Bessemer's Top 10 Laws for Being "SaaS-y"
Running an on-demand company means abandoning many of the long-held tenets of software management and adhering to these new principles.
By Byron Deeter, Bessemer Venture Partners
Feb. 25, 2008
In the emerging sector of Software as a Service, one of the biggest challenges for many of the top CEOs is the lack of successful role-model businesses. There are still only a handful of public pure-play SaaS businesses, and thus the body of "best practices" is very limited. Ironically, on top of this, one of the hardest things veteran software CEOs have to do when they start to run a SaaS company is to forget much of what they know about running a software company.
As we worked with our SaaS portfolio companies, it became apparent that savvy SaaS companies were following a new set of rules - most of which didn't apply in the traditional software world, and many of which they were making up in real-time. We then set out to capture the new "best practices" of the on-demand model.
To pull these insights together, Bessemer studied over a hundred SaaS companies - both pure-plays and hybrids - and recently hosted an invitation- only SaaS CEO Summit to compare perspectives and discuss the findings. Many of the insights gained during this research and these discussions are condensed into the following list of ten new "laws" which help to govern the success of SaaS companies.
1. Your key business metrics are: CMRR (Contracted Monthly Recurring Revenue) and Cash - "Bookings" is for suckers.
All insightful, experienced software executives know that there is a single critical metric by which the health of a growth software business can be judged: "Bookings". However, in the SaaS world, "bookings" is ambiguous at best and often very misleading. A simple example would be if Customer A signs a one-year deal at $10,000 per month, and Customer B signs a three-year deal at $5,000 per month. The traditional metric of Bookings would value Customer A at $120,000 and Customer B at $180,000, despite the fact that any good SaaS CEO knows that Customer A is much more valuable to the business as they will likely generate $360,000 of revenue for the business with renewals over that same three year period.
To achieve better business visibility, top-performing SaaS companies have begun to focus on Monthly Recurring Revenue instead of bookings. We recommend companies actually take this a step further and keep a forward view of contracted monthly recurring revenue net of expected churn. This metric, Contracted Monthly Recurring Revenue (CMRR), is the single most important metric for a SaaS business to monitor as the change in CMRR provides the clearest visibility into the health of any SaaS business.
Visibility into the current cash position and the change in the cash position has always been important for software executives, but is even more critical for SaaS businesses because the working capital requirements are higher and the payment terms are much longer. Given the high cost of capital for private SaaS companies, wise executives will often offer slight MRR discounts to customers in exchange for quarterly or annual pre-payment terms.
A third metric to watch is customer churn, which is embedded into our CMRR metric at the top level but should also be tracked in deep detail by the management team. SaaS companies have to remember the "Service" in "Software-as-a-Service." It's very difficult and expensive to grow subscription businesses if you have moderate customer churn, and prohibitive if your churn is high. The top performing SaaS companies typically achieve annual renewals on a customer count basis above 90% (much of which is often due to bankruptcies, acquisitions, and other events beyond the company's control), and over 100% renewals on a dollar value basis due to up-sells into this installed base.
We believe in these metrics as SaaS value drivers so strongly, that like to see executive teams tie their annual bonuses directly these metrics almost exclusively.
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As we worked with our SaaS portfolio companies, it became apparent that savvy SaaS companies were following a new set of rules - most of which didn't apply in the traditional software world, and many of which they were making up in real-time. We then set out to capture the new "best practices" of the on-demand model.
To pull these insights together, Bessemer studied over a hundred SaaS companies - both pure-plays and hybrids - and recently hosted an invitation- only SaaS CEO Summit to compare perspectives and discuss the findings. Many of the insights gained during this research and these discussions are condensed into the following list of ten new "laws" which help to govern the success of SaaS companies.
1. Your key business metrics are: CMRR (Contracted Monthly Recurring Revenue) and Cash - "Bookings" is for suckers.
All insightful, experienced software executives know that there is a single critical metric by which the health of a growth software business can be judged: "Bookings". However, in the SaaS world, "bookings" is ambiguous at best and often very misleading. A simple example would be if Customer A signs a one-year deal at $10,000 per month, and Customer B signs a three-year deal at $5,000 per month. The traditional metric of Bookings would value Customer A at $120,000 and Customer B at $180,000, despite the fact that any good SaaS CEO knows that Customer A is much more valuable to the business as they will likely generate $360,000 of revenue for the business with renewals over that same three year period.
To achieve better business visibility, top-performing SaaS companies have begun to focus on Monthly Recurring Revenue instead of bookings. We recommend companies actually take this a step further and keep a forward view of contracted monthly recurring revenue net of expected churn. This metric, Contracted Monthly Recurring Revenue (CMRR), is the single most important metric for a SaaS business to monitor as the change in CMRR provides the clearest visibility into the health of any SaaS business.
Visibility into the current cash position and the change in the cash position has always been important for software executives, but is even more critical for SaaS businesses because the working capital requirements are higher and the payment terms are much longer. Given the high cost of capital for private SaaS companies, wise executives will often offer slight MRR discounts to customers in exchange for quarterly or annual pre-payment terms.
A third metric to watch is customer churn, which is embedded into our CMRR metric at the top level but should also be tracked in deep detail by the management team. SaaS companies have to remember the "Service" in "Software-as-a-Service." It's very difficult and expensive to grow subscription businesses if you have moderate customer churn, and prohibitive if your churn is high. The top performing SaaS companies typically achieve annual renewals on a customer count basis above 90% (much of which is often due to bankruptcies, acquisitions, and other events beyond the company's control), and over 100% renewals on a dollar value basis due to up-sells into this installed base.
We believe in these metrics as SaaS value drivers so strongly, that like to see executive teams tie their annual bonuses directly these metrics almost exclusively.
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