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The amount of companies that start with a niche

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and then expand and expand and redefine

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their customer, redefine their avatar,

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most businesses have, especially the biggest ones.

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Many huge examples start small

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because they want to narrowly define a problem

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for a specific avatar and they expand over time.

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But the main point for this one is how much risk

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am I exposed to that is noble

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that I think could potentially break this equation

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from working in the future.

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The wealthiest people in the world see business as a game.

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This podcast, the game, is my attempt

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at documenting the lessons I've learned

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on my way to building acquisition.com

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into a billion dollar portfolio.

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My hope is that you use the lessons to bring your business

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and maybe someday soon partner with us

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to get $200 million in beyond.

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I hope you share and enjoy.

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These are seven investing concepts

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that'll make you money.

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Starting with number one, lifetime gross profit

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compared to cost to acquire a customer,

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which basically means how much money

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you make in profit from every person

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who comes into a business compared to how much it costs

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to get them to buy to begin with.

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This is the fundamental economic unit of the business.

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You buy attention, you buy eyeballs to get customers

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and then you sell those eyeballs

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something that you're gonna make a profit from.

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All the profit that gets generated

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from the business comes from this one ratio.

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And so if someone has, for example,

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a one-to-one ratio of LCGV to CAC,

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they spend a dollar and they make a dollar back

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instead of that's it.

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Let's say a 20-to-one, that means for every dollar

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they put in, they get 20 back as profit.

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This becomes a business that you can scale endlessly

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and becomes an incredibly attractive business.

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Getting really clear on what your LGP to CAC ratio is

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is core to growing anything.

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So let's define these terms.

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Lifetime gross profit has a couple of components.

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There's lifetime and then there's the gross profit component.

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So lifetime is like, okay, well,

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how many times is someone going to pay me?

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Within a product's business,

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how many times does someone buy on average

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over the lifespan?

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Shopping by stores, things like that

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will actually just give you this metric,

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which is like the average customer buys 4.3 times.

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If you have a services business

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or a membership-based business,

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then it might be the average lifespan.

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So how many months are they gonna stick with you?

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Now, if you don't know this because you might be a small business

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that doesn't have a serum that reports on this kind of stuff,

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I'll give you the back of napkin way

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to actually calculate this.

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How many customers did I have at the beginning of the month?

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Now, of these people that I had at the beginning,

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30 days later, what's the number of those people

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that I have at the end?

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Not the number of customers in total

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because you might sell people in between,

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but I want to know of the people

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at the beginning of the month.

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How many of them are still there 30 days later?

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So if I had 100 people here at the beginning

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and I had 90 people at the end,

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then I would have 10% turn.

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And you're like, okay, wait, is that the number?

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No, what we then do is we take one

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and we divide it by this number,

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which then means that our average lifespan

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in this example would be 10 months

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or 10 intervals, whatever interval you're measuring on.

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Because if I did this quarterly,

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it would be the same thing or annually,

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it would be the same thing.

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Number of people at the beginning, 100,

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number of people at the end, 90, I lost 10,

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meaning I have a 10% turn,

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one divided by 10% equals 10.

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So the average number of months that someone stays is 10 months.

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Everything that I'm going to show you today

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is stuff that you can do.

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Addition, subtraction, multiplication, or division.

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There's nothing else.

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You don't have to be a genius,

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learn how to invest or build a business.

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So now that we just covered lifetime,

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now we need to figure out gross profit,

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which is how much extra cash do we have left over

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from each customer after we do a transaction?

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The simplest example I can give you is,

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if this cost me a dollar and I sell it for $2,

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then I have a dollar of gross profit.

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Now, I still have to take that dollar

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and pay other costs.

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I have to pay rent, I have to pay other fees that go along.

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And then my margin is now squeezing from that 50%

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that was left over until my net margin

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becomes at the end of the day.

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With widgets or physical products,

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it's really that simple.

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It's just price, minus cost of goods sold.

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And so cost of goods sold are going to be all the costs

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that you have to incur specifically related

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to delivering the product.

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All you're trying to figure out is that the basic transaction

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how much money you have left over.

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Now, with physical products,

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it's typically much simpler than with service-based businesses.

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But I'm going to give you a service-based example

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so you can still understand it

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because you need to, you need to.

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If I sell customers for $1,000 a month

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and I have an employee who cost me $4,000 per month

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and each employee can handle 10 customers,

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that means each employee handles $10,000 per month

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for 10 customers.

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So now, all we have to do is say,

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what is our gross margin?

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We're going to take the $10,000,

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we're going to subtract $4,000 from it.

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And that gives us $6,000 per month gross profit

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which you'll sometimes hear expressed as a percentage

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which should be 60% gross margins.

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Both of these are the same thing.

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One is an absolute number, the other percentage.

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You're seeing how $4,000 is my cost.

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This is how much I make, subtract the two

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that gives you the margin,

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and that gives you the percentage.

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Now, remember, we figured out what our lifetime was

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and we figured out how much we make per customer

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or how many months they stayed in that instance.

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Now, we combine those two metrics

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to get the one lifetime gross profit.

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Earlier, we did the 10% churn example

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and so let's say that these customers stay on average

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for 10 months because this is for 10 customers.

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We can divide this by 10

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which gets us $600 per month per customer.

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So I just divided the $6,000 by the 10 customers

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to get my, how much do I make per customer per month?

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So that's $600 per month per customer and gross profit.

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Now, we said earlier that they're staying for 10 months

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which means that my lifetime gross profit per customer

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is $6,000 of LTGP.

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So now I know that customers are worth $6,000.

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So this is important because now this is all the money

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I have to go spend to acquire them

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and run the rest of the business.

