Recently, I read an article written by Ben Sesser, who is a series entrepreneur and spent five years in strategy and corporate development focused on the enterprise, and got inspired by lots of his ideas and data-driven SaaS business models.
Despite the product, what we value most about a SaaS business is probably how much revenue it makes. And what struggles most to the management team is how to reinvest the money it made(together with the money it raised) to scale the business at a rapid pace. Here are some highlights of his analysis based on some top-level SaaS companies who did IPO before 2014, the expense composition of revenue goes like this:
- 45% of revenue goes to S&M
- 35% of revenue goes to COGS
- 20% of revenue goes to R&D
- 15% of revenue goes to G&A
What impresses me most is that nearly half of the revenue goes to Sales & Marketing. As for a SaaS company, sure sales is the most important and the top-priority task we need to do right after a production-level software has been developed. The 45% of revenue are spent for hiring sales reps, spending on ads/inbound/outbound sales and many other marketing channels that may help the company to get more paid customers.
I used to think this way when we started our company years ago: Once we hit a decent MRR we can strongly show how profitable our business model is (e.g 60%), which sounds like a cool story to myself. However, in order for the company to scale to its 4x or even 10x year by year, pursuing profit shouldn’t be considered too early. Instead, grow the size of the business and focus on CAGR(customer annual growth rate) makes more sense to bring a startup to become a Unicorn in just couple years. According to his thesis, aiming for a 50%~75% CAGR if you are be come someone like SalesForce, WorkDay or DemandWare. Raise money in the early stage and focus on scaling your size.
Why we are bothering about sacrificing profit and get to accelerate the scale? Because SaaS business are great over the long-term. Once the customer get used to the SaaS product we made, it is very unlikely to see them quit. Because the softwares are so deeply integrated into their existing workflow and, for the customers, it requires huge time and investment to switch the part that automated by the softwares to another alternative solution. And it is also very likely to see them become heavy customers. Since once people rely on something, it usually happens to increase the spend on that thing(think about from your first iPhone to now). Consider this case:
ServiceNow had an average contract value of $198,000 in 2012 and contract renewal rates of 96 percent to 98 percent.
Here is another interesting number:
- About 20% of the revenue is derived from Professional Services
What is “Professional Services”? I guess for varies SaaS business we can say it’s like “paid customer support for troubleshooting”, “paid hands-on training for integrating”, or “paid in-house engineers for consulting”, etc. It’s true that every SaaS business wants to automate a vertical section for a business’s existing workflow by providing a software solution (e.g Salesforce is the CRM automation; WorkDay is the finance automation, Zendesk is the CS automation) that can help the customers to reduce human resources and boost up productivities. But every business has slightly different and unique requirements, in such case, no perfect software will be able to handle 100% automation for every single vertical. Then there goes the “professional Services”. And this is what I believe. As for Mobingi’s cloud software we want to help customers to automate their cloud application lifecycle management by providing an ultimate software that covers all of the workflows from architecture design to server deployment, from node monitoring to mass management, from code shipment to instances scaling. However, we see so many customers are requiring lots of far specific features(that they’ve been using at their current workflow and usually don’t wish to change that part) which we couldn’t thinking of built into our softwares before hand. There we provide them the kind of so-called “consulting” professional service, help them to solve the frustration points and integrate the software to their running applications. And of course, we charge them for that service, typically 15%-20% of their total annual bills.
And there are many other good points like pricing a SaaS, churn rate, customer lifetime value, and how to marketing in specific, together with lots of awesome stuffs that I learned from 500Startups’ batch 15 mentor teams, I’ll share my thoughts in the next blog post.