BSMS 88 - Why founders overestimate PLG, and what VCs should check before investing

Brian Graf: Welcome back, Stein. Always glad to have you on the show. I think we have a good topic today. It’s been one that I’ve been talking with the Kalungi team, particularly the CMOs, about quite a bit recently, and has come up in quite a few sales conversations as I’ve talked with different B2B SaaS companies around the market. And it revolves around product-led growth, which is a hot topic, right? It’s used by a ton of different companies.

In B2B SaaS, we’ve seen some definite unicorns come out of it. But I think what is talked about less often is some of the challenges that come along with that strategy, right? There are definitely pitfalls that exist with a product-led growth strategy. And I wanted to bring up the topic just to make sure that founders and executive teams are aware of those challenges as they’re planning out their go-to-market strategies and these approaches.

So really I wanted to talk with you about why and how some founders overestimate product-led growth and, from the investment side, a little bit as well, what investors should look for in a product-led growth company before deploying capital and making that investment.

Stijn Hendrikse: So tell me more about why this topic.

Brian Graf: I had a person who I was talking with, a prospective client—super smart guy, a really technical product that solved a core issue—but he was brand new and wanted to push out a product-led growth motion because he thought it would allow him to get more traction and to get his product into the hands of more users, which could be true, but with a little bit more digging, he hadn’t really thought through the onboarding process. His product was still fairly technical and not super intuitive, and with a little bit more digging, it became apparent that I don’t think it would have been the best option.

We came in really early. They had a strong product, an okay handle on the market, but then as we started, they really wanted the product-led side of things and we implemented a go-to-market strategy that worked and it brought their target customer to their product, but the conversion rates fell off because the product wasn’t ready for just a strict product-led growth motion.

This is speculation from me, but I feel like people get—it’s almost like the new thing to do, or it’s trendy, I guess, for lack of a better word. They see things like Slack or Loom or huge, very successful companies that have used product-led very effectively, and they say, “Great, it’s really efficient, don’t have to hire a sales team,” right?

The sales cycle is shorter; people can just self-select in, and there are all these upsides to it for founders and for go-to-market motions. But I think that again, the thing that often gets missed is that for it to be really effective and for it to be as successful as some of those companies have been, the product–market fit has to be impeccable, right? And the usability and intuitive flow of the product need to be exceptionally high. And that is a very high and hard bar to clear.

Stijn Hendrikse: Love that you brought that up, Brian. When we started Kalungi, we had a similar challenge with product–market fit, right? You want to basically only pour more gasoline on the fire if you know what fire to pour it on, right? And if you’re an early-stage company, you’ve got some growth funding or you start to get profitable and you decide where to reinvest that capital in more growth, we built checklists in our playbook because every founder, of course, believes when they start to see success—either it’s a couple of clients who are really becoming raving fans or they just see profitability or they see investors showing interest—it’s very easy for them to conclude, “Okay, we must have hit product–market fit.”

And then what we often had to do is really step back and say, okay, let’s just check a couple of, I guess, milestones that we feel really constitute sustainable product–market fit, right? Not maybe hitting a couple of lucky shots, but really, do you have enough clients who not only vote with their usage—right, they use your product—then they actually vote with their dollars, they buy it, they keep buying it, they stay there, you retain those clients. Do you feel, when you talk with founders about product-led growth being sort of an equivalent milestone, that they’re ready to do that, right?

They’ve basically found that users don't need us to hand-hold them; they need us to market to them. They find the product because it’s easy to get exposed to it, and then it’s easy for them to derive value from it. And then the growth loop starts to spin because they’re not only deriving value, they tell others about i,t and that’s how a lot of product-led growth engines, of course, get started. Have you thought about a similar—just like with product–market fit—how many clients do you have that actually come to your website, that subscribe to your blog, that pay you, that stay, et cetera? What would be the product-led growth equivalent of that?

Brian Graf: Well, I’d love your thoughts on this as well, but the way that I look at it is I actually still apply that model. I still think that model holds true, but our standard is, right, ten milestones of ten—ten visitors, ten beta users, ten customers, ten referrals, et cetera. What I’ve found for product-led growth is that I think the scale of those ten just increases quite a bit, right?

So instead of ten, it’s a hundred or a thousand, depending on the price point that you’re going to market with. But the core metrics remain the same, right? You need people who pay, stay, and refer others consistently at scale to call what you have product–market fit.

What’s been interesting for me—and again, you have to take what I say with a grain of salt because the people that I have conversations with are either just starting out and want to grow but haven’t yet, or have tried to grow and have hit a ceiling or have hit obstacles—but often they are either just starting out and think that product-led growth is a good idea that they want to push on for this brand-new product, or product-led growth is their attempt to go down-market and to take what was either an enterprise sale or a mid-market sale and make it more accessible, open up more of the market for their product.