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This is probably one of the biggest mistakes

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that business owners make

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because what they do is they look at their lifetime revenue

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per customer and say, oh, as long as it costs me less

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than that in advertising, I'm making money.

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But I'll give you an extreme example

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to point out why that doesn't work.

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Let's say I sell these for $10, this pen for $10,

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but it costs me $9.

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And the average person buys 10 pens.

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So it's $100 in revenue,

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but it costs me $90 to sell the 100.

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But if my team comes to me and says, dude, we're killing it.

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We're spending $50 to get $100 sale.

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We should do this all day.

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But what's really happening?

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I'm actually spending $50 to make $10 in gross profit,

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lifetime, not a good equation.

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And so you don't want revenue to confuse you

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and this is like one of the biggest misunderstandings

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that I see business owners make,

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which is why sometimes because they don't know this,

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they don't know why they can't grow.

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The reason lifetime value and lifetime gross profit

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get conflated or confused is because many

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of the most formal businesses that are out there

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come from Silicon Valley,

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which almost exclusively is tech and software.

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And the gross profits on software

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are almost always close to 100%.

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The two conflate.

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But for everyday business owners who have people,

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we have manufacturing, we have inventory,

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we have to pay for stuff to happen.

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That isn't 100%.

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And so we're not doing it off-revenue.

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We have to calculate what our gross profit is

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because that's what we run our business off of.

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So far, we got our $6,000 lifetime gross profit.

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Cool.

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So we've got one part of this equation.

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This is incredibly in-depth and tactical

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because I break down every concept

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to its absolute base units.

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So my recommendation to get the most out of this

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is to understand them.

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So you see how they all work together

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to ultimately help you invest better

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and then come back through

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and then do each of the concepts individually

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so that you can apply them.

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So now we're gonna talk about how much it costs

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to acquire a customer.

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This is another one that people mess up.

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So what a lot of people do is they just look at

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how much it costs them to advertise

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to figure out how much it costs them to get a customer.

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That's partially true, but not completely for two reasons.

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The advertising budget, if you're running paid ads,

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for example, is only one of the many

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costs that go into a car and customer.

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The other issue is that you're not including the labor.

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So let's say that we have five employees

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that cost in total $50,000 a month.

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That's the labor.

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And then let's say we're spending $50,000 a month

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in software and advertising like Facebook ads

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or Instagram ads.

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That means that our total cost for as a company

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is $100,000 per month

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for all the customers that we acquired that month.

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And so then all we do is you look back and say,

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okay, how many do we acquire over the last 30 days?

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Let's say this $100,000 bought us 83 customers.

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So our cost to acquire a customer would be

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$100,000 by 83 services, $1,200 and $4.

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So this divided by that equals $1,200

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in $4 cost to acquire a customer.

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Let's look at our math.

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If we have cost us $1,200 and $4 to acquire a customer,

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and that customer makes us $6,000 in lifetime gross profit,

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we're killing it.

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So that means that we have a five to one LTGP to CAC ratio.

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And if you're like, is that good or is that bad?

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Five to one is great.

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You wanna make sure that you're always

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at least greater than three to one.

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Meaning, your lifetime gross profit,

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compared to how much it costs you to make that money,

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is at least three times greater.

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Otherwise, you'll be too constrained to scale.

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If this is bad, I'm just not,

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I don't need to look at anything else.

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I can just automatically toss the business out.

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And if this is exceptional,

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I might be willing to overlook or forgive

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some other metrics that are coming down the line

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that aren't as strong.

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But if you don't know these numbers

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in a business that you're buying or investing

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or a business that you own, find them out.

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So I told you earlier that I was gonna give you seven.

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Well, it turns out that that was three of them

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because the ratio is one, gross profit is another

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and CAC is another.

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So we covered three.

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We're already almost halfway there.

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We'll go guys, you guys already know

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that I don't run any ads on this

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and I don't sell anything.

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And so the only ask that I can ever have

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if you guys that you help me spread the word

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so we can have more entrepreneurs,

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make more money, feed their families,

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make better products and have better experiences

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with their employees and customers.

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And the only way we do that is if you can rate

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and review and share this podcast.

278
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So the single thing that I have to do,

279
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is you can just leave a review,

280
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but take 10 seconds or one type of the thumb

281
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that it means the absolute will to me

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and more importantly, it may change the world

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for someone else.

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So number four is return on invested capital.

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All right.

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What we're looking at is how much money

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does it cost us to expand the business?

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There are some businesses like an accounting firm,

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for example, that the way that they expand the businesses

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is that they just hire more accountants.

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There really isn't a lot of what they call capital expenses,

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which is why I tend to like service businesses.

293
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Now, on the flip side, if I was in manufacturing,

294
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I'd have to factor in all the machines,

295
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a new location, another build out

296
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that would go into expanding our capacity to make more stuff.

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Whatever business you have,

298
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and I do a lot of brick and mortar stuff,

299
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I wanna know first, what's the LTGP to CAC ratio

300
00:11:55.600 --> 00:11:57.240
at the customer level?

301
00:11:57.240 --> 00:12:00.280
But then, how much does it cost me to make a location

302
00:12:00.280 --> 00:12:01.120
and scale it?

303
00:12:01.120 --> 00:12:04.920
So for example, let's say I have to put $100,000 in

304
00:12:04.920 --> 00:12:06.840
to open each new location.

