🏴☠️ ⚡️ The #1 Constraint Holding Back Growth (Operating Concept)
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TABLE OF CONTENTS:
Quick Intro to Systems Thinking
The Theory of Constraints
Applied to a User Acquisition Funnel
An Example in Practice
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Several years back, a dear friend and perhaps the best thinker and performer I know recommended Thinking in Systems. It forever changed my worldview.
From then on, I sought to understand everything around me as a system (inputs and outputs, feedback loops, leverage points, etc.).
In addition, I’ve sought to collect mental models and frameworks, like a series of Lego blocks, that connect to compose my thought process. This way, when something goes wrong, I can isolate the part of the system that is underperforming, or the respective mental model / framework, to focus my efforts and intervene accordingly.
I honestly have no idea how I navigated the world effectively before these adjustments. So, we’re here today to frame systems thinking and utilize the theory of constraints to unlock growth for your SaaS firm.
SYSTEMS THINKING
Systems thinking: a holistic approach to analysis that focuses on how a system's constituent parts interrelate and how systems work over time and within the context of larger systems. It involves understanding the structure, behavior, and interactions within a system to identify patterns, leverage points, and potential solutions to problems.
Key Concepts:
Interconnectedness: Elements within a system are interconnected, and changes in one part of the system can have ripple effects throughout the entire system.
Feedback Loops: Feedback loops (both positive and negative) either amplify or dampen the effects of changes within the system. This helps in understanding how the system stabilizes or destabilizes over time.
Stock and Flow: Considers stocks (the elements or resources within the system) and flows (the rates at which stocks change). For example, in a business context, customers (stock) and sales (flow).
Leverage Points: Identifies points within the system where a small change can lead to significant improvements or shifts in system behavior.
Holistic Perspective: Critical to view the system as a whole instead of focusing on individual components in isolation.
THE THEORY OF CONSTRAINTS (TOC)
The Theory of Constraints: a management philosophy introduced by Dr. Eliyahu M. Goldratt that focuses on identifying and managing the primary constraint (or bottleneck) that limits the performance of a system or organization.
Order of Operations:
Identify the Constraint: Determine the most significant limiting factor (constraint) that prevents the system from achieving higher performance.
Exploit the Constraint: Make the best possible use of the constraint's capacity without significant investment.
Subordinate Everything Else: Align the entire system or organization to support the constraint. This may involve changing processes, priorities, and resources to ensure the constraint is fully utilized.
Elevate the Constraint: If the constraint still exists after exploitation, invest additional resources.
Repeat the Process: Once a constraint is resolved, identify the next constraint and repeat the cycle to achieve continuous improvement.
Per the TOC, a system's performance is only as strong as its weakest link. By focusing on and improving the constraint, organizations can significantly improve throughput, efficiency, and overall performance.
APPLIED TO A USER ACQUISITION FUNNEL
Theory is great, but execution is king. Let’s dive into how the TOC can be applied to a user acquisition funnel in SaaS.
There is some variance in defining the stages of a SaaS funnel. Let’s use the below to establish common ground:
ESTABLISHING PERFORMANCE BENCHMARKS
Now that we’ve agreed on stages, it’s critical to establish performance benchmarks via the most trusted source you can find. This way, you have a view on relative underperformance and can inform a gameplan accordingly. The worst thing you can do is attack an area where you’re already realizing elite performance. If it’s a struggle to secure performance benchmarks, you can apply a reasonable rate of improvement (5-10%) to your base rates (more on these below).
Let’s proceed with the following benchmarks and assume a ‘free trial’ motion for the remainder of the exercise:
(SOURCE)
ESTABLISHING BASE RATES
Now, assuming you have basic visibility into your funnel, which is a MISSION CRITICAL pre-requisite, look at your trailing 90 or 180-day performance to establish a monthly average for the following (note: simplified version):
Awareness: New Site Visitors
Acquisition: Trail Sign-ups
Revenue: New Paying Users
IDENTIFY & ATTACK THE CONSTRAINT
Here comes the fun part…
Create a simple table with a row for your benchmarks and base rates and columns for the respective metrics
Utilize a percentage change calculation to establish a clear view of the metrics with the largest relative room for improvement
Create a new row that demonstrates improvement if you’re able to move a single metric from your base rate to benchmark performance
Do the same for the next-up metric with the biggest margin for improvement
The table will look like this:
The biggest performance gap in our example is the trial-to-paid conversion rate. This is the #1 constraint holding back growth. If we can improve trail-to-paid conversions by 5% (12% » 17%), we’ll realize a 41.67% improvement in New MRR.
A few things to note:
Relative improvements at any stage in the funnel (think: 10% better than base rate vs an improvement from 10$ to 20%) create the same impact on the net outcome (MRR).
It’s VERY IMPORTANT to consider the level of effort associated with improving a respective metric so plan to identify opportunities for improvement across the funnel. This allows you to balance impact with level of effort before deciding where to spend energy. Using the example above, it might make more sense to update your website or the sign-up form to improve the new visitor to trial sign-up conversion rate (3% » 3.5%), as opposed to creating an entirely new onboarding experience to improve the trial to paid conversion (12% » 12%+)
New visitors is ABSOLUTELY a lever that’s available to you (though not really reflected as such in the example) so include that option in the exercise, though it’s very tough to get base rates for this metric so I’d plan on using a reasonable rate of improvement. For instance, what happens if we grow new visitor traffic by 10% to 3,850 visitors per month?
Many recommend prioritizing improvements in conversion rates at the top of the acquisition funnel. This way, you drive more volume through the entire funnel. Thus, you increase the overall surface area for luck and learning.
Improving conversion rates at the top of a user acquisition funnel yields greater overall impact than similar improvements at later stages.
That’s a wrap! Hopefully, this was helpful as we all seek to build stronger machines by thoughtfully identifying and attacking the weakest link in the chain.
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