We're used to looking at financial statements to monitor the progress of established businesses but when you're a startup that may not generate revenue for some time this is less useful. If we consider a startup as essentially (in the words of Steve Blank) 'an organization built to search for a repeatable and scalable business model', then what is most important in the early stages is acquiring learning. So solely using revenue as a measure of success can be distracting and less than helpful. Traditional accounting methodologies can stifle innovation since they are more suited to established products or services - standard accounting practices like cash flow analysis or financial ratios can put early stage products or businesses in an unfairly adverse light.
So we need Innovation Accounting, in which we use metrics that measure the true progress of innovation - things like customer acquisition, retention, user activity and so on. One of my favourite models for doing this is Dave McClure's Pirate Metrics which defines a set of macro metrics that can be used to model the customer lifecycle. Whilst revenue may be one of them, it’s not the only one.
Pirate Metrics is a 5 metric-model (A-A-R-R-R...geddit?) designed to represent all of the key behaviors of customers - how many users you are acquiring, how many of them are active users, whether they come back and use it again, whether they tell others about it, and how much money you are able to derive from them.
It’s easy to guess where problems with a new product may lie, or to act on hunches, or to work off flawed assumptions, but analysing and monitoring these 5 metrics can give you a pretty good idea of where you might have potential issues, or where you need to focus improvements, or where the opportunities for optimisation lie.
Revenue is of-course important, but it's not the only thing. These help to define and measure customer value before you actually start capturing some of that value back. In other words they are leading indicators to revenue before actual revenues are realised. And in this sense they can also be used to hold entrepreneurs, and the leaders of innovation projects, accountable. It's a simple model, yet shows the need for flexibility right across an organisation if innovation is to succeed. And that's why I like it.