305
00:12:06.840 --> 00:12:09.120
Now, underneath of that $100,000 is gonna be

306
00:12:09.120 --> 00:12:11.080
the marketing budget to launch the location,

307
00:12:11.080 --> 00:12:13.800
the cost to do the build out, hiring staff,

308
00:12:13.800 --> 00:12:16.040
recruiters if we need that, ads for Craigslist

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00:12:16.040 --> 00:12:18.640
to get new people in, everything is included

310
00:12:18.640 --> 00:12:19.960
because once you do this enough times,

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you do have a pretty good idea of what that number is.

312
00:12:22.080 --> 00:12:23.000
And you say, cool.

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00:12:23.040 --> 00:12:25.960
It costs us $100,000 to open each new location.

314
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And at month six, we're here, at 12 months, we're here,

315
00:12:30.720 --> 00:12:34.080
and at X months, we're at capacity.

316
00:12:34.080 --> 00:12:37.600
The question is first, how quickly do I make my money back,

317
00:12:37.600 --> 00:12:39.000
which is the payback period?

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00:12:39.000 --> 00:12:41.640
Then, what is my one year return,

319
00:12:41.640 --> 00:12:44.560
and then what am I making once that capacity?

320
00:12:44.560 --> 00:12:45.600
Cause I wanna know how much cash

321
00:12:45.600 --> 00:12:46.920
will this thing kicks off.

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00:12:46.920 --> 00:12:49.400
And so in this example, I love to see

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at least three to one, ideally five to one,

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meaning if I put $100,000 in,

325
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once we're at capacity, we're at 500,000 per year,

326
00:12:58.760 --> 00:13:02.680
in profit, I put $1 in, I get $5 out.

327
00:13:02.680 --> 00:13:04.600
And so this is the same concept

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00:13:04.600 --> 00:13:08.480
is what we're doing here, but just at scale.

329
00:13:08.480 --> 00:13:10.600
So I'm not buying one customer,

330
00:13:10.600 --> 00:13:12.880
I'm buying a custom printing machine.

331
00:13:12.880 --> 00:13:15.960
How much does it cost me to build another machine

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00:13:15.960 --> 00:13:18.440
that creates profit every single year?

333
00:13:18.440 --> 00:13:20.240
And so from a returns perspective,

334
00:13:20.240 --> 00:13:22.360
if I can pay my investment back, for example,

335
00:13:22.360 --> 00:13:25.440
in six months, after that, everything's gravy.

336
00:13:25.440 --> 00:13:27.400
The part that people don't wanna talk about

337
00:13:27.400 --> 00:13:30.840
is that all of this stuff costs headspace, right?

338
00:13:30.840 --> 00:13:32.880
Which is that even opportunity costs associated

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00:13:32.880 --> 00:13:35.920
with any investment, meaning what could you have done

340
00:13:35.920 --> 00:13:38.360
with the same level of effort and money

341
00:13:38.360 --> 00:13:39.520
in the same period of time?

342
00:13:39.520 --> 00:13:42.080
But if at month six, I'm breaking even,

343
00:13:42.080 --> 00:13:44.560
and at month 12, I'm at, let's say,

344
00:13:44.560 --> 00:13:47.720
pacing 250,000 year, and by the second year,

345
00:13:47.720 --> 00:13:50.200
I'm at 500,000 year in profit.

346
00:13:50.200 --> 00:13:52.240
Then great, this is now a node

347
00:13:52.240 --> 00:13:55.480
that just kicks off cash flow year after year after year.

348
00:13:55.480 --> 00:13:58.120
And then I say, okay, why $500,000?

349
00:13:58.120 --> 00:13:59.720
What am I gonna do?

350
00:13:59.720 --> 00:14:01.360
Open five more locations.

351
00:14:01.360 --> 00:14:05.000
If something costs very little and makes me a lot, good.

352
00:14:05.000 --> 00:14:06.880
Now you might be like, well, the stock market

353
00:14:06.880 --> 00:14:08.520
gets 10% returns.

354
00:14:08.520 --> 00:14:10.000
That would be putting $100,000 in

355
00:14:10.000 --> 00:14:11.720
and getting $10,000 back.

356
00:14:11.720 --> 00:14:14.000
I actually really like to see at least,

357
00:14:14.040 --> 00:14:16.320
I mean, really three to one,

358
00:14:16.320 --> 00:14:19.640
which means a 300% return per year,

359
00:14:19.640 --> 00:14:21.800
kind of at minimum, which sounds ridiculous,

360
00:14:21.800 --> 00:14:23.600
but I'm putting time and effort in.

361
00:14:23.600 --> 00:14:25.600
So these are not passive investments for me.

362
00:14:25.600 --> 00:14:27.600
It's different if I give someone cash

363
00:14:27.600 --> 00:14:31.000
and they do all the work and then I just get dividends,

364
00:14:31.000 --> 00:14:31.840
then that's different.

365
00:14:31.840 --> 00:14:33.520
But if I'm actively working,

366
00:14:33.520 --> 00:14:35.040
then I have to account for all the time

367
00:14:35.040 --> 00:14:36.160
that I'm putting into this.

368
00:14:36.160 --> 00:14:37.600
And so for me, I wanna make sure

369
00:14:37.600 --> 00:14:39.920
that I have a really strong return profile

370
00:14:39.920 --> 00:14:41.960
to justify the cost of time.

371
00:14:41.960 --> 00:14:43.680
So there's two big variables that come

372
00:14:43.680 --> 00:14:45.880
into faster slow payback period.

373
00:14:45.880 --> 00:14:48.120
One is how much is this build out?

374
00:14:48.120 --> 00:14:49.840
If you have a massive build out,

375
00:14:49.840 --> 00:14:52.680
sometimes it can be hard to pay that back quickly.

376
00:14:52.680 --> 00:14:54.600
The second is how good they are at launching.

