Product/market fit is undoubtedly crucial to building a successful business. Without achieving product/market fit, an enterprise will get stuck trying to sell a product that nobody wants or needs, spending increasingly large amounts of money to market the product, and convert leads only to sell their product to customers that quickly churn and leave negative feedback about their experience. However, most startup founders become so fixated on the idea of finding product/market fit that they forget about other things that are necessary to create a solid business foundation. One of these is product/channel fit, something many founders erroneously disregard or fail to dedicate enough attention to. Below, I will discuss what product/channel fit is, why it often matters more than product/market fit, and how you can achieve it.
Product/Channel Fit – Why Is It Important?
To achieve product/channel fit, you need to optimise your product and adjust its features to fit a particular distribution channel which you can use to sell your product on favourable terms. Naturally, a company will spend a fair amount of time finding a suitable distribution channel at the beginning of its lifecycle. However, achieving product/channel fit at the early stages of your company’s existence doesn’t mean that your work in this regard is done.
In reality, customer preferences, channels, market characteristics, and your business needs are constantly shifting. For example, the channel you’re currently using may stop being effective at attracting your key target customer, forcing you to adapt and switch to a new channel, or you may need to add other distribution channels to attract a new customer base and speed up your business growth. Your company may also shift to selling new products that don’t fit your old channels.
All of these possibilities mean that you need to constantly analyse the information available to you and optimise your product/channel fit accordingly. A company that fails to innovate and adapt to constantly changing conditions is doomed to fail.
Generating Product/Channel Fit
Before you can start generating product/channel fit you need to understand what your target market is, who your potential customers are, what problems they have, and how you can help them solve these problems. Once you know who your key target customers are, you can start thinking about the channels you can use to reach them.
One important caveat to keep in mind is that you should create cross-functional teams made up of sales, marketing, finance, product, customer success, and tech specialists to evaluate distribution channels. This will help ensure that the channels you choose are suitable from all business perspectives.
The first step to achieving product/channel fit is exploring various potential distribution channels. It’s important not to rush to disregard channels that seem unlikely to yield successful results. Instead, brainstorm as many channels as possible and then prioritise the ones that can be used to reach your key target customers.
Choosing Channels to Prioritise
When evaluating and prioritising channels, it’s crucial to remember that you should select channels that fit your product or those that could potentially suit your product if you made some changes to it. Since you don’t have any control over distribution channels, you can’t change them to fit your products, and you must ensure that your product suits the channel instead.
The next step is to find out as much information as possible about each prospective channel. You can research them independently, discuss potential channels with target customers, owners or representatives of channels, their partners, other founders, etc. You should pay extra attention to the channels your key target customers use, where they expect to be targeted, and what they expect from interactions with your sales team. This will help you understand whether the customers your target expect to talk to your sales staff in person before they make a purchase. Keep in mind that customers choose some distribution channels precisely because they can make an order without interacting with anyone, while other customers will require high-touch acquisition approaches.
If your prospective distribution strategy includes channel partners, you need to put yourself in their shoes and understand how they can benefit from promoting and distributing your products. Keep in mind that the only way channel partners will distribute your products successfully is if they have a personal incentive to do so. Therefore, any agreement should be a win-win situation for you and the other party.
Ultimately, only thinking about what you are getting out of a situation or deal is one of the biggest mistakes a founder can make. Instead, you need to focus on your customers’ success and the benefits channel partners are getting, and this alone will help your company succeed.
Choosing Channels That Can Provide Predictable Growth
If you want to ensure that your business grows quickly and sustainably, you need to choose channels that help you reach that goal. However, you should also keep in mind that it won’t be possible for you to achieve sustainable growth if you initially target a market that’s too small.
But how can you tell which distribution channels can help facilitate predictable and scalable growth? I will explain the answer using an example. Let’s assume that you run a company that provides services for large enterprise customers. Your company’s budget allocates £200,000 per month for marketing and sales. This budget allows you to generate 1000 leads to key target customers. Your team is able to convert 20% of these into marketing qualified leads (MQL), 15% of these turn into sales qualified leads (SQL), and 20% of SQLs become customers. As a result, you’re left with six new customers at the end of the sales funnel.
