With the rapid rise in cloud computing – the UK now has an 84 percent cloud adoption rate – comes the simultaneous rapid rise in software-as-a-service, or SaaS for short. Subscription-based revenue models have fast become a firm favourite of tech start-ups, who appreciate this way of working due to the reduced operation costs when compared to traditional GaaP business models. However, these reduced operation costs alone aren’t enough to fully fund a growing business, and many tech start-ups with a strong desire to develop may still require additional business funding. SaaS can be both a help and a hindrance here.
Here are six major SaaS metrics that investors commonly look at:
Monthly Recurring Revenue
A key metric determining growth rate is monthly recurring revenue, or MRR, as this can be an accurate prediction of regular monthly income, especially for businesses offering varying subscription terms. Fast growing SaaS businesses allegedly offer returns 5x greater to their investors than companies growing at a medium rate, highlighting MRR-related growth as a major SaaS metric considered by potential investors.
Revenue Per Account
Average revenue per account, or ARPA, looks at how much a business makes from a single user, with figures usually based on either a monthly or annual basis. A ‘per account’ metric is often more accurate than a ‘per customer’ metric, as it takes into account single users holding multiple accounts simultaneously. ARPA is simple to calculate, with MRR divided by total number of subscriptions.
Customer Lifetime Value
While ARPA is often a more accurate measure, it is still important to consider the financial value of customers, and this is done through determining a customer lifetime value, or CLV. CLV is often calculated by dividing revenue by customers, although investors may often want to see CLV prediction based on new subscriptions. Ultimately, investors want to see a CLV that is higher than acquisition costs.
Customer Acquisition Cost
Growth can be hindered by high customer acquisition costs (CAC); if a business cannot afford to generate new subscriptions, MRR and ARPA will likely become flat. A common obstacle, for start-ups especially, is that they often use varying methods initially to attract customers, which can make CAC unpredictable, and therefore not attractive to potential investors. Ideally, CAC should be less than one third of CLV.
With SaaS businesses, growth isn’t just about obtaining new customers; it’s about keeping them. Annual churn rate for SaaS businesses is typically around 10%, or 0.83% per month, with companies usually wanting to aim for less than 2% monthly. That’s because at 2% monthly churn, businesses can be losing 22% annual revenue, raising red flags for those looking to invest in a strong and fast growing company.
In addition to churn rate, business investors will often take into consideration customer retention rate. Retention rate is important in its own right, even without the concept of churn, because this is an important aspect of customer acquisition. Experts claim that there is a strong link between customer loyalty and customer referral, suggesting that greater customer retention could boost SaaS growth.
Many of the metrics mentioned above involve direct customer measurement and analysis, but a common issue faced by SaaS businesses is that there is no official definition of ‘customer’. A ‘customer’ in this instance could be anyone with an account, anyone who is active, or anyone that pays for the product. Therefore, it is important for businesses to define a ‘customer’ before working through these metrics. For SaaS businesses, it may be worth eliminating low value customers, such as those on free trials, or those within a refund window, and instead focusing on customers who are statistically more likely to resubscribe.
Your Next Step
As a tech start-up, you should want to be ever -expanding and, more importantly, you should want to be predictable. Unpredictable behaviours signal risk for investors, so from a SaaS metrics basis, it’s important to be able to show consistent and predictable behaviour in areas of growth, churn, and customer engagement. This can be achieved through the use of analytics dashboards, and by working with The Accountancy Cloud. Request a free consultation today to learn more about us.