377
00:14:54.600 --> 00:14:56.440
Somebody might have five locations,

378
00:14:56.440 --> 00:14:58.520
but not really have a new location strategy

379
00:14:58.520 --> 00:14:59.680
for a new city.

380
00:14:59.680 --> 00:15:01.720
So this happens a lot in brick and mortar chains

381
00:15:01.720 --> 00:15:04.520
where they've got five locations in one city

382
00:15:04.520 --> 00:15:06.280
and they can drive to all of them,

383
00:15:06.280 --> 00:15:07.520
but then they really wanna expand.

384
00:15:07.600 --> 00:15:12.040
And going from five to 20 is a totally different game.

385
00:15:12.040 --> 00:15:14.040
Now mind you, that's what we specialize in,

386
00:15:14.040 --> 00:15:16.080
but you now have to go to a new market

387
00:15:16.080 --> 00:15:19.160
where no one knows you and actually have a launch strategy

388
00:15:19.160 --> 00:15:21.920
that ideally, and this is what we like to do,

389
00:15:21.920 --> 00:15:23.280
fill up the facility.

390
00:15:23.280 --> 00:15:26.960
So I wanna get to this capacity as fast as humanly possible.

391
00:15:26.960 --> 00:15:28.280
And sometimes that means, hey,

392
00:15:28.280 --> 00:15:31.600
you guys have a 10,000 dollar budget for opening?

393
00:15:31.600 --> 00:15:35.200
Let's put 40 into opening so that we're opening full.

394
00:15:35.200 --> 00:15:39.400
And then we're already at 500,000 year run rate by month six.

395
00:15:39.400 --> 00:15:42.320
So if you're a brick and mortar business, by the way,

396
00:15:42.320 --> 00:15:45.320
and you like to scale, go to acquisition.com

397
00:15:45.320 --> 00:15:46.920
and to be clear, this is for businesses

398
00:15:46.920 --> 00:15:49.520
that are doing at least a million dollars a year in profit,

399
00:15:49.520 --> 00:15:50.880
ideally three to five.

400
00:15:50.880 --> 00:15:52.880
So let's go through number five,

401
00:15:52.880 --> 00:15:54.200
which is payback period.

402
00:15:54.200 --> 00:15:57.640
Simply put, how quickly are you paid back

403
00:15:57.640 --> 00:15:59.120
for getting a new customer?

404
00:15:59.120 --> 00:16:00.800
So we talked about return to an invested capital

405
00:16:00.800 --> 00:16:01.960
at the business level,

406
00:16:01.960 --> 00:16:04.080
but now I'm going all the way back down to the unit

407
00:16:04.800 --> 00:16:07.360
of how long does it take me to recover

408
00:16:07.360 --> 00:16:08.720
the cost to acquire a customer?

409
00:16:08.720 --> 00:16:10.440
I'm just a cat with $600.

410
00:16:10.440 --> 00:16:13.000
Well, I spend 600, how quickly do I get it back?

411
00:16:13.000 --> 00:16:14.600
And so if you had two scenarios,

412
00:16:14.600 --> 00:16:17.440
one scenario where it takes you three months

413
00:16:17.440 --> 00:16:21.600
to get your $600 back versus another scenario

414
00:16:21.600 --> 00:16:26.240
where you put $600 in and get $6,000 in the first 30 days,

415
00:16:26.240 --> 00:16:27.640
which ones you'd rather have?

416
00:16:27.640 --> 00:16:29.960
Well, if both of them have the same lifetime risk profit,

417
00:16:29.960 --> 00:16:31.480
you'd rather get the money sooner.

418
00:16:31.480 --> 00:16:34.760
That number of how long it takes me to get paid back

419
00:16:34.760 --> 00:16:37.600
is you indicator of how cashed little positive the businesses.

420
00:16:37.600 --> 00:16:39.040
For the big fancy investors,

421
00:16:39.040 --> 00:16:40.040
they don't care about as much

422
00:16:40.040 --> 00:16:41.560
because they're working with these massive companies

423
00:16:41.560 --> 00:16:43.520
and long payback cycles and all this stuff,

424
00:16:43.520 --> 00:16:46.800
but small business owners, that's how you live.

425
00:16:46.800 --> 00:16:48.160
And that's how you expand.

426
00:16:48.160 --> 00:16:50.400
What we try and do when we're looking at businesses,

427
00:16:50.400 --> 00:16:51.880
okay, what is the payback period?

428
00:16:51.880 --> 00:16:55.560
And are there some easy levers that we can do to drive it forward?

429
00:16:55.560 --> 00:16:57.240
I'll give you a couple of easy ones.

430
00:16:57.240 --> 00:16:59.160
So number one is I could say,

431
00:16:59.160 --> 00:17:01.120
hey, with that example we gave,

432
00:17:01.120 --> 00:17:02.920
it was $1,000 a month.

433
00:17:02.920 --> 00:17:06.520
Can we just get them to pay first and last month,

434
00:17:06.520 --> 00:17:09.560
upfront, that I'd be an easy way to drive,

435
00:17:09.560 --> 00:17:11.200
drag some of that cash flow forward

436
00:17:11.200 --> 00:17:14.520
and I could break even and make my payback period one month.

437
00:17:14.520 --> 00:17:17.480
A second way to do that would be some sort of fee,

438
00:17:17.480 --> 00:17:19.640
which is I say, hey, I have an onboarding fee

439
00:17:19.640 --> 00:17:21.520
and enrollment fee and initiation fee, a set of fee,

440
00:17:21.520 --> 00:17:23.920
but the point is that you charge a fee of some sort

441
00:17:23.920 --> 00:17:27.120
in addition to whatever the recurring revenue is.