Here are the calculations you need to do to get to the number of new customers:
1000 Leads * 20% = 200 Marketing Qualified Leads (MQL)
200 Marketing Qualified Leads * 15% = 30 Sales Qualified Leads (SQL)
30 Sales Qualified Leads * 20% = 6 Customers
Once you have these numbers, you should look into your records and see whether the channel you’re evaluating has consistently generated roughly the same number of leads for each £200,000 you’ve spent. If it has, were you able to convert these leads into approximately six paying customers? Again, if these numbers have been consistent in the past, this would give you a conversion rate of 0.6% and a customer acquisition cost of roughly £33,300.
If your lead quantity, conversion rate, and customer acquisition cost have been stable in the past, you can try to predict the future. First, think about whether it’s reasonable to assume that you can continue generating 1,000 leads per month in the foreseeable future. And will you be able to generate even more leads if you increase your marketing budget while keeping the conversion rate stable? How long can you continue doing this?
To answer the last question, you need to go back to your market size calculations. For instance, if you’ve calculated that there are 500,000 key target customers in your current market, you should be able to generate 2,500 leads for 200 months.
At the same time, if you haven’t been able to achieve a stable conversion rate, lead numbers, and customer acquisition cost, you need to try to figure out the reason for this and take steps to make these numbers more stable and predictable.
Keep in mind that the calculations above provide only approximate results, as in reality, you may be able to reconnect with leads that didn’t convert initially and turn them into customers later down the road. In addition, you likely won’t be able to reach all your target customers. You should also remember that conversion rates tend to decrease once a company has been servicing a market for a significant period of time. However, these calculations still allow you to evaluate how predictable and scalable a channel is. Your goal should be to select distribution channels that show the best results in terms of these two factors.
Evaluating Distribution Channels
Once you have a few channels that you’ve selected as your best options, you should thoroughly test them in action. This includes evaluating the number and cost of leads you can generate using each channel, assessing what conversion rate you can achieve, what your customer acquisition costs are, and how the sales funnels of different channels compare to each other. You can also use this information to optimise the performance of these channels.
Product/Market Fit and Product/Channel Fit Go Hand in Hand
The processes of achieving product/market and product/channel fit should be carried out simultaneously, as both may require you to change your product, add new features, hire new people, adapt your processes, and even change the profile of your target customer. If you generate product/market fit before you’ve ironed out product/channel fit, you may find yourself back at square one with both.
Evaluating Product/Channel Fit
So how can you know if you’ve generated product/channel fit? Unfortunately, there is no simple answer to this question, as product/channel fit is not binary. You can have no product/channel fit at all, it can be weak, moderate, very strong, etc. And since product/channel fit is so relative, you need to evaluate many factors and look at the picture as a whole to determine how well your product fits the channel you’ve selected.
To do this, you will need to assess your customer acquisition costs and the expected customer lifetime value for the specific distribution channel. For instance, if you have to spend £20,000 to acquire a customer who is expected to bring in £40,000 over three years, you need to decide whether those numbers are acceptable. As a rule, your goal should be to ensure that the lifetime value of a customer is several times higher than the sum you need to spend to acquire that customer. Plus, you want to minimise the payback period as much as possible.
Generally speaking, if your customer lifetime value is relatively low, you will need to use primarily digital distribution channels that allow you to acquire customers cheaply without having to communicate with them much. At the same time, if the expected customer lifetime value is high, you can afford channels with high customer acquisition costs as long as the payback period is reasonable. These are usually channels that require your team to have a lot of interactions with prospective customers.
Ultimately, the only way you can generate product/channel fit is if your unit economics work and you can acquire customers for a significantly smaller amount of money than the customer lifetime value.
Make Changes to Your Conversion Funnel
Many founders believe that the only way they can make their business successful is to have numerous distribution channels. This notion leads to them chasing new distribution channels while their current conversion funnel remains unoptimised. Below I will show you how you can significantly improve the economics of your company without investing more money into marketing simply by optimising the conversion funnel.
For this calculation, we will use our previous example of a company that has a marketing and sales budget of £200,000 per month, generating 2,000 leads to key target customers. Once again, we will assume that 20% of leads become marketing qualified leads (MQL), 15% of MQLs turn into sales qualified leads (SQL), and at the end, you’re left with six new customers per month after converting 20% of SQLs into paying customers.
