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What Are 'Critical Assumptions'?

Critical Assumptions are facts or characteristics that must be true in the real world for your offering to be successful.

Every business has Critical Assumptions that will define if it can survive or not.

The more accurately you can identify and test these assumptions, the less risk you'll be facing.

Josh Kaufman Explains 'Critical Assumptions'

Imagine that you're interested in opening a yoga studio in Los Angeles. The market opportunity looks good: you believe that you've identified an under-served neighborhood with significant demand and enough discretionary income to pay a $100+ monthly membership fee. You've sketched out what the space would look like, and you have a rough idea of the different styles you'd like to offer and who you'd bring in to teach classes.

You've found a suitable location that you can rent for ~$10,000 per month (if you sign a 12-month lease), and you estimate that you'll need an additional $12,000 per month to pay employee salaries and other monthly operating expenses. You'll also need to spend around $5,000 up-front for equipment: mats, blocks, and a computer to handle membership records.

The commercial real estate agent is putting pressure on you to move quickly, or the location you want may be snatched up by another tenant. Your current life savings are enough to cover the start-up costs and three months of operating expenses. You're excited, but you want to ensure that you're making the right decision before you move forward. Should you sign the lease?

Stories like this are very common: an excited first-time entrepreneur has a dream of owning a restaurant, bar, or bookstore, so they invest their life savings and take on significant debt to open the new business. Sometimes these stories work out well. More often than not, in a few months the new entrepreneur is bankrupt and out of business, wondering how things went so wrong.

Critical Assumptions (CAs) are facts or characteristics that must prove true in the real world for your business or offering to be successful. Every new business or offering has a set of CAs, and if any CA turns out to be false, the idea can be vastly less promising than it seems.

The yoga studio example above has three primary CAs:

1. Individuals in this neighborhood will be willing to commit to pay $100 or more per month for a yoga membership close to their home.
2. The business will be able to attract 220 members paying full price within 3 months.
3. Total monthly revenues will exceed $22,000 for the next twelve months, which is the minimum duration of the lease term.

Let's examine what would happen to the yoga studio if these CAs turn out to be false:

1. Initial interest is high, but most of the people who tour the new studio balk at paying $100 per month, saying that they'd rather travel drive a few miles and pay $75. The studio lowers prices to $75, which means 300 members are now required to keep the studio afloat. After lowering prices, membership reaches the 220-member mark as planned, but it's not enough to keep the studio open.
2. The studio doesn't attract enough members to pay the bills because yoga enthusiasts in the neighborhood are already locked into 12-month membership contracts with a studio a few miles away. The studio runs out of money quickly and closes.
3. A very nice competing studio opens up in the same neighborhood around the same time. After three months, the studio only has half of the members it needs to sustain itself. With nine more months on the lease, the financial outlook is bleak.

Every business or offering has a set of CAs that will make or break its continued existence. The more accurately you can identify these assumptions in advance and actually test whether or not they're true, the less risk you'll be taking and the more confidence you'll have in the wisdom of your decisions.

Questions About 'Critical Assumptions'

• What are the assumptions behind your idea that, if you found out they weren't true, would sink your idea?
• What has to be true in order for you to succeed?

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"It is better to be roughly right than precisely wrong."

John Maynard Keynes, economist

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