442
00:17:27.120 --> 00:17:29.920
Third way to do it is you could have an upsell of some sort.

443
00:17:29.920 --> 00:17:32.680
This is structured as a fee, the other's an upsell.

444
00:17:32.680 --> 00:17:34.680
This one is optional, this one is mandatory.

445
00:17:34.680 --> 00:17:35.960
Functionally, they're the same thing.

446
00:17:35.960 --> 00:17:37.680
We're trying to drag more revenue upfront.

447
00:17:37.680 --> 00:17:40.240
A fourth way you could do this is that you could get financing

448
00:17:40.240 --> 00:17:41.320
in place, right?

449
00:17:41.320 --> 00:17:44.840
So you get a third party bank or financing partner

450
00:17:44.840 --> 00:17:46.640
who says, I would like to make interest

451
00:17:46.640 --> 00:17:48.760
on some of these payments that you have with your business.

452
00:17:48.760 --> 00:17:52.480
I will front you the whole amount that this person owes you,

453
00:17:52.480 --> 00:17:54.760
but I'm going to take a piece for taking on the risk.

454
00:17:54.760 --> 00:17:57.240
And so you basically give your risk away to somebody else,

455
00:17:57.240 --> 00:17:59.800
they take a fee for that and then you get cash up front.

456
00:17:59.840 --> 00:18:01.520
Four easy ways that you can think about

457
00:18:01.520 --> 00:18:03.960
to try and decrease your payback period.

458
00:18:03.960 --> 00:18:06.480
And in other words, get more cash faster.

459
00:18:06.480 --> 00:18:08.800
If we're looking at this from a timeline perspective,

460
00:18:08.800 --> 00:18:11.720
so $1,200 was the cost to acquire.

461
00:18:11.720 --> 00:18:14.160
If we spread that out, the first one that gets 600,

462
00:18:14.160 --> 00:18:16.560
so I'm still at negative 600,

463
00:18:16.560 --> 00:18:19.320
and then I have another 600 that comes at month two.

464
00:18:19.320 --> 00:18:20.520
So now I'm at zero.

465
00:18:20.520 --> 00:18:22.720
So it took me two months to break even.

466
00:18:22.720 --> 00:18:27.400
In the second scenario, I add a fee, let's say,

467
00:18:27.400 --> 00:18:30.400
another $600 and it's just processing fee.

468
00:18:30.400 --> 00:18:33.120
I cost me nothing to do this.

469
00:18:33.120 --> 00:18:37.240
So now my first transaction, I make $1,200 back

470
00:18:37.240 --> 00:18:39.160
and I'm already at breaking even at zero.

471
00:18:39.160 --> 00:18:43.160
And then here, I get my 600, but I'm plus 600 now.

472
00:18:43.160 --> 00:18:45.320
And so this business is a healthier business

473
00:18:45.320 --> 00:18:47.040
that we more adapt to more resilient

474
00:18:47.040 --> 00:18:48.440
and a downturn than this one.

475
00:18:48.440 --> 00:18:50.760
Let's do number six, six and seven are real short

476
00:18:50.760 --> 00:18:52.760
and then I'll give you a bonus one, number eight.

477
00:18:52.760 --> 00:18:54.840
So these are all about predictions.

478
00:18:54.840 --> 00:18:57.320
So up to this point, we've got a steady state of,

479
00:18:57.320 --> 00:19:00.320
okay, this is what the business is.

480
00:19:00.320 --> 00:19:01.880
Six, seven and eight are all about

481
00:19:01.880 --> 00:19:04.360
what it can do in the future, okay?

482
00:19:04.360 --> 00:19:09.360
So number one that I love this one is sales velocity

483
00:19:09.520 --> 00:19:11.280
times lifetime gross profit,

484
00:19:11.280 --> 00:19:14.600
which means how many units are we selling per month?

485
00:19:14.600 --> 00:19:16.760
Times, what are these people going to be worth

486
00:19:16.760 --> 00:19:17.920
to me over the lifetime?

487
00:19:17.920 --> 00:19:20.360
Now you can also do this as LTV as well

488
00:19:20.360 --> 00:19:23.520
because that's also a good metric to at least understand,

489
00:19:23.520 --> 00:19:26.800
especially if sometimes margins can improve with scale.

490
00:19:26.800 --> 00:19:28.640
So that can be helpful to just know both.

491
00:19:28.640 --> 00:19:31.240
Let's say that I sell 100 customers a month,

492
00:19:31.240 --> 00:19:34.880
times $6,000 in lifetime gross profit

493
00:19:34.880 --> 00:19:38.240
and it was $10,000 in lifetime value, right?

494
00:19:38.240 --> 00:19:40.080
Which is how much revenue they're gonna generate.

495
00:19:40.080 --> 00:19:41.920
Remember because we still had all the costs associated.

496
00:19:41.920 --> 00:19:44.840
The nice thing with this is that we can see,

497
00:19:44.840 --> 00:19:46.360
especially with this one,

498
00:19:46.360 --> 00:19:50.680
where the revenue of the business is going to be at scale.

499
00:19:50.680 --> 00:19:53.320
Because especially if you have a recurring revenue business,

500
00:19:53.320 --> 00:19:55.560
it might take time for them for the business

501
00:19:55.560 --> 00:19:58.560
to actually get to its hypothetical max.

502
00:19:58.560 --> 00:20:00.440
And so the assumption here is that

503
00:20:00.440 --> 00:20:02.560
if nothing else changes in the business,

504
00:20:02.560 --> 00:20:04.040
they don't sell more customers

505
00:20:04.040 --> 00:20:06.960
and the customers don't become worth any more than they already are,

506
00:20:06.960 --> 00:20:08.720
where will this business even out?