If your business can increase the conversion rate by 10% at each stage of the funnel, you can end up with eight new customers per month without increasing your marketing budget. And if you can improve the conversion rate by 20% at each stage, you can gain ten new customers monthly. These simple calculations show how you can significantly increase the number of new customers you convert each month by making small optimizations in your conversion funnel.
Consequently, if you are able to convert more customers without increasing your marketing budget, your customer acquisition costs will decrease. In our original example, we had a customer acquisition cost of £33,300. However, if you improve conversions by 10% and gain eight customers per month, your customer acquisition cost will drop to £25,000. And if the conversion rate at each step of the funnel is improved by 20%, the customer acquisition cost will further decrease to £20,000.
An improved conversion rate also translates into more revenue. For example, let’s assume that each customer brings in an average monthly recurring revenue (MRR) of £1,500. This translates to £9,000 in new monthly recurring revenue or £108,000 annually in the original example. This number is increased to £12,000 monthly/£144,000 annually in the second example and to £15,000 monthly/£180,000 annually in the third example.
If we assume that your average customer lifetime is 36 months, monthly recurring revenue is £1,500, and the contribution margin is 85%, this results in a customer lifetime value of £45,900.
Next, we can calculate the ratio of the customer lifetime value to customer acquisition cost. In the original example, this ratio is 1.38. When the conversion rate is increased by 10%, this ratio increases to 1.84, and when the conversion rate is improved by 20%, the ratio grows to 2.3. Naturally, the higher your CLV to CAC ratio is, the better.
Improvements in the conversion funnel also allow you to shorten your payback period, which means you can reinvest your funds into acquiring new customers faster. This means your business can achieve higher growth and require less outside capital, so you, as the founder, can retain a larger share of the business. The process of optimising the conversion funnel will be different for each company. However, there are some questions you can ask yourself and your teams regarding your current conversion funnels to help identify flaws and issues that can then be eliminated. Here are some examples of these key questions:
- Are we able to attract our key target customers through our marketing efforts?
- Do we eliminate leads to non-key target customers early in the conversion funnel? Doing this will help to reduce costs and boost your conversion rate by giving your sales teams more time to interact with key target customers.
- Does our website have an effective landing page for each key target customer group? A good landing page should load fast, contain relevant information, and provide a great customer experience.
- Do we have relevant content for each customer persona at each touchpoint of the buying process? Relevant and compelling content will help your brand stand out and gain your customers’ trust.
- Do we have an effective lead scoring methodology? A good lead scoring system lets your sales and marketing teams understand which leads to prioritise.
- Do we move leads onto new stages of the conversion funnel on time? Sales teams are usually some of the most expensive resources in a business, so a lead should only be passed on to the sales staff when the buyer is open and ready to discuss the purchase.
- Are all of the company’s teams focused on achieving product/market fit and product/channel fit?
Engaging New Distribution Channels
Successfully optimising and scaling even just one distribution channel is difficult for most businesses. In fact, poor distribution is the number one reason why startups fail. So if you manage to generate product/channel fit in one channel, you are set up for success. At the same time, many founders naturally want to expand their operations by adding new channels. My advice here is not to rush things and be overconfident. After all, you’ve prioritised your current channel over the one you’re currently considering for some reason, and just because you’ve managed to make one channel work doesn’t mean that you can achieve the same success with additional channels.
Of course, this doesn’t mean that you shouldn’t ever evaluate the possibility of branching into new distribution channels. It just means that you need to be careful and avoid investing vast amounts of resources into new channels without properly vetting them first. Ultimately, you will need to continue constantly exploring new distribution channels and adjusting your product/channel fit for as long as your company is in business.
- Product/channel fit is not just a simple goal you can reach once in the lifecycle of your company, it’s something you will need to keep working on constantly as customer preferences and the needs of your business change.
- Product/channel fit is not binary but you can determine how close you are to the goal by evaluating customer acquisition costs and customer lifetime value for clients acquired through each channel.
- Once you’ve found a channel that fits your product best, you need to work on optimising your conversion funnel, as this is an easy way to boost your growth, acquire more customers, and achieve better unit economics.