger and angel investor for years. His writing on product-market fit is helpful. Some of it may be redundant to other material we’ve already included, but it’s worth reading if you’re diving deep on the subject and want to cover every base.
“When has a consumer startup hit product-market fit?”: This piece is a classic, as it’s where Chen outlined his ideas for using Google Keyword Tool for estimating demand along with other foundational ideas for thinking about what makes a market and how to pick one.
“Zero to Product-Market Fit (Presentation)”: Chen shares his benchmarks for what PMF looks like for a consumer startup vs. a SaaS startup, strategies for choosing a market to enter, common mistakes entrepreneurs make when chasing PMF, and ideas for scaling a startup that has achieved PMF.
Readers submitted the following resources. While we have not gotten a chance to integrate them, we thought you might find them useful. Thank you to Jeff Bussgang (Flybridge Capital), Kevin Connolly (Preferred Networks), and Ido Ivry (ZenCity) for sharing.
Jeff Bussgang pointed out that startups are experimentation machines and need to design experiments in search of PMF. Read more by him in “Founders Should Test The Hypotheses That Matter Most.”
Promise-Market Fit, Union Square Ventures, Slide 9
Product-Market Sales Fit, Andreessen Horowitz Podcast
Crossing the Chasm: Marketing and Selling High-Tech Products to Mainstream Customers, Geoffrey A. Moore