507
00:20:08.720 --> 00:20:11.880
And so in this example, $1 million a month.

508
00:20:11.880 --> 00:20:14.920
Now, this is why this is so important.

509
00:20:14.920 --> 00:20:18.720
If someone comes to me and they're doing $500 a month

510
00:20:18.720 --> 00:20:20.200
and they have these metrics,

511
00:20:20.200 --> 00:20:22.880
then I know that the business is going to double.

512
00:20:22.880 --> 00:20:25.280
Without doing anything, which is great.

513
00:20:25.280 --> 00:20:27.480
On the flip side, if a company comes to me

514
00:20:27.480 --> 00:20:29.440
and has these metrics, which it still could

515
00:20:29.440 --> 00:20:31.480
and it's doing $2 million a month,

516
00:20:31.480 --> 00:20:33.000
then I know that it's going to shrink.

517
00:20:33.000 --> 00:20:35.960
It means that they were either selling more units

518
00:20:35.960 --> 00:20:37.480
earlier on in the past

519
00:20:37.480 --> 00:20:38.600
and thinks something happened.

520
00:20:38.600 --> 00:20:40.840
Their Facebook ads got shut down.

521
00:20:40.840 --> 00:20:44.240
They got a bad rap on their content or,

522
00:20:44.240 --> 00:20:46.400
and this is probably the more common one,

523
00:20:46.400 --> 00:20:48.000
their delivery started to drop.

524
00:20:48.000 --> 00:20:49.560
And so their churn started to increase

525
00:20:49.560 --> 00:20:51.800
and so their lifetime value is actually dropped

526
00:20:51.800 --> 00:20:54.440
per customer because they couldn't scale well.

527
00:20:54.440 --> 00:20:56.480
And so I can say, even though you're at

528
00:20:56.480 --> 00:20:57.880
$2 million a month right now,

529
00:20:57.880 --> 00:20:59.680
if things keep going the way they are,

530
00:20:59.680 --> 00:21:02.200
it's actually going to drop down to $1 million a month.

531
00:21:02.200 --> 00:21:04.800
All right, and so this gives you a really good idea

532
00:21:04.800 --> 00:21:07.480
of a snapshot of where someone's going to be

533
00:21:07.480 --> 00:21:08.480
versus where they are.

534
00:21:08.480 --> 00:21:09.760
So you might be wondering,

535
00:21:09.760 --> 00:21:13.200
how can the lifetime value of a customer change

536
00:21:13.200 --> 00:21:14.440
for a business?

537
00:21:14.440 --> 00:21:17.440
Will a churn goes from 5% to 10%

538
00:21:17.440 --> 00:21:21.200
then it means you cut your lifetime revenue in half.

539
00:21:21.880 --> 00:21:23.840
But that's why churn numbers and retaining customers

540
00:21:23.840 --> 00:21:25.000
are so important.

541
00:21:25.000 --> 00:21:27.360
Because if you go from 10% to 5%,

542
00:21:27.360 --> 00:21:31.960
you also double the lifetime revenue of a customer.

543
00:21:31.960 --> 00:21:33.840
And so this is why the health of the business

544
00:21:33.840 --> 00:21:36.520
based on what it's hypothetical maxes can change.

545
00:21:36.520 --> 00:21:39.200
And so the longer period of time you take the average over,

546
00:21:39.200 --> 00:21:41.120
realistically, the more accurate it'll be.

547
00:21:41.120 --> 00:21:42.560
If you did this on a daily basis,

548
00:21:42.560 --> 00:21:43.760
it would be really volatile.

549
00:21:43.760 --> 00:21:46.720
And smaller businesses, more businesses are volatile.

550
00:21:46.720 --> 00:21:48.920
And so it's good to have snapshots of,

551
00:21:48.960 --> 00:21:51.160
okay, well, what was it, trailing 90,

552
00:21:51.160 --> 00:21:53.160
trailing six months, trailing 12 months

553
00:21:53.160 --> 00:21:54.200
to get a much better idea.

554
00:21:54.200 --> 00:21:56.000
And you can calculate this at each of those.

555
00:21:56.000 --> 00:21:57.440
And then you can look at all three and say,

556
00:21:57.440 --> 00:21:59.760
okay, well, this is what I think it really is.

557
00:21:59.760 --> 00:22:02.120
And all of this helps you ask better questions

558
00:22:02.120 --> 00:22:03.120
as an investor.

559
00:22:03.120 --> 00:22:04.560
So I'm gonna give you the next one,

560
00:22:04.560 --> 00:22:06.440
which is very similar to this one,

561
00:22:06.440 --> 00:22:09.920
which is sales velocity divided by churn.

562
00:22:09.920 --> 00:22:11.720
So churn, remember where you defined this earlier

563
00:22:11.720 --> 00:22:13.480
at the beginning, number of customers,

564
00:22:13.480 --> 00:22:16.080
and let's say it's 10% per month, okay?

565
00:22:16.080 --> 00:22:17.760
This is the number of customers who leave.

566
00:22:17.760 --> 00:22:18.600
And let's say again,

567
00:22:18.600 --> 00:22:21.840
we've got a hundred customers in terms of sales velocity.

568
00:22:21.840 --> 00:22:25.640
This means that our hypothetical max in terms of logos

569
00:22:25.640 --> 00:22:27.920
or a number of customers that the business

570
00:22:27.920 --> 00:22:30.680
is going to have to sustain or maintain

571
00:22:30.680 --> 00:22:33.840
is gonna be 1,000 customers.

