Benchmarking in a SaaS World

Editor's Notes

• #3: OPEXEngine focuses on operational areas like Finance, Sales and Marketing, G&A, and R&D productivity. In the SaaS sector, we also benchmark a number of critical customer and pipeline metrics.We provide data to help companies fine tune their business model and figure out course corrections. We deliver peer comparisons for a variety of internal management purposes, as well as for valuations, exits, and outside investors. Since we tend to work with high growth, metrics-driven companies, it’s a dynamic business as quite a number of our clients, both the largest ones, and the smaller ones, tend to get acquired… Luckily, there’s always new tech companies coming along and in the course of 6 years, with 50-100% growth rates, we’ve seen early stage companies grow up and become public and expect we will continue to do so.
• #7: One of the key SaaS benchmarks, as is often discussed, is churn. We track it by the number of customers up for renewal, as well as the total dollar value up for renewal and now also by the number of seats up for renewal. A couple of trend observations: generally, smaller companies have higher churn than larger. Part of why larger companies get larger is that they don’t have as high churn. But the reality is that most companies have higher churn when they are small because they are still fine-tuning their sales and marketing model, and they may not yet have the best customer support organizations, which are critical to maintaining the customer relationship and renewals. Part of successfully growing your SaaS business is attacking the churn beast. We also see a similar difference in churn rates between companies selling large contract value subscriptions – typically more of an enterprise solution – and companies selling high volume, low cost subscriptions. It makes sense because customers who choose to purchase an expensive software application, even if it is delivered as a SaaS application, typically went through a longer sales cycle, the purchase was more strategic, and they aren’t going to drop it quickly. At the same time, customers that buy a cheaper SaaS application, especially if there is a fair amount of competition in the market for that problem, after a short sales cycle and less invested, may churn more easily.
• #8: Here we see a few of the typical SaaS expense ratios. The interesting thing to see is how the Cost of Revenue benchmark doesn’t change dramatically as revenue increases, its about 37% for SaaS companies averaging around $10M, and drops slightly for companies averaging about $30M in revenues, then only drops to about 34% for the largest SaaS vendors over $100M. For the biggest SaaS company, SalesForce, they showed Cost of Revenue as a percent of recognized revenue at 19.5% for FY2011. While Cost of Revenue ratios don’t drop dramatically as revenue grows, R&D as a percent of revenue definitely drops after the early stage under $20M, going from about 24% for the early stage companies dropping by about half for both the mid-sized private companies and average public companies over $100M in revenues at about 12%.Sales as a percentage of revenues drops nicely from 34% to 25% to 15% for the largest companies, although coupled with Marketing, you still tend to see something like 45-50%, or even higher, on sales and marketing among the largest companies.
• #13: The market is definitely rewarding recurring revenue model with higher revenue to market cap multiples than “traditional” software firms, even though those SaaS firms are spending at a higher rate, and some even are in the red in some profitability metrics.
• #14: This slide was developed by one of our clients, Rally Software, a fast growth vendor of Agile development tools based in Colorado. Hopefully this visual doesn’t represent the budget process at your company, but onemay recognize this budget process chaos. In the traditional budgeting process, Finance sends out operating expense templates to each department with some direction on how much to either grow or decrease expenses, meanwhile Finance is working the topline revenue projections with the head of Sales and CEO and the various elements of the budget go back and forth between departments, finance and the CEO until the plan is finalized and in the end, everyone is just glad when the process is over, regardless of the outcome. In the new model budget process, the finance department sends out its regular package to each operating department, but also includes a copy of relevant operating expense benchmarks for peer companies, and includes benchmarks for all parts of the company, so executives can see how the whole thing fits together, instead of just focusing on their department. Then, department heads come together to discuss each department’s needs and the overall model, and how the company is doing compared to peers and leadership companies. Because of the new process, executives found the budget process to be much more friction-free, and productive (department heads even say they like the budget process!).
• #15: So, in the new process, Rally Finance used benchmarking analysis to drive a process whereby department heads could make informed budget requests. Subsidiary benefits to the new process were :increased transparency of the process,It was highly collaborative, the management team felt very strong ownership of the plan, and the overall process helped build credibility with the Board of Directors. And while Finance put the whole thing together and drove the process to a productive and efficient conclusion, no one felt like Finance was the heavy but in contrast, the executive team felt Finance had led a very successful, strategic planning process.
• #16: So, to summarize some of the best practices we’ve seen in our benchmarking work with clients. First and foremost – share the data! Finance owns the data but you need informed inputs from the rest of the operations of the company. You’ll get better buy-in on the model from everyone else if you are all on the same page. That also means ensuring that you are all using the same definitions: for example, on revenue recognition, or on customer profitability – which is something that Finance needs to lead. It doesn’t work if Sales has one definition of revenue recognition and Finance has another, or Marketing has a different view of customer profitability than Finance.In conclusion, critical operating investments and performance targets are set all the time without good quality comparisons of those numbers to peer data, especially in small and mid-sized companies. Part of that is because companies don’t have access to easy-to-use benchmarking tools to help them make operational decisions – and OPEXEngine is working to change that. Most of the data tools that are out there today were developed to help the investment community analyze investments, or to help companies present themselves to the investment community, but OPEXEngine is focused on helping operating executives use benchmarks and peer comparisons to improve business outcomes..