A detailed look at why SaaS business are so different from traditional software companies, and why traditional ways of looking at their finances fail to understand the business. Provides an alternative set of metrics that show the right way to look at a SaaS business.
For more on the SaaS business model and Metrics, see this blog post:
www.forentrepreneurs.com/saas-metrics-2/
13. “The thing that surprises many investors &
boards of directors about the SaaS model is
that, even with perfect execution, an
acceleration of growth will often be
accompanied by a squeeze on profitability and
cash flow.”
Ron Gill, CFO at Netsuite
14. What’s the impact of faster growth?
$(10,000,000)
$(5,000,000)
$-
$5,000,000
$10,000,000
$15,000,000
$20,000,000
$25,000,000
2 more
Customers/Month
5 more
Customers/Month
10 more
Customers/Month
15. What’s the impact of faster growth?
$(10,000,000)
$(5,000,000)
$-
$5,000,000
$10,000,000
$15,000,000
$20,000,000
$25,000,000
2 more
Customers/Month
5 more
Customers/Month
10 more
Customers/Month
Cash Flow Trough
gets deeper
16. “As soon as the product starts to see some
significant uptake, investors expect that the
losses / cash drain should narrow, right?
Instead, this is the perfect time to increase
investment in the business, which will
cause losses to deepen again.”
Ron Gill, CFO at Netsuite
37. Revenue from one group of customers
(cohort) with no upsell/cross-sell
Time
$’s
Upsell revenue
from the same cohort
Negative
Churn
Revenue from a single cohort
38. CRR and DRR
CRR: Customer Retention Rate
DRR: Dollar Retention Rate
Annual Numbers – expressed as a percentage
Look at the year ago cohort
40. Revenue Lost with 2.5% monthly Churn
Renewals
Lost due
to Churn
YEAR 3
$3m $7m
Becomes harder
& harder to
replace this with
new bookings
Renewals
Lost due
to Churn
YEAR 6
$30m $70m
44. Customer Success
• Not just the responsibility of Customer Success department
• Product
• Design
• Quality (response time, bugs and downtime)
• Sales
• Don’t over sell the product
• Don’t sell the product to the wrong customer types
• Marketing
• Marketing to customers, not just prospects
• But good to have single executive who has this as their top
priority
47. CHI – Customer Happiness Index
• Find a way to predict the likelihood of churn
• Most common and simple technique: Usage
• More sophisticated:
• Score usage of specific features higher than others
• E.g.
• Commenting on someone else’s posts on Facebook = Low
• Creating your own post = High
48. High Usage does not correlate with High Value
Usage
Business Value
Optimal
Worst
49. My Suggestion
• Consider a CHI score based on Business Value achieved,
and find a way to measure automatically in the app
• Example:
• How many new leads did you bring the customer?
• How much did you improve the lead to customer conversion rate?
