Metrics for evaluating ASX Tech: Part 4/5 - Efficiency + Life360's burn 💸🔥
How can some tech companies be great businesses despite losing money? We look at growth efficiency through Life360’s business model
Welcome to Part #4 of the series on Metrics for evaluating ASX tech.
#4. Growth Efficiency: why we ❤️ Life360’s cash burn
Growth efficiency looks at how much value is being added in the context of sales and marketing investment - how much ‘buck’ is the company getting for their ‘bang’.
Similar to unit economics, efficiency differs between:
Transaction-based businesses: long-term contribution margin is the focus
Recurring software businesses: lifetime value is the focus with cash flow profiles that can see upfront burn from 1) investing heavily in research and development to build the technology, and then 2) acquiring customers
But a question we often get asked from our audience - how can these companies be good investments despite losing so much money?
The answer: cohort profitability. Looking at the value creation of a subscription company is very different to classic industrials.
The challenge is often having the stomach to invest aggressively in paying for customers upfront that will only pay you back later, and being able to communicate that story clearly to investors.
Life360: investing heavily in profitable cohorts
A good example of this is Life360 - one of our favorite ASX-listed technology businesses. They burned US$32m in 2019, US$7m in 2020 and should break even in 2021.
They lose 60% of their new customers within 12 months and (until recently) have consistently lost money since they listed in early 2019…. but the underlying unit economics are strong 💪.
The business model looks like this:
Spend marketing dollars upfront to acquire users for their mobile app
The majority of users leave the platform within 12 months
Some users stay and form paying circles (i.e. paid memberships)
And 35% of these circles are staying for 4+ years
While the upfront costs to acquire users can make cash flow look bad - if you look at the gross profit profile of user cohorts - you can better understand Life360’s value creation.
Here is a simple model of 👉 Life360 cohort for Q2 2019 where the company invested $5m buying 2.5m users.
Assuming this cohort performs like the others:
2.5m users would have eroded to 875,000, or around 30k paying circles
These circles would be generating $500k in gross margin each quarter (or $8m cumulative to today)
... and this cohort still has a lot more to give
If you believe that cohorts will continue to deliver, we want Life360 spending as much cash as they can to acquire profitable cohorts.
They are doing just that, spending $3m on paid acquisition last quarter (Q3 2021) to acquire 1.5m new users on the platform. 💸🔥👍
What about valuations?
Understanding valuation creation and growth efficiency can help you identify a good business model - but it won’t give you a firm answer on valuation.
For this we need different frameworks that take a view on the present value of the long term cash flows the business will generate. That’s outside the scope of this series on software metrics but we’ll cover this in a future post.
Subscribe to be notified about Part#4
Thanks for reading Part #4 on Growth Efficiency!
In Part #5, we’re going to close the series out on Retention: why net dollar retention lags on the ASX, and how a handful of PLG companies are changing it 🇦🇺. Subscribe here so you don’t miss it.