Are You Default Alive or Default Dead?
The one question every entrepreneur needs to be asking.
Are you default alive or default dead?
It was a question running through my mind over and over again. As I sat on a Zoom listening to partners at several major VC firms discuss the state of capital during these unprecedented times - many of whom were suggesting that founders switch their mindset regarding runway and burn rate from months to years - Default Alive and Default Dead were the phrases dancing through my head.
As someone that once realized they were Default Dead after it was too late, I know all too well that this concept is not nearly as widely known or adopted as it should be. But as entrepreneurs everywhere face challenges the likes of which they have never seen, now more than ever they need to start each morning by asking themselves a simple question…
Is my business Default Alive or Default Dead?
Dead on Arrival
The idea for Default Alive v. Default Dead comes from Paul Graham, legendary entrepreneur, investor, writer, and founder of the prestigious startup incubator Y Combinator.
As Graham explains in his 2015 essay, the first question he asks of almost every startup founder he meets is simple, “Are you Default Alive or Default Dead?” Specifically, Graham wants to know – based on current expenses, growth rate, and cash on hand – if the business is on the right trajectory to reach profitability before running out of money.
If yes, then that business is Default Alive. If no, they are Default Dead.
There are two reasons why Graham is so interested in the Default Alive/Default Dead question. One, for founders that know the answer to the question (only about half ever do), it’s a clear indication that they take monitoring progress seriously, which is vital for success. And two, the subsequent conversation Graham has with said founder changes dramatically based on whether they are Default Alive or Default Dead.
With the former, they can talk about new ideas and growth strategies. With the latter, the conversation immediately turns to how that business can avoid certain death.
Calculating Life and Death
To calculate whether your business is Default Alive or Default Dead, you need four metrics:
· Current Expenses
· Current Revenue
· Current Growth Rate
· Cash on Hand
Let’s say your business currently makes $100 per week in revenue, is growing at 5% per week, and has $500 in fixed weekly expenses. At this rate, it will take you 34 weeks to reach profitability, with Week 34 bringing in approximately $500.34 in revenue, just above your $500 in weekly expenses.
Now, this is where cash on hand is so important. During these 34 weeks to reach profitability, you’ll spend $17,000 on fixed expenses, while only making $8,506 in revenue. This leaves a deficit of $8,494.
Meaning that at your current rate, if you have less than $8,494 in the bank, you’ll run out of cash before reaching profitability. Your business is Default Dead.
Conversely, if your business has $8,494 or more left in the bank, you will cross the profitability mark before running out of money. You are Default Alive.
Now, for those that aren’t big fans of math or spreadsheets, Trevor Blackwell has created this easy-to-use calculator to help you figure out just how much cash on hand you need to be considered Default Alive or Default Dead.
Why Knowing Your Vitals is So Important
“What gets measured gets managed.” – Peter Drucker
The consensus across nearly every industry right now is that things are going to get more difficult. Accessing capital will be more difficult. Making sales will be more difficult. Building a supply chain will be more difficult. When the economy is disrupted on a truly global scale, it means that everyone will pay the price in one area or another.
This is why it’s more important than ever to understand if you’re Default Alive or Default Dead. Because when the stakes are high, the slightest shift in one vital metric or another could ultimately mean the difference between life or death for your startup.
For example, let’s say two similar businesses both have roughly $10,000 in monthly expenses, $2,500 in monthly revenue, and $70,000 cash on hand. The only difference is their current growth rate: one is growing at 10%, and the other at 9%.
If you run the numbers through the nifty calculator, you’ll see that the first business will reach profitability in 1.2 years, and will burn $68k of its cash on hand to get there. It’s tight, but this business is Default Alive.
Business number two? It will reach profitability in 1.3 years, and will need $75k to sustain itself until then. With only $70k cash on hand, this business won’t make it…it’s Default Dead.
One business alive. One business dead. All because of a measly 1%.
And if your business is not keeping an eye on that 1%, you won’t even realize that death is around the corner until it too late.
Staying Alive During Uncertain Times
With the current state of the world, there is no doubt that your business vitals will be changing frequently. That’s ok, and quite honestly, expected. But what’s not ok is using this frequent change as an excuse to not keep track of your metrics.
The only way to navigate the long road ahead is to keep an eye on the map before you miss your turn. And the best way to accomplish this is by starting each day with a simple question:
Am I Default Alive or Default Dead?
