Product-Market Fit: Addressing popular misconceptions

The path to true Product-Market fit

Product Market Fit (PMF) is such an essential concept in the startup journey. Without PMF, a startup will not survive or be able to raise money. It's vital that founders, investors and operators talk and write about it a lot. 

There is more or less a general consensus about the ultimate definition of PMF.  It is when a strong market pull exists for a startup's product. VCs use this to assess a company's long-term potential before investing. But when you try to dig deep into what PMF means in practice, you will come across different concepts and ideas. 

Many people have also tried to develop frameworks or methodologies to help founders measure product market fit. One is the PMF survey by Sean Ellis: Ask your users, “How would you feel if you could no longer use the product?” and then measure the percentage of those who answer “very disappointed”. Using this or the NPS score is generally not always helpful.

Fundamental to all these attempts is the misconception that PMF is a static milestone, and once you hit it, you enter exponential growth, as shown in the chart below. 

That is not correct. Product-market fit is not static or binary. It is a spectrum that changes with both the market and your company's stage.

PMF is not static

PMF is not static; it changes over time. Rather than seeing it as a destination, see it as a spectrum. You need to assess your position on that spectrum regularly. The further right you go, the more definite your product success becomes, and vice versa. Your product will evolve, the distribution channel and market will change, and competitors will innovate. 

This could be due to your own change (e.g., expanding to new markets) or because of others (e.g., competitors offering similar products for free). When you launch new product features, you expect users to adopt them. The more users adopt the new features you build, the further right you will go in the spectrum of PMF. Otherwise, the further back in the spectrum.

The market also could change in various ways that make your product unattractive. A new policy from the government can make your great product illegal or significantly increase the market barrier. When the Lagos State Government enforced a regulatory ban on the operation of commercial bikes on major roads in 2020, startups like Gokada (a bike-hailing startup then) had to pivot quickly despite gaining some initial market acceptance. 

The root cause of the problems that led to your product might also be solved (e.g. by the government or a large organization), so there is no more need for your product. The Covid 19 pandemic is a good example. It created some constraints that disappeared after the world returned to normal. Startups who built their products on these constraints had to rethink their market fit afterwards. Many of the layoffs at big techs in 2022 and 2023 were due to this. 

Macroeconomic factors could also affect your cost and operational model, making it difficult for you to continue to serve your customers sustainably.  Kippa (a Nigerian Fintech startup) had to exit agency banking largely due to the Naira devaluation (a condition that did not exist at the start), making it difficult to keep up with the cost of subsiding POS terminals for their agents. 

A competitor could also solve the problem you have built a product for in a very different way that undercuts your business model and makes your product unattractive. This is called Disruptive innovation. You are probably already familiar with how Netflix disrupted Blockbuster's business. A similar thing may happen to legacy Video production SaaS tools. The space is experiencing disruptive forces with the advent of Gen AI that could cause some products to lose their PMF. Tools like Sora (from Open AI) are democratizing video production, allowing non-technical users to create hyper-realistic video content and thus undercut the need for expensive software products built on top of the legacy process flow of video production. 

In addition, your market fit is another concern when expanding to a new country. Your product could work very well in your HQ country but find it difficult to gain traction in another country due to their own peculiarities. In heavily fragmented countries like (Nigeria or India) your product could thrive in cities like Lagos or New Delhi, but struggle to achieve market fit in another city like Gusau or Varanasi. 

Your distribution channel could also change, or the owners could tweak the algorithm. For instance, if you built your app on the Shopify App Store, Shopify could develop free alternatives to your product, thus cannibalizing your market. Similarly, the mission-critical third-party tools or APIs you leveraged to build your product can drastically change their models. When Twitter shut down its free basic API, many developers (like Tweetbot) announced they had to shut down their apps. The new Twitter API subscription tiers priced them out of the market. As you can see, PMF is not a specific milestone and can be lost. It changes with the market, channel and stage of your company. 

Early adopters ≠ PMF

As a startup, you need the early adopters to demonstrate traction and raise pre-seed/seed. Their support can be very encouraging initially, but it does not mean you have PMF. 

Your PMF status could change based on the stage of your startup. You can achieve product-market fit at the seed stage but lose it at the growth stage. Your product can adequately meet the needs of your first 1,000 users. But when you try to scale that to the next 10,000 users, you might struggle to do that. Aaron Dinin wrote an interesting blog post on Your Startup’s First 100 Customers Don’t Actually Matter. This does not invalidate that your product had some early PMF, but you have failed to achieve the strong PMF that VCs are always looking for. 

Many factors could be responsible for this. Your total addressable market is small and not large enough to absorb your expected growth. Your early adopters may not be representative of the broader market. 

It could be that the problem you are solving is not recurring enough to build a growing business around it, or your distribution channel could be saturated. If the market is not generating strong and growing demand for your product, you don’t have PMF. There are many layers of PMF you should be thinking about beyond early adopters, as shown in the chart below.