572
00:22:33.840 --> 00:22:36.000
Now, remember, we have 1,000 customers,

573
00:22:36.000 --> 00:22:37.960
remember it's paying 1,000 dollars a month?

574
00:22:39.000 --> 00:22:39.880
Million dollars a month.

575
00:22:39.880 --> 00:22:41.880
These calculations work together.

576
00:22:41.880 --> 00:22:44.280
This tells me how much money are we gonna be making

577
00:22:44.280 --> 00:22:45.800
when we're at our hypothetical max?

578
00:22:45.800 --> 00:22:47.600
And this tells me how many customers

579
00:22:47.600 --> 00:22:50.960
are we gonna have to be servicing at our hypothetical max?

580
00:22:50.960 --> 00:22:53.360
We're coming down, and I'd say we'll do it right now,

581
00:22:53.360 --> 00:22:56.200
you have the infrastructure to maintain 2,000 customers,

582
00:22:56.200 --> 00:22:57.800
but we're gonna be at 1,000,

583
00:22:57.800 --> 00:23:00.600
you're gonna have to be looking at headcount, which sucks.

584
00:23:00.600 --> 00:23:03.280
On the flip side, if we've got 500 customers,

585
00:23:03.280 --> 00:23:04.400
we're doing 500,000 a month,

586
00:23:04.400 --> 00:23:05.920
and I know we're gonna get to 1,000,

587
00:23:05.920 --> 00:23:08.280
I'm gonna say, hey, how could we scale

588
00:23:08.280 --> 00:23:10.680
and make sure that we don't break on our way to 1,000

589
00:23:10.680 --> 00:23:13.080
because we're gonna get there in X months?

590
00:23:13.080 --> 00:23:13.920
That's six and seven,

591
00:23:13.920 --> 00:23:15.480
and now we'll go to bonus number eight,

592
00:23:15.480 --> 00:23:18.480
the secret bonus, which wraps all of this stuff together.

593
00:23:18.480 --> 00:23:21.200
This equation is really in relation

594
00:23:21.200 --> 00:23:22.840
to how big the opportunity is.

595
00:23:22.840 --> 00:23:24.200
So, Tam is just a fancy word

596
00:23:24.200 --> 00:23:25.280
for total addressable market,

597
00:23:25.280 --> 00:23:27.320
which is how many people could I potentially sell?

598
00:23:27.320 --> 00:23:29.560
And so, when I'm analyzing an opportunity,

599
00:23:29.560 --> 00:23:31.560
it's number of potential units

600
00:23:31.560 --> 00:23:34.440
times lifetime gross profit divided by risk.

601
00:23:34.440 --> 00:23:37.200
And so, this ultimately gets at

602
00:23:37.200 --> 00:23:40.520
how big of a company do I think this could ultimately be?

603
00:23:40.520 --> 00:23:42.160
If we're servicing, you know,

604
00:23:42.160 --> 00:23:47.080
vegan moms with three kids who like powerlifting,

605
00:23:47.080 --> 00:23:49.480
then there might only be 50,000 of them.

606
00:23:49.480 --> 00:23:51.560
And so, I'm gonna have 50,000 potential units old.

607
00:23:51.560 --> 00:23:54.800
That's assuming we get a 100% of the market to buy.

608
00:23:54.800 --> 00:23:56.160
Now, that might not be true,

609
00:23:56.160 --> 00:23:57.520
but that would be here.

610
00:23:57.520 --> 00:24:00.360
Is what, how many units could we potentially sell?

611
00:24:00.360 --> 00:24:03.360
The lifetime gross profit is how much do we make

612
00:24:03.360 --> 00:24:05.040
on all of these people?

613
00:24:05.040 --> 00:24:08.480
This would give us an idea of how big the opportunity is.

614
00:24:08.480 --> 00:24:09.640
This is all the good stuff.

615
00:24:09.640 --> 00:24:12.280
The big question is how likely is that going to happen?

616
00:24:12.280 --> 00:24:13.920
Risk has a zillion categories.

617
00:24:13.920 --> 00:24:15.280
So, that's beyond the scope of this video.

618
00:24:15.280 --> 00:24:17.560
But, do I think that there's a trend?

619
00:24:17.560 --> 00:24:19.640
Are there gonna be more vegan powerlifting moms

620
00:24:19.640 --> 00:24:20.480
in the future?

621
00:24:20.480 --> 00:24:22.440
They mean less vegan powerlifting moms in the future.

622
00:24:22.440 --> 00:24:24.080
So, for example, right now,

623
00:24:24.080 --> 00:24:26.320
I am looking at fertility stuff.

624
00:24:26.320 --> 00:24:28.240
Tons of people are having fertility issues.

625
00:24:28.240 --> 00:24:31.080
I think it's gonna be a booming market in the future.

626
00:24:31.080 --> 00:24:34.560
So, something that services anything related to fertility

627
00:24:34.560 --> 00:24:36.880
will probably have big tailwinds behind it.

628
00:24:36.880 --> 00:24:38.840
You can apply risk to each of these.

629
00:24:38.840 --> 00:24:41.000
So, from selling potential units is,

630
00:24:41.000 --> 00:24:43.280
okay, is the way that we're acquiring customers,

631
00:24:43.280 --> 00:24:44.840
something that's really risky?

632
00:24:44.840 --> 00:24:46.680
Are there gonna be platforms that are gonna change?

633
00:24:46.680 --> 00:24:48.760
Do we expect this method of getting customers

634
00:24:48.760 --> 00:24:49.600
to sustainable?

635
00:24:49.600 --> 00:24:50.720
Is there a key man risk?

636
00:24:50.720 --> 00:24:51.680
Is there somebody using charge

637
00:24:51.680 --> 00:24:53.720
that department that if they left would be screwed?