And again, right, if that is well thought out and there’s a really strong use case and they can go kind of the disruption-Canva route in the go-to-market strategy, then it can work really, really well. But again, if it’s not thought through as well, it’s full of landmines.

Stijn Hendrikse: Yeah, I would add to that. So the foundation of product-led growth achievements is very similar to product–market fit, right? You have enough clients who pay you, stay, tell others about it, et cetera.

I think what you add to that: you have to be really honest about the cost of achieving those things, right? With a marketing-led growth go-to-market or a sales-led growth go-to-market, you’re comfortable with getting people to pay and getting people to stay, that you have to invest in that. You have to hire customer success people for them to stay, right?

You have to invest in SDRs and salespeople for them to pay. You have to invest in content and paid clicks for them to even start using your product. So the reality that product-led growth basically says, well, we’re not going to do any of that, we’re not going to invest in those things—not at the same level—because product-led growth often supports a smaller ARPU, right? A smaller ACV, a smaller price per user, price per subscription device, however your pricing structure works. So I think when you do an assessment that is similar—how many people are paying, how many people are staying—you have to be very honest with yourself and you have to actually be able to measure what your customer acquisition cost actually is, and not just your customer acquisition cost, your usage cost as well, right?

The cost of servicing these customers. So that would be number one. The second thing that I would look for to see, hey, are you PLG-viable? It’s something Wes Bush talks a lot about in his book, right? It’s very well-defined there. Do you understand what are the metrics that you have to use to understand where your users are deriving value from using this solution, and how do you get people to experience that value as fast as possible?

Because when they choose to install or to use your product, the sooner you can have them experience that value, the easier it is to get them to then pay and stay, et cetera. So do you understand those value metrics? So I think if you have a founder walking into the door and saying, “Hey, I’m going to have a product-led growth marketing strategy,” you say, “Do you understand your value metrics? Can we see enough people who pay, stay, and tell others that are not costing us an arm and a leg for both acquisition cost and cost to service?”

And then finally, that’s related: when the ARPU is small—let’s say it is a hundred bucks a year or ten a month, $120 a year—that of course does not sustain anything but product. There’s no way you can make the economics work with that type of pricing when you invest in buying clicks or you have to invest in sponsorships and things like that. So if you have that small ARPU, you do need volume, right? And so because now to get to, let’s say, a hundred-million-dollar company, the amount of users you need is going to be vastly different.

So that’s the other thing that I would say: when you have to decide, “Have I achieved product–market fit?” we would typically say ten customers who pay you and stay, right? Or maybe there’s another, older definition of product—like Twitter says we have a thousand paying customers. So for product-led growth, I just think the numbers have to be at such a different scale, right? So you probably need 50,000 users who are paying for you to feel, Hey, I actually have something that I can sustain, right? Or let’s say 10,000, right?

But definitely not a thousand. So you need, let’s say, 10,000 users who have proven to you that they sign up, they pay you, they stay for longer than maybe one or two billing cycles, and ideally, you’ve gotten a lot of users who came from other users telling them about it, right? So the flywheel is going. So that would be my framework to assess whether you have something sustainable. So thank you for answering my initial question, right? Why do founders fall in love with product-led growth? Because I think these are really good reasons and there’s a lot of goodness in being able to do this, but being also very honest with yourself—how close are you to being able to pull this off—is really important.

Brian Graf: Yeah, I think especially at that hundred-dollar price point, that scale makes a lot of sense. And you mentioned the volume aspect of it. I think it’s a huge variable that can be, maybe not misunderstood but underestimated, especially early on in the product-led journey.

The revenue that comes from one whale, right, is the equivalent of a hundred—or a thousand, depending, or even more, product-led customers, right? And I have found that sometimes, particularly when they’re just starting out, product-led growth companies can underestimate the lift that is required to generate that amount of volume and that amount of attention in the market at scale. And one of the other things that’s both—not to say that the enterprise sale is easy by any means, that has its own set of pitfalls—but one of the nice things about it is that you can be really custom with the way that you go to market per account, per prospect, right, and talk specifically to their needs, pain points, et cetera.

But especially as you get into product-led growth, you really need to make sure that you know your market deeply, deeply, because you have to go with a one-to-many go-to-market and you need to both generate really, really high volume but, to your point, keep your unit economics within a threshold where you can get positive ROI. And that can be quite a significant hurdle, especially for an early-stage PLG product.

