So over the past decade-and-a-half we’ve come up with a lot of yardsticks, metrics and rules for SaaS companies.
E.g.,:
- CAC of < 12-14 months is Good-to-Great
- Paying sales reps 25%-30% of what they close is Good
- A burn ratio of 1 or less is Good
These metrics do sort of work, if you have some capital to spend (i.e., can invest in marketing that takes a little while to pay off). If software costs almost nothing to maintain (80%+ gross margins) and the customers stay a decade or longer (100%+ NRR), then for sure these metrics and yardsticks make a ton of sense.
But — they are broken if you aren’t really a traditional, 100%+ NRR SaaS company.
In particular:
- Hybrid SaaS with payments and fintech usually has far, far lower gross margins than pure software. See, e.g. Shopify. Often in the 40%-50% range, instead of 75%-80%. Yet, I see most “Hybrid SaaS” startups ignore this and spend as if they had 80% margins.
- Non-Recurring Revenue Doesn’t Count, At Least Not as Much. If your revenue from any stream can go down in a given month or quarter, it’s not recurring.
- Pass-Through Revenue Simply Doesn’t Count, Or At Least Only a Smidge. Is it OK to recognize pass through revenue? It depends. But what’s clear is it’s a terrible, terrible idea to include 0%-10% pass-through revenue when you model your SaaS metrics. Even by the time it IPO’d, Toast’s payments margins were only 22%.
- Loss-making Hardware Doesn’t Count. Toast loses money on those cool devices you use. That’s great, and it enables their software. But you can’t count that as profitable revenue. It isn’t.
- SMB SaaS often has much lower than 100% NRR, especially to start. In fact, Very Small Businesses often see 3% a month churn or higher. You simply cannot spend 12 months of revenue to acquire a customer if they on average … last less than or not much more than a year. Eventually most SaaS SMB leaders get to 100% NRR one way, or another (often by either going multiproduct and/or a bit more upmarket). But until you get there — you can’t spend like you do.
Even today, I’m seeing way way too many venture-backed startups with hybrid, less than 100% recurring, and/or SMB models spending money like … they have enterprise SaaS metrics.
They don’t.
And you can’t spend like you do. You have to spend much less. Or it ends up all gone, faster than anyone planned. Even though you used those “Standard SaaS” metrics.….
Finally, not all VCs, even today, fully see it. Some will fund you with 40% gross margins just as if you had 80%, on the same multiples and valuations. That was common in 2021, and still is oddly fairly common even today. But they really probably shouldn’t. So at least don’t spend it this way.
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David Sacks and I hit on this a bit in this deep dive from SaaStr Annual here. It’s interesting David said he wouldn’t have invested in Toast for just these reasons. The margins are too low, and SaaS metrics don’t hold. I would have invested in Toast. But it doesn’t mean I don’t see his point. I certainly do — and agree.
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Jason Lemkin, Khareem Sudlow