638
00:24:53.720 --> 00:24:55.560
Right, all of these are factors of risk

639
00:24:55.560 --> 00:24:57.520
of how likely it is to happen in the future.

640
00:24:57.520 --> 00:25:00.040
From the lifetime gross profit perspective,

641
00:25:00.040 --> 00:25:01.720
are there other competitors that could come in

642
00:25:01.720 --> 00:25:02.520
and undercut us?

643
00:25:02.520 --> 00:25:04.200
How strong is our position in the marketplace?

644
00:25:04.200 --> 00:25:07.680
Do we have a better product that can sustain a premium?

645
00:25:07.680 --> 00:25:10.480
Are there economies of scale that we can have

646
00:25:10.480 --> 00:25:12.280
or is their shrinking margin?

647
00:25:12.280 --> 00:25:14.040
So, sometimes gonna happen at scale.

648
00:25:14.040 --> 00:25:16.800
And so, these are all risks that could affect

649
00:25:16.800 --> 00:25:19.840
our gross profit per customer over the long haul.

650
00:25:19.840 --> 00:25:22.600
Some people might think, okay, well, how important is tam?

651
00:25:22.600 --> 00:25:24.000
It is extremely important,

652
00:25:24.000 --> 00:25:26.200
but the ability to assess it is very limited.

653
00:25:26.200 --> 00:25:29.400
This is one of those important and unknown.

654
00:25:29.400 --> 00:25:31.440
Charlie Munger and Warren Buffett talk about a lot,

655
00:25:31.440 --> 00:25:33.920
which is like, you've got things that are noble,

656
00:25:33.920 --> 00:25:36.640
and unknowable, and unimportant and important.

657
00:25:36.640 --> 00:25:39.840
And we just wanna focus on the noble and important.

658
00:25:39.840 --> 00:25:42.360
The economy and interest rates, very important.

659
00:25:42.360 --> 00:25:43.360
Is it noble?

660
00:25:43.360 --> 00:25:45.120
No, so they don't try to predict it.

661
00:25:45.120 --> 00:25:48.440
With tam, I see it kind of in that very important,

662
00:25:48.440 --> 00:25:50.120
but not noble, and here's why.

663
00:25:50.120 --> 00:25:52.880
The amount of companies that start with a niche,

664
00:25:52.880 --> 00:25:56.120
and then expand and expand and redefine their customer,

665
00:25:56.120 --> 00:25:58.520
redefine their avatar, most businesses have,

666
00:25:58.520 --> 00:25:59.960
especially the biggest ones.

667
00:25:59.960 --> 00:26:01.400
Amazon started as a bookstore,

668
00:26:01.400 --> 00:26:02.720
now it's an everything store.

669
00:26:02.720 --> 00:26:05.560
Facebook started as a social network for college kids,

670
00:26:05.560 --> 00:26:07.880
and then became the everything social network.

671
00:26:07.880 --> 00:26:10.560
And so many huge examples start small,

672
00:26:10.560 --> 00:26:11.880
because they wanna narrowly define a problem

673
00:26:11.880 --> 00:26:14.080
for a specific avatar, and they expand over time.

674
00:26:14.080 --> 00:26:17.400
But the main point for this one is how much risk,

675
00:26:17.400 --> 00:26:19.720
am I exposed to, that is noble,

676
00:26:19.720 --> 00:26:21.800
that I think could potentially break this equation

677
00:26:21.800 --> 00:26:22.920
from working in the future.

678
00:26:22.920 --> 00:26:24.800
When you take the first seven,

679
00:26:24.800 --> 00:26:28.640
and you plug that into this framework for assessing value,

680
00:26:28.640 --> 00:26:31.200
or how big this could potentially be,

681
00:26:31.200 --> 00:26:33.360
then you have a very good framework

682
00:26:33.360 --> 00:26:35.280
to analyze a business yourself,

683
00:26:35.280 --> 00:26:37.160
or others to potentially invest in,

684
00:26:37.160 --> 00:26:40.600
or say, I'm gonna know on this one dog.

685
00:26:40.600 --> 00:26:43.200
And by the way, if you don't have something like this,

686
00:26:43.200 --> 00:26:45.800
I'd recommend just put one excel sheet together

687
00:26:45.800 --> 00:26:48.360
that tracks your numbers automatically every month,

688
00:26:48.360 --> 00:26:50.240
because you'll get a much better idea

689
00:26:50.240 --> 00:26:53.000
of how your business is doing from a health perspective.

690
00:26:53.000 --> 00:26:54.600
Again, if you're a brick and mortar chain,

691
00:26:54.600 --> 00:26:58.680
doing a million dollars in profit per year or more,

692
00:26:58.680 --> 00:27:01.120
and you've got a sound model and you wanna expand,

693
00:27:01.120 --> 00:27:02.360
we're looking for you right now.

694
00:27:02.360 --> 00:27:04.760
We've done super well with brick and mortar chains,

695
00:27:04.760 --> 00:27:06.560
expanded really, really big,

696
00:27:06.560 --> 00:27:08.560
and we're just looking for awesome businesses

697
00:27:08.560 --> 00:27:09.600
that we can get involved in.

698
00:27:09.600 --> 00:27:11.760
So specifically service-based businesses,

699
00:27:11.760 --> 00:27:14.200
million plus, ideally three to five million in profit.

700
00:27:14.200 --> 00:27:15.920
So if that's you, reach out to us,

701
00:27:15.920 --> 00:27:17.440
we can make it rain together.

702
00:27:17.440 --> 00:27:17.840
[♪ OUTRO MUSIC PLAYING [♪