Key Performance Indicators (KPIs) for Software-as-aService (SaaS) Companies – Customer Acquisition Cost Ratio (CAC ratio) Wednesday, April 14, 2010 by Konstantin Valchev During their expansion stage, a lot of SaaS companies find themselves in a stage where the volume of their revenue and customers accounts put them far ahead of the new startup companies, but their financial infrastructure is far from being well established for successful scaling up and is far from being aligned with the company exit strategy. In previous blog posts I discussed Churn Rate, Rate, Monthly Recurring Revenue (MRR), (MRR) , Committed Monthly Recurring Revenue (CMRR) , and Cash for the SaaS companies. Today’s KPI is Customer Acquisition Cost Ratio Ra tio (CAC ratio). This ratio is extremely important because it indicates how long it takes for new customer accounts to pay back the initial investment used to capture them. Consequently, this ratio should be used by the SaaS companies’ man agement teams to determine whether they can afford to boost the S&M spending or whether they should cut them back. To calculate the CAC ratio a company needs to take the gross margin of the annualized new revenue that it records during a given quarter, and divide it by the sales and marketing cost form the previous quarter less the account management fees. The rationale behind this calculation is that the new revenue brought by the sales and marketing spend is realized about 3 months later (due to the customer ramp up period). Also, the account management costs should not be included as they relate to the renewal and up-sell revenue rather than the new customer revenue. The formula is:
Where the difference between CMMR and New CMRR is that the latter represents only the new recurring revenue that is recorded during the given quarter and disregards the expected churn. The CAC ratio was introduced by Besseme r Venture Partners in its Winter’10 release of the Top 10 laws of cloud computing and SaaS. However, I noticed that the formula they provide is contradicting to the explanation that supplements it. I hope that this blog post clarifies the CAC ratio for you
Key Performance Indicators (KPIs) for Software-as-aService (SaaS) Companies - CHURN RATE Monday, March 15, 2010 by Konstantin Valchev During their expansion stage, a lot of SaaS companies find themselves in the position where the volume of their revenue and customers accounts put them far ahead of the new startup companies, but their financial infrastructure is far from being well established for successful scaling up and is far from being aligned with the company exit strategy. The Software-as-a-Service business model is so fundamentally different from the traditional Software model that using the GAAP audited financial statements will very often give us very little and even very misleading information for the current state of the business. In a series of blogs I will touch on some of the most important KPIs and KPI benchmarks for the companies in the SaaS industry. These KPIs will provide accurate evaluation of where the business is and should be used to guide and support the decisions of the companies’ management teams. Today’s phrase is CHURN RATE! A research by Bessemer Venture Partners suggested that the top performing SaaS companies typically achieve annual renewals on a customer count basis above 90%. It may seem obvious that a company needs to carefully follow the number of customers that are leaving, however obvious does not make it a must-do practice. Furthermore, just tracking the total number of customers that churned over time will be of little use, since different customer cohorts have different customer experience and usually tend to use/pay for different amount of service. Therefore it is extremely important for SaaS executives to track the CHURN RATE on CUSTOMER COHOR BASIS. By tracking the churn a company can easily calculate the Average Life of a Customer cohort. For example, if your January customer cohort has shrunk by 20% by February, the average life of that cohort will be 1/20% = 5 months. This simple formula is so important when trying to project the revenue a business will generate, because accurate tracking of the cohort churn rate will avoid the dangerous optimism. Considering how important churn is, and generally how expensive it is signing a new customer compared to keeping an old one, expansion stage SaaS companies should have a good customer service level tracking matrix as precursor to the churn. I understand that it could be difficult and time-consuming, at first, to dissect your customers into cohorts and track them separately, as well as establish and track the customer service levels, but it will pay back the efforts. The logic is pretty simple, if you want revenue growth you have to not only add new customers but also keep the old ones, and to keep the old customers you will need to make sure that they are happy.
Key Performance Indicators (KPIs) for Software-as-aService (SaaS) Companies - MONTHLY RECURRING REVENUE Thursday, March 25, 2010 by Konstantin Valchev During their expansion stage, a lot of SaaS companies find themselves in a stage where the volume of their revenue and customers accounts put them far ahead of the new startup companies, but their financial infrastructure is far from being well established for successful scaling up and is far from being aligned with the company exit strategy. In this blog I will come back to the discussion of the fundamental KPIs for the expansion stage software companies, and more specifically, the ones that dwell in the SaaS space.
