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How to Measure Product-Market Fit

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What is Product-Market Fit? It is a simple question that is (not) difficult to answer.

Getting to product-market fit is the only thing that matters and it is not possible to build a company if you have not found your product-market fit.

But what is it? And how do you know you have reached product/market fit?

Unfortunately, it is not a rare case when the term product-market fit is used incorrectly and it is often stated that product-market fit is different for every company and there is no clear explanation on how to measure product-market fit.

The truth is that product-market fit is an absolutely clear and measurable entity, and it is not different for every company. Well, products and markets can be unique, absolutely. But the process of getting to product-market fit is not unique at all.

Let’s dive in.

PRODUCT. MARKET. What’s in between?

What is Product-Market Fit?

If we say that product is interpreted as a combination of the value proposition, features, and UX, and the market is defined as users and their needs* (which is hard to argue with), the fit between them lies in achieving the following:

Achieving Product-Market Fit

If these 5 statements are true, it means you are in the right market with a product that can serve this market.

It is important to understand that those are not five ordered steps, since it is almost impossible to argue with the equal importance of each of them. If we remove at least one of the product or market-related variables, the fit between product and market might not happen.

Fit = (statement 1 = “true”) + (statement 2 = “true”) + (statement 3 = “true”) + (statement 4 = “true”) + (statement 5 = “true”)

Question: What to measure?

Although this formula is very logical and difficult to question, it only shows what is true when product-market fit is already found; and it does not help you understand which metrics have to be measured to monitor whether product-market fit is happening.

You can constantly experiment with your value prop, validate hypotheses trying to understand which features are important and which are not, proudly announce the winners of multiple A/B tests, and debate on the criteria of the MVP. But, not measuring the impact on activation, engagement, retention, and customer loyalty, leads to building a product for the sake of building it. While the ultimate goal of any company should be to build the product a lot of customers want.

Answer: Always have a customer on the radar

Achieving product-market fit means you’ve built the product a lot of customers want. To understand when this happens, you have to know how healthy your activation, engagement, retention and customer loyalty indicators are.

4 key areas for measuring product health:

  1. Activation — are new users becoming active users?
  2. Engagement — how engaged are your active users?
  3. Retention — are you giving your users enough reason to come back
  4. Loyalty — are your users happy enough to become your promoters?

What is more important? Retention? Loyalty? Activation? Or Loyalty? What should you focus on first? Well, building a product a lot of customers want is not a single variable problem. So, you have to pay attention to all of them?

How? Focus on a customer. A persona whose life you are trying to improve, and who actually hires your product to do the job.

In short, have a customer on the radar.

Product-Market Fit Radar

Product-Market Fit Radar

The Product-Market Fit Radar is the framework that makes product-market fit measurable and tangible, and thus easier to manage and discuss.

The Product-Market Fit Radar has 4 dimensions that collectively indicate whether the company found product-market fit.

  1. With Activation, you check whether new users have experienced the value of your product.
  2. With Engagement, you measure the level of a user’s commitment to your product and find out whether they find value in your product.
  3. With Retention, you can understand whether you are giving your users enough reason to come back
  4. With Loyalty, — you know whether you have enough loyal and enthusiastic customers, who recommend your product to other potential buyers.

Having these 4 on the radar is a good way to measure the health of the product.

1. Activation

Activation is a moment when a new user takes a specific action to get value out of a product. In Instagram’s case, for example, that specific action might be posting 3 photos and following 4 other accounts. For other types of products, activation could be defined as signing up, making the first transaction, viewing three videos within a specified time period, etc.

Activation metric answers the question “What percentage of new users have experienced the value of your product?”

Percentage of new users who have experienced your product’s value = # of specific actions divided by # of new users.

For example: 100 completed first purchases / 1000 new users = 10% of new users who got the value of Ecommerce product X.

How to identify activation metric?

It is your job to define what should be a key milestone in driving long-term product usage. Do not try to guess. A good way to start is to analyze user behavior to find out what return users consistently do in your product.

What is a positive activation rate indicator?

You can start with 30% as a benchmark for activation rate, and then check whether it is the right number.

  • Negative activation rate: <10%
  • Neutral activation rate: <30%
  • Positive activation rate: >30%

User Activation Rate

2. Engagement

Engagement rate helps you measure the level of the user’s commitment to your product and find out whether they find value in your product.