Stijn Hendrikse: So let me tell you a story. I did Microsoft’s marketing for SMB. I ran global marketing for the SMB segment, which really meant it’s a very indirect model, right? I had teams in every country that were figuring out how do you reach small businesses and midsize companies in Japan, which of course is very different from doing that in Germany or in the US. The smaller these businesses are, the more it is also local, right?

And the more culturally different, and there are local environmental variables—the laws, the regulations, the policies. So that’s where I started to do SMB marketing, and most of my startups that I either ran or started were all focused on SMB. So Acumatica was a little more mid-market, but Infratel, which became Mighty-Call, was purely small business, where we pivoted from enterprise to small business.

And the one thing I learned—then at Terra I also started with small business—the one thing I really learned is that, especially when you talk with VCs, when we talk about venture capital, nobody is confused when they have a little bit of experience in small business that you have to get to those 100,000 users relatively fast. And that is not going to be cheap, right?

So a lot of VCs will actually shy away from small-business go-to-markets because they know it’s going to cost a lot of money to get enough eyeballs and awareness to actually get traction, and there will be probably a couple of winner-take-all scenarios that will either hit the market with a PLG flywheel or they have deep enough pockets to buy a couple of Super Bowl ads and run away with this small-business market segment.

So it’s really a big bet to make. And by the way, I’m now maybe going a little bit out on a limb in connecting product-led growth with small business, or at least small deal size, small ACVs, but that is typically the case. It’s very seldom that we see a $100,000 ACV being a product-led growth type go-to-market. It can be—Microsoft Azure and AWS are.

Brian Graf: I think that there’s absolutely a road to that, and I do want to get to that type of scenario in a bit, but you bring up a really good point that I do think some companies can underestimate, and that is: product-led growth can be misconstrued as a capital-efficient way to go to market because you don’t need to hire a sales team.

That’s the main big variable, but honestly, I’d be interested in your thoughts: I feel like, from my perspective, when you actually run the numbers, I don’t think you actually end up saving money. I think you need to reinvest that money into marketing, into product, into customer success to make the motion successful.

And then to your point, it’s almost easier in my mind to go to market for the first time with an enterprise solution, right, because you need one really solid salesperson, you need to get a customer that will build the product with you, which works well in enterprise if you find the right one because they want a highly custom solution, but versus product-led growth, you really need to invest all that capital early and make sure that you build out the product in a really strong way and build a huge marketing push before you can really expect significant revenue. I’d be interested to see if you think that’s accurate or not.

Stijn Hendrikse: That’s a great point. I think what happens is that when you have a small-business or small-ACV type of offering, that maybe then also means you sell to smaller companies—but it doesn’t have to be—but because it’s so hard, because VCs (but also you yourself, your board) will tell you, you need high volume, you need to get to 100,000 users or paying customers, then product-led growth is just a nice alternative to the reality of: it’s going to be very hard to get 100,000 customers by buying ads or buying some form of marketing-led growth go-to-market.

So product-led growth becomes this very tempting alternative that, if I just make my product a little easier to use, a little easier to find where people get the value, a little easier for people to share it with others, then I might be able to skip this other much bigger problem of how do I get enough awareness, enough clicks, and enough engagement with this huge volume.

And that’s absolutely the right way to think about it, but just don’t mistake that for it being easy, right? It would be too good to be true, and I think that’s what—you initially started the conversation talking about founders falling in love with PLG. It might be partly the “too good to be true” part, right?

If you are very real with yourself about how much effort will go in and that it is more of a one-winner-takes-all bet—PLG will not have five or six dominant players in the same category; it will probably have only one or two, maybe three—where in the marketing-led growth category there’s probably room for five or ten players to compete on a relatively even playing field, until, of course, the ads become too expensive, then you have to figure out how to get the sales record.

Brian Graf:I think that also brings up—this idea is from Antoine Vial, one of our CMOs at Kalungi and also leads the CMO team—and he brought up to me that product-led growth, for a product-led growth to be successful, it has to be led by the product, which is, if you break it down, a fairly obvious statement, but also really illuminating of the issue.

I think that founders need to be very honest with themselves and take a really impartial look at their product and the value that it brings to the market and how it stacks up against the competition. If you have a truly differentiated product, like say a Canva or a Slack or a Loom, those will work because you’re reducing friction for people to see the product, they can experience the value firsthand very easily, and then it has a very inherent and easy viral loop like sharing, so they can share it with others and so it spreads.

But if you have a product that isn’t clearly differentiated, clearly adds significantly more value than the competition and you try a product-led motion, you can’t expect fireworks because you’re reducing friction for a product that isn’t going to wow people. It won’t have—the product-led growth depends on that virality and that sharing aspect, and it won’t catch if you don’t have that really, really strong product.