Similarly, having many fans, supporters or even advocates does not imply PMF. Your product might solve an important social need, but building a market around it is hard. (NB: Not all software products have to be profit/revenue making. But in this case I’m referring to products built for commercial purpose). Mistaking fans for your customers can lead you to make the wrong decisions about your product. It is good to find people spreading your product through word-of-mouth, but it is still not a Product-Market fit. 

With a freemium product, growing your user base and gaining traction could be easy. But without an exchange of value, you don't have a business or a product. You need to continually assess the users on your free plan and your conversion rate. What is their willingness to pay and to pay on a recurring basis? If a large percentage of them are comfortable on the free plan for a long time, then you must revisit your value/ pricing model. Of course, not every exchange of value involves money. For example, social media users pay with their attention and user data, and the platform owners can sell that to advertisers. The key message here is to avoid falling into the trap of premature MVP with early adopters or supporters. 

Premature PMF is a common trap that founders fall into, which can lead them to make wrong product and growth decisions. One such mistake is investing heavily in the growth and expansion of a product with premature MVP, especially when you just raised some money. The outcome of such can be devastating. For PLG (Product-Led Growth) companies, you will end up spending a lot on demand generation, while your churn rates will be high.

For sales-led growth, you will see yourself leaning on discounts or relationships to close sales. And in most cases, you would be selling the roadmap (what the product can become) instead of the product as it is. Scaling with premature PMF will make your CAC (Customer Acquisition Cost) payback time high and unsustainable. 

Growing sales ≠ PMF

This is a tricky one because the ultimate measure of product success is revenue growth and net revenue retention. Looking at sales numbers alone and thinking you have achieved PMF is a common mistake. Closing sales and more is a big deal, so don’t get me wrong, especially with enterprise products. That someone sees value in your product and is willing and able to commit to it financially is a sign of success. But it is not sufficient. Revenue is a lagging indicator and does not tell the complete picture. When you hit new revenue numbers, it's months or years from when you built the features or spent the marketing dollars. 

You could be growing your sales. However, as I noted previously, it is not sufficient to grow your revenue. Because revenue is critical, it is tempting to disproportionately focus on closing new sales to drive net revenue retention. For enterprise products, I understand that you need to close sales before your customers can even fully experience your product or demonstrate PMF. But while trying to do that, you must pay attention to user engagement. Net revenue retention paints a better picture. It is an important metric that captures both user engagement and their willingness to spend on your product. The core metric of PMF is retention.

Net revenue retention rate is the revenue generated from existing customers (renewals, cross-sells, and upsells) over a specific period divided by the revenue from those same customers in the previous period. It should be > 100%. That means acquired customers are generating more revenue over time, either by increasing the number of seats, making more API calls, upgrading to more expensive plans or buying additional products. If you are focused on closing new sales, you may ignore engagement metrics, which are critical to PMF. Rather, you will see yourself iterating on pricing, packaging, lead gen and sales motion to ramp up sales.

You need to dig deeper to see the leading indicators and metrics at play in your product. Do sales lead to recurring revenue? Can the product create recurring moments of impact post-sales? Is the product sticky, and do the users keep coming back? What is your customers' churn rate? Can you upsell those customers? Retention should not be an afterthought. You have to think about it from day 1. Often when founders later realize they must make the product sticker, they delegate engagement metrics to some ill-equipped PM to track. No, it has to be a top priority for the founders. 

More importantly, are you acquiring quality customers? And are you acquiring them faster than you are losing them? At the early stage, when you are yet to clearly define your product value and ideal customer profile (ICP), it might be tempting to sell to everyone (especially when you are using a sales-led model); you need to assess the quality of customers you are acquiring. If you don’t acquire good customers, they do not get value from the product (as shown by their usage metrics). They become inactive and churn. 

The sweet spot to knowing when you are getting the right PMF is when you can acquire new customers at an accelerating pace and make the product sticky for them.  A sticky product is valuable enough for a targeted set of users and keeps them returning. 

Another possible mistake with growing sales is that you may be inclined to invest more resources in sales to ramp up the numbers. Who doesn’t want more money? But that could be the wrong path. The chart below from the 2023 SaaS Benchmarks Report shows how relative investment across different functions changes as a company moves from the startup phase to scale-up. 

The chart shows that sales and marketing spend is below that of R&D (primarily product development) until the ARR surpasses the $5M - $20M range. In the $5M - $20M phase, many companies have established strong PMF and are ready to scale their growth engine. (NB: The actual revenue range for achieving a strong PMF might be lower for your startup, especially if operating in a small/emerging market). The key message is that you may damage your growth engine if you attempt to flip the spending too early because of growing sales. 

In Summary

Product-market fit is not static; you must continuously evaluate your position on the spectrum. PMF is like a moving goalpost. Even if you achieve it, you may not be able to hold on to it. As noted, customer acquisition payback time and net revenue retention rate are important metrics to track to know where you are on the PMF spectrum. Avoid premature PMF and lagging metrics that look good but do not tell you the full picture.