Engagement rate answers the question “How engaged are your active users?”.

To measure the depth of engagement per user, you have to divide the # of key actions completed by users (i.e. transactions, songs listened to, movies watched, reports created, etc) by active users count (i.e. WAU — weekly active users, MAU — monthly active users).

For example: 10 000 000 songs listened to / 100 000 000 MAU = 10% Engagement rate for the music streaming service.

What is a positive engagement indicator?

You can start with 50% as a benchmark for activation rate, and then set the goals for improvement.

  • Negative engagement rate: <20%
  • Neutral engagement rate: <50%
  • Positive engagement rate: >50%

User Engagement Rate

3. Retention

Retention rate is the metric that helps you understand whether you are giving your users enough reason to come back, and whether you are bringing the right users.

Retention rate answers the question: “How many of your active users return to your product over time?”

To measure your product’s retention you have to use a retention curve.

Retention Curve

Let’s say this is a retention curve for a Product A, and we’re analyzing users who started using Product A for the first time on January 1 through January 31.

This graph shows the weighted average of Nth day retention numbers from cohorts of users acquired within that time period.

According to the retention curve, for example, Day5 retention is 50%. This means out of all the users who first used the product on January 1 (Day 0), 50% came back and were active on January 6 (Day 5). Looks like a huge drop-off, but we can see that the curve stabilizes on Day 15.

We can say that Product A has a product-market for this particular cohort. Yes, retention can indicate whether your product has a product-market fit problem.

Retention Curve

In the graph above, Product A has achieved product-market fit. Its retention stabilizes at 30% active users.

Product B’s retention trends to zero pretty fast. Which means that it does not give its users enough value to return and take the key actions. Product B has not found product-market fit.

Before building a similar graph to measure your product’s retention, make sure you have clearly defined the following:

  1. Key action — action that you want a user to do every time they use your product
  2. Usage interval — frequency (daily, weekly, monthly, etc.) with which you expect people to use your product.

4. Loyalty

The 4-th dimension on the Product-Market Fit Radar is not to check whether your customers have established the habit around your product and you give them enough reasons to come back. This one is aimed to measure how loyal your customers are.

Why is it important to measure customer loyalty? Mainly, because a loyal customer is the one who: a) is less likely to look around for an alternative solution; b) is more likely to recommend your product to others.

There are multiple ways to measure customer loyalty. Some companies associate it with the $-related metrics like CLV (customer lifetime value) or repurchasing levels and multiple product purchases. Others prefer to measure CLI (customer loyalty index), which is derived from customer surveys. When thinking of customer loyalty and trying to understand whether you’ve built a product a lot of customers want, NPS (net promoter score) is the right metric to apply.

NPS is measured with a single question survey and reported with a number from -100 to +100.

“How likely is it that you would recommend [Product X] to a friend or colleague?”

Net Promoter Score

Respondents give a rating between 0 (not at all likely) and 10 (extremely likely) and, depending on their response, they fall into one of three categories:

  • Promoters (9 — 10) — loyal and enthusiastic customers, who recommend your product to other potential buyers.
  • Passives (7 or 8) — satisfied customers, but not happy enough to be considered promoters.
  • Detractors (0 to 6) — unhappy customers who are unlikely to repurchase your product and can damage the product’s reputation with negative word of mouth.

To determine the NPS you have to subtract the percentage of detractors from the percentage promoters. NPS can range from -100 to 100.

What is a positive NPS?

It varies by industry. For the software/apps industry, for example, 30 is the average score.

You can compare your NPS against other companies to set your goals, but the main goal is to constantly experiment to build the experience that creates promoters — build the product a lot of customers want.

NPS: Net Promoter Score

So, Product-Market Fit is happening when all of these 4 statements are true:

Product - Market Fit Attributes

Product-Market Fit = Activation + Engagement + Retention + Loyalty

Achieving product-market fit means you’ve built a product a lot of customers want. A lot cannot be true when at least one of those 4 is false.

The Product-Market Fit Radar makes them possible to measure, and thus easier to manage and discuss with your teams.

Why these 4 metrics? Why activation, engagement, retention and customer loyalty? Why not others?

  1. None of them is a vanity metric.
  2. They are about a customer.
  3. They are about the value of your product.
  4. They are actionable.
  5. They are measurable.

 

Next Step: Take the Assessment and see if your company is achieving product-market fit.