I wanted to—on this note, you brought up bringing sales into the product-led growth piece, and it would be interesting to get your thoughts on this, but there is a really nice hybrid approach of product-led growth with sales, right, and using PLG as kind of the land in a land-and-expand strategy. Do you think that there’s a time that’s too early to incorporate sales into a PLG motion, or do you think that’s something that you would recommend starting sooner rather than later if you’re early-stage in your product-led growth journey?

Stijn Hendrikse: It’s a good point. I think a lot of marketing-led go-to-markets expire when the markets they are being used in get mature, right?

The product category matures, and there’s just too much competition; prices of ads go up, it’s harder to keep your organic search positions; it just becomes very expensive. And there’s only two alternatives: you figure out you’re the PLG candidate for the category, you run away with whatever the lower-friction version of going to market is for that market that you’re in—again, that’s a winner-take-all; it’s probably not going to be multiple—or sales-led growth.

So your point, and maybe there’s even an opportunity to combine them, is absolutely relevant for some companies, right? If you have a business where you’re selling something that is absolutely PLG-viable—selling Copilot licenses to small businesses—you’re not necessarily going to have a very big conflict while also selling that to enterprises where there’s a very expensive sales motion and you sell hundreds of thousands worth of product, but you just have to be careful that you don’t mistake one for the other.

They’re totally different go-to-markets; they require different investments, and they require different price levels. You cannot sell it for the same price. But I think they’re very compatible, whereas marketing-led growth is more likely to conflict with either sales-led growth or product-led growth.

Brian Graf: I think especially as the market matures, economics get harder and harder, particularly in marketing-led growth, and it does seem like you get forced up or down just as the competition increases. I do think there’s an interesting—on the product-led growth side, I have seen a couple, and I know there are many more than that, but go-to-market styles where PLG is used to get in the door and then sales is almost more of a hybrid customer-success/sales role, more for retention and upsell/cross-sell.

Something like Tableau came to mind because I remember using it early in my career, and they used a land-and-expand motion on me, and that worked pretty well. Using PLG to get in the door in a few points within a larger organization and then using coordinated sales efforts internally to sell within the organization, I could see it working well, but to your point, the contract size would have to be significantly higher to justify using a go-to-market approach like that.

Switching slightly: for a very early-stage company, using sales alongside PLG—you’d have to think about your unit economics, obviously—but that approach could help you get more feedback and be more agile with your value propositions and the way that you pitch to customers as you’re still figuring it out.

That could also easily be taken up by the product team or the marketing team if you have strong discipline in either one, which you would need. I just wanted to make sure that wasn’t left out of the conversation entirely. How do you think investors should look at companies that are looking for a round of investment under the product-led banner? What do you think investors should be wary of? What indicators should they look for—a really strong promise of growth? How would you advise them on this?

Stijn Hendrikse: One thing I think that’s tricky is that when you give growth capital to an early-stage company, or even a company that has been scaling already a little bit, it’s very hard for that money not to go to things that actually will add friction.

Imagine you have a successful PLG motion for a certain niche, you own it, you have really low friction for both sign-up of new clients and adoption, driving usage, and for them to refer others. So now you get a bunch of money, right?

Where does that money typically go? “Okay, I want to get more customers, I want to service a larger market.” It’s very tempting for that money to go to market segments where you have not proven a PLG motion, and now you may be spending money on buying ads, you may be spending money on adding people to your team to help with onboarding, to build customer success capability to drive renewals.

Now you’re basically turning your PLG model into a more costly go-to-market model. So when you’re an investor and you want to invest in a PLG company, be very thoughtful in how you ask questions to the CEO and the executive team: how do you intend to deploy that capital? If it goes into product, to more capabilities to attract more types of users, to allow users to consume more—great. That will just increase the PLG flywheel.

But if the money ends up going to either marketing or customer success investments, then you’re actually using money for them to turn their PLG model into a non-PLG model.

Brian Graf: Yeah, I think that makes a lot of sense.

Really stress-testing the product-market fit that the product has is critical, right? And then if it does have true product-market fit, it’s almost—what you said kind of brings me back to one of your sayings that I like to use: be strategically patient and tactically impatient.

I think it’s easy or tempting for the CEO and the operating team to say, “We got all this money, so we need to come up with a new strategy to execute all that capital,” and so we’re going to go after new markets and pivot and things like that.

But it’s almost—to your point—there is absolutely the most efficient use of the capital unless you have fully exhausted your TAM, which is rare. The most efficient use of the capital is to really double down on that product-market fit and push on the flywheel that’s already working.

And of course once you start to really saturate the market, then yes, look into market expansion and diversification. But until then, I’d really…