57. Always ask to see Bookings over Time
Entrepreneurs always happy to show their MRR over time
But this doesn’t tell whether their bookings are growing
$(15.0)
$(10.0)
$(5.0)
$-
$5.0
$10.0
$15.0
$20.0
$25.0
$30.0
$35.0
Jan Feb Mar Apr May Jun
MRR Bookings
New MRR
Net New MRR
Expansion MRR
Churned MRR
59. How Revenue Builds for a SaaS Salesperson
(assumingnorampuptime)
$0
$5,000
$10,000
$15,000
$20,000
$25,000
$30,000
$35,000
$40,000
$45,000
Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
With Churn of 2.5%
Jan Custs Feb Custs Mar Custs Apr Custs
May Custs Jun Custs Jul Custs Aug Custs
Sep Custs Oct Custs Nov Custs Dec Custs
$0
$5,000
$10,000
$15,000
$20,000
$25,000
$30,000
$35,000
$40,000
$45,000
Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
With no Churn
Jan Custs Feb Custs Mar Custs Apr Custs
May Custs Jun Custs Jul Custs Aug Custs
Sep Custs Oct Custs Nov Custs Dec Custs
60. The Cash Flow Gap
$(25,000)
$(20,000)
$(15,000)
$(10,000)
$(5,000)
$-
$5,000
$10,000
$15,000
$20,000
$25,000
Month1
Month2
Month3
Month4
Month5
Month6
Month7
Month8
Month9
Month10
Month11
Month12
Month13
Month14
Month15
Month16
Month17
Month18
Month19
Month20
Month21
Month22
Month23
Month24
Net profit - New Sales Hire
$-
$5,000
$10,000
$15,000
$20,000
$25,000
$30,000
Month
1
Month
2
Month
3
Month
4
Month
5
Month
6
Month
7
Month
8
Month
9
Month
10
Month
11
Month
12
MRR vs Expenses – New Sales
Hire
MRR
Expenses
Cash
Gap
(Slightly later breakeven point, because Gross Profit is less than MRR)
11 months to
breakeven
61. The SaaS Cash Flow Trough
$(200,000)
$(100,000)
$-
$100,000
$200,000
$300,000
$400,000
Cumulative Net Profit - New Sales Hire
23 Months to
get back the
investment
Total amount
invested:
$110k
But a great
return on
investment
62. Search for Product/Market Fit
Scaling the Business
Search for Repeatable & Scalable
Sales Model
Conserve Cash Invest Aggressively
63. What happens at the company level when
we add 2 new sales hires every month?
$(250,000)
$(200,000)
$(150,000)
$(100,000)
$(50,000)
$-
$50,000
$100,000
$150,000
Month1
Month2
Month3
Month4
Month5
Month6
Month7
Month8
Month9
Month10
Month11
Month12
Month13
Month14
Month15
Month16
Month17
Month18
Month19
Month20
Month21
Month22
Month23
Month24
Net profit
$(3,000,000)
$(2,000,000)
$(1,000,000)
$-
$1,000,000
$2,000,000
$3,000,000
$4,000,000
Cumulative Net Profit
32 Months to
get back the
investment
Total amount
invested:
$2.6m
First profitable
month: 21
Worst loss:
$190k in
month 11
64. Comparison: hiring one versus two sales
people per month
$(400,000)
$(200,000)
$-
$200,000
$400,000
$600,000
$800,000
Month1
Month3
Month5
Month7
Month9
Month11
Month13
Month15
Month17
Month19
Month21
Month23
Month25
Month27
Month29
Month31
Month33
Month35
Net Profit
1 sales hire a month 2 sales hires a month
$(3,000,000)
$(2,000,000)
$(1,000,000)
$-
$1,000,000
$2,000,000
$3,000,000
$4,000,000
Month1
Month3
Month5
Month7
Month9
Month11
Month13
Month15
Month17
Month19
Month21
Month23
Month25
Month27
Month29
Month31
Month33
Month35
Cumulative Net Profit
1 sales hire a month 2 sales hires a month
The time to
breakeven remains
the same
The cash flow
trough is halved
Not adequately shown, but
the acceleration after
breakeven is also halved
67. What happens if we collect a year’s
payment in advance?