Today’s key word is actually abbreviation - MRR Monthly Recurring Revenue. A lot of SaaS companies concentrate on the Bookings and Revenue numbers and lose sight of the secured monthly revenue flow. MRR is a simple but powerful metric that tracks the new sales, up-sells, renewals, less the discounts, and churn of revenue that the company receives on monthly basis. Following closely the MRR allows the management teams of the SaaS companies to avoid getting into the trap of the long term contractually booked sales which could significantly boost the Bookings, instill profitability optimism, but at the same time may not contribute significantly to the
monthly
cash
inflow.
Actually, a research by Bessemer Venture partners suggests that MRR can be an excellent metrics to track the performance of the SaaS sales force, and consequently determine commissions based on the delta in the MRR the sales people bring to their account. The rationale is that different sales people are differently skilled in recruiting new accounts, upselling to existing accounts, or keeping them from churning. Therefore, instead of micromanaging their work it will be more productive to leave it to them to decide how to increase the Monthly Recurring Revenue that they bring to the company.
Key Performance Indicators (KPIs) for Software-as-aService (SaaS) Companies – COMMITTED MONTHLY RECURRING REVENUE Monday, March 29, 2010 by Konstantin Valchev During their expansion stage, a lot of SaaS companies find themselves in a stage where the volume of their revenue and customers accounts put them far ahead of the new startup companies, but their financial infrastructure is far from being well established for successful scaling up and is far from being aligned with the company exit strategy. In previous blog posts I discussed Churn Rate and Monthly Recurring Revenue (MRR) for the expansion stage software companies, and more specifically, the ones that dwell in the SaaS space. In this blog post, I will discuss a KPI that presents a modified version of the MRR. Today’s KPI is CMRR – Committed Monthly Recurring Revenue. According to Bessemer Venture Partners’ paper on the subject, the goal of this KPI is to show what a SaaS company’s revenue stream will be going forward if they virtually stop their sales and marketing effort. To get the steady state value of the CMRR, a company needs to consider the MRR, add all the purchase orders of future recurring revenue, and subtract the recurring revenue from customers that indicate that they will churn within the year. Now the challenge is to create and enforce a consistent definition of what Expected Churn is, as its meaning could be very subjective. If such definition is not created and enforced, the Expected Churn may be misrepresented and this will not be uncovered about couple of quarters later. Besides tracking the CMRR to understand a company’s performance, it can also be used as a measure to determine the end of year bonus for the CEO. However, Bessemer warns that CMRR is not a good indicator to determine the commissions for your sales team (farmers) since reporting accurate expected churn will actually be punished. Therefore, for your sales team’s commissions MRR is a better indicator.
Key Performance Indicators (KPIs) for Software-as-aService (SaaS) Companies – CASH Wednesday, April 7, 2010 by Konstantin Valchev During their expansion stage, a lot of SaaS companies find themselves in a stage where the volume of their revenue and customers accounts put them far ahead of the new startup companies, but their financial infrastructure is far from being well established for successful scaling up and is far from being aligned with the company exit strategy. In previous blog posts I discussed Churn Rate, Monthly Recurring Revenue (MRR) , and Committed Monthly Recurring Revenue (CMRR) for the SaaS companies. In this blog post, I will discuss a KPI that presents a modified version of the Cash. Today’s KPI is Cash. Cash is one of the most important performance indicators due to the nature of the SaaS business where the working capital is very high and it takes a lot of initial resources to come up with a good product, while the repayment occurs over a long period of time. Furthermore, a lot of the booked revenue is realized on a monthly basis over the life of the contracts. Therefore, managers have to first be extra creative in order to encourage their customers to use prepayments, and second, to be very vigilant with the levels of cash reserves the company has at disposal. If they are not and they overspent, the company could prematurely end up in line for extra venture capital or high interest bank loan. Therefore, Bessemer Venture Partners advises in its research paper on the SaaS KPIs that the compensation for the SaaS companies executives (mainly CEO and CFO ) should be closely related to the company’s Cash and CMRR.
