How fast can you grow?
Mental model for trade-offs between cash required and return timelines, J-Curve
J-Curve is a concept that got popularized by drawing out a SaaS company's payoff graph. More broadly, it's a mental model applicable to many areas. Especially for business investments.
Factors of a J-Curve
With all investments, there's 3 variables to consider:
Investment cost
Return amounts
Time to return
Here's an example:
Let's say an 8 year investment requires $1000 cash upfront and yields a cash flow thereafter. You can see that the ultimate return on this investment is $2200+.
Amazing investment! You've doubled your initial investment.
But this also creates an interesting challenge. When you graph this, you see something like this:
The math shows great returns, IRR math even shows better returns than wall street bets!
While it being a fantastic investment on an absolute basis, you are in the red for many months.
This J-Curve dynamics is where companies often get in trouble. You might be a rich person in 2029, but will you be around to reap those rewards?
That depends on the key factor: time to return.
How long does it take for you to breakeven determines how much cash you'll need to bankroll this investment. The longer the time to return, the more cash you'll need. Sounds simple, yet this is where the challenge of unit economics and solvency cross paths.
Solvency vs. Unit Economics
If you have positive unit economics (even by 1%) and instant time to return your investment. Technically, you can scale to the moon.
E.g. if for every $100, you can return $101, instantly. You can just compound that infinitely.
However reality isn't so simple, time is the tricky variable.
When you invest $100, do you get $101 back in 1 hour, 1 day, 1 month, 1 year? That changes your investment outcome greatly.
More often than not, companies die from insolvency than negative unit economics. They are two sides of the same coin.
If we take the same example and cut it off at 2025, you get a pretty bad business. Where you make 90 cents on every dollar invested.
Your lens of time horizon changes this equation.
Oftentimes, it's easy to mistaken a short time horizon for "poor unit economics".
Faster you grow, faster you die.
When mismanaged, the faster you grow, the faster you die. Growing too fast can actually bankrupt your company.
Let's take our above example, same unit economics. For every $10 you spend, you get back $32. That's a great LTV/CAC of 3:1.
However, you notice that you start digging yourself into a pretty big deficit around 2025. This is with a plateauing customer growth around 2025 so that we can hit breakeven by 2028. However, otherwise, it takes much longer
This is where you'll need to go raise money just to sustain the growth.
When we think about an investment, it's interesting to consider these risk-reward tradeoffs. This mental model applies to every type of investment you're making, whether it'd be time/capital or resource. You're putting in an investment today hoping for a worthwhile payoff in the future.