$(5,000,000)
$-
$5,000,000
$10,000,000
$15,000,000
$20,000,000
$25,000,000
$30,000,000
$35,000,000
$40,000,000
Month1
Month3
Month5
Month7
Month9
Month11
Month13
Month15
Month17
Month19
Month21
Month23
Month25
Month27
Month29
Month31
Month33
Month35
Cumulative Cashflow
comparision - monthly
payments vs year in
advance
Cumulative Net Profit
Cumulative Net Cash Flows
$(500,000)
$-
$500,000
$1,000,000
$1,500,000
$2,000,000
$2,500,000
Cashflow comparison -
monthly payments vs
year in advance
Net profit Net Cash Flows
Eliminates the
cash flow trough,
and means $35m
more cash in this
scenario
71. A rough estimate of CAC versus
Sales Complexity
Freemium
No Touch
Self-
Service
Light Touch
Inside
Sales
High Touch
Inside
Sales
Field Sales
Field Sales
with SE’s
$0-
$40
$30 –
$200
$300 -
$800
$3,000 -
$8,000
$25,000 –
$75,000
$75,000 –
$200,000
Rough Estimates of Cost of Customer Acquisition (CAC)
72. The relationship is roughly exponential
Clearly adding
Human Touch
dramatically
increases costs
77. To make it comparable with a traditional software business,
eliminate New Customer Sales, as those benefit the future
Revenue
100%
CoGS
24%
Sales &
Marketing
51%
R&D
15%
G&A
13%
Profit
20%
Expansion
&
Retention
25%
New
Customer
Sales
26%
CoGS
24%
R&D
15%
G&A
13%
Loss (6%)
Expansion
&
Retention
25%
78. Profit
20%
Expansion
&
Retention
25%
CoGS
24%
R&D
15%
G&A
13%
Now look at DRR (Dollar Retention Rate):
• Example DRR = 123% (Zendesk’s number)
• The existing customer base with no additional revenue
is growing at 23% annually
• So you have a business growing 23% year-on-year,
generating 20% Profit
80. Summary
• Expect to see the P&L / Cash Flow trough
• Use Unit Economics to evaluate the business
• Look for negative churn, (where DRR > 100%)
• Use SaaS metrics, not traditional metrics
81. The 3 Keys to SaaS Success
1 Acquisition
2 Retention
3 Monetization
82. • Visit my blog at www.forEntrepreneurs.com
For more information…
84. The Magic Number
• In general, I don’t like the Magic Number
• Hard to explain and understand
• BUT – a public company may not give:
• LTV:CAC ratio
• Months to recover CAC
• So use Magic Number to calculate something roughly equivalent
• First developed by the Josh James, CEO of Omniture
• The key insight - if your Magic Number is:
• Above 0.75 – step on the gas
• Below 0.75 – step back and look at your business
• Below 0.5 – business probably not ready to expand
85. The Formula for Magic Number
• QRR[X] = Quarterly Revenue in the current quarter
• QRR[X-1] = Quarterly Revenue in the prior quarter
• Sales & Marketing Expense [X-1] = Sales & Marketing expense in the prior quarter
𝑀𝑎𝑔𝑖𝑐 𝑁𝑢𝑚𝑏𝑒𝑟 =
(𝑄𝑅𝑒𝑣 𝑋 − 𝑄𝑅𝑒𝑣 𝑋 − 1 ) ∗ 4
𝑆𝑎𝑙𝑒𝑠 & 𝑀𝑎𝑟𝑘𝑒𝑡𝑖𝑛𝑔 𝐸𝑥𝑝𝑒𝑛𝑠𝑒 [𝑋 − 1]
𝑀𝑎𝑔𝑖𝑐 𝑁𝑢𝑚𝑏𝑒𝑟 =
𝐼𝑛𝑐𝑟𝑒𝑎𝑠𝑒 𝑖𝑛 𝑄𝑢𝑎𝑟𝑡𝑒𝑟𝑙𝑦 𝑅𝑒𝑐𝑢𝑟𝑟𝑖𝑛𝑔 𝑅𝑒𝑣𝑒𝑛𝑢𝑒 ∗ 4
𝑃𝑟𝑖𝑜𝑟 𝑄𝑢𝑎𝑟𝑡𝑒𝑟′ 𝑠 𝑆𝑎𝑙𝑒𝑠 & 𝑀𝑎𝑟𝑘𝑒𝑡𝑖𝑛𝑔 𝐸𝑥𝑝𝑒𝑛𝑠𝑒𝑠
Expressed in a slightly more readable form:
86. Example Magic Number calculation
Q1 Q2 Q3
Revenue $1,000,000 $1,200,000 $1,500,000
Sales & Marketing Expense $800,000 $900,000
Magic Number 1.0 1.33