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How to find product-market fit and sanity check it in 2023

Published on February 27, 2023

Written by Alvin Cahyadi, VP of Investment at AC Ventures

On the heels of the 2021 bull run, nearly the entirety of 2022 was a rude shock for many startups in Southeast Asia. A large batch had raised funds the year prior with confident claims about having already achieved product-market fit.

When the stock market tanked and interest rates soared, private funding suddenly became much harder to find. If your company is seeking a new hit of venture capital in 2023, now is the time to take a good look at product-market fit in a new light.

On a global level, venture spending shrank by 35% to US$445 billion in 2022 from the US$681 billion invested the previous year. Startup founders can’t control interest rates, of course, or other macroeconomic factors that contributed to such a slump. But the financial survival of their own companies should be something achievable, regardless of external conditions.

Metrics like traffic, growth in users, and retention are useful indicators of a tech product that has found product-market fit. Plainly, product-market fit is simple evidence to suggest that there’s a market need for your product and that people are willing to pay for it.

Too often, this can take a back seat during a bull market, when both investors and tech entrepreneurs have a tendency to be over-confident about their ability to monetize in the future. But, as this cycle has shown us, the hammer always drops and it’s important to remember that in the real world, a business needs to turn a profit.

Clocking actual competitors

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There’s a multitude of reasons for startup failure. One of the most common mistakes happens at the very first step when determining product-market fit. Founders may conclude from research and reports that the total addressable market will be large and serviceable while not actually ‘sanity checking’ their assumptions – looking deeper into the numbers and validating that there is an opportunity to serve customers better, or even serve an untapped population

In areas where competition is already strong, one way to gauge whether there is a real opportunity is to examine bigger, publicly traded companies in the same space. After all, they publish their financials for all to see.

Alfamart 2020-2021 financial performance (Indonesian rupiah in millions)

Here we use Alfamart as an example, an Indonesian retail chain with more than 17,000 convenience stores nationwide, arguably with best-in-class operational capability. As shown above, Alfamart generated Rp84.9 trillion (~US$5.67 billion) in revenue with a roughly 20% gross profit margin while incurring Rp14.3 trillion (~US$954 million) in sales and distribution expenses, equivalent to about 17% of its revenue.

To compete directly against an Alfamart, a tech company that sells fast-moving consumer goods should be able to demonstrate a more efficient margin, at least in selling and distribution expenses, by digitizing key parts of the process. Another way might be to look into Alfamart’s reporting and try to understand whether there are pockets of untapped revenue across its 17,000 storefronts.

Founders may believe that their startup can do a better job of matching supply and demand at a lower cost overall, with the capability for a more targeted marketing effort. With this in mind, though, the founder would need to find out whether all this is economically viable with the available infrastructure. This includes the existence of logistics providers that can actually serve the customers. It also implies the ability to handle all forms of payment (cash or digital). More fundamentally, though, it includes whether customers are savvy enough to sail smoothly through the digital user experience.

Stepping back to see if the value is undeniable

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Beyond profitability, business models are also attractive to investors when they create clear and undeniable innovation in an industry. Indonesia-based Aruna, BRIK, and KLAR are three tech platforms doing this in their own highly focused ways. Each one upends the way businesses distribute, or even manufacture, products in their chosen sectors. This results in drastically increased margins. In each case, the value proposition is just so clear, simple, and rooted in traditional business that the sanity check is a neon-lit sign.

Aruna, a supply chain aggregator for the Indonesian fisheries industry, helps to eliminate traditional intermediaries so that fishermen can reach high-paying end customers, such as restaurants and exporters, thereby achieving more income.

Meanwhile, BRIK is a raw material aggregator and construction material producer that enables contractors to procure high-quality construction materials more affordably.

Whether you’re pondering a pivot or a new venture, another key factor to consider is whether you have the right network. KLAR is a company that is already becoming known as the ‘Invisalign of Indonesia.’ But it came to the table with an unfair advantage. The startup leveraged pre-existing relationships with orthodontists and dental materials suppliers, resulting in cost efficiencies and streamlined distribution throughout the archipelago. This was possible because the founder’s family was already a prominent player in Indonesia’s oral care sector.

Where pragmatism meets new tech

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Interestingly, the use of emerging technology like artificial intelligence (AI) and the internet of things (IoT)  to create value seems to happen more often in mature markets such as the US and Europe. A couple of examples of highly successful emerging tech startups include Viz.ai and Claroty, both based in the US.

Viz.ai, an AI-powered healthcare platform, specializes in detecting and coordinating treatment for potentially fatal conditions like aortic disease, pulmonary embolisms, and cerebral aneurysms. In April 2022, the company raised US$251.6 million in series D funding. Meanwhile, Claroty is an industrial cybersecurity platform designed to provide protection for IoT assets in industries like pharmaceuticals, electrical utilities, and manufacturing. After pulling US$400 million in series E funding, the firm acquired Medigate, a healthcare IoT startup in 2022.

The argument for product-market fit in the case of Viz.ai sits in the fact that, globally, 85% of aneurysms are not referred for treatment. The company claims that the majority of aneurysms detected by its tech had not been previously referred for follow-up. Lives and costs are being saved, thus the demonstrated value is undeniable.

A similar story plays out In Claroty’s case, as it addresses the massive greenfield opportunity of securing cyber-physical systems. To get a sense of it, think about protection against foreign hackers hitting a nation’s energy grid or breaking its water levees. This is something government agencies and private companies seek to pay for, hand over fist.

To my way of thinking, true product-market fit in the tech game boils down to three key checkboxes. People need to pay for your product, they need to do so repeatedly and you need to generate positive margins from it. While investors will assess an ‘acceptable’ level of product-market fit differently at each stage of funding, it is imperative for founders to always put their attention toward these three sanity checks.

This story originally appeared on Tech in Asia.

See also: Why early-stage VCs should focus on founders over business models
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