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SaaS Metrics Guide to

SaaS Metrics – Definitions SaaS Financial Performance


© 2010 Joel York at Chaotic Flow

Recurring Revenue Example Recurring Revenue


The amount of subscription revenue owed by a customer 1,500

Subscription Revenue
over a fixed time period, usually measured monthly (MRR), A two year subscription contract
quarterly (QRR), or annually (ARR). with a total contract value (TCV) of $24K 1,000

ARR = 12,000
R

MRR = 1,000
QRR = 3,000
recurring revenue = RR = $24K 500
Δt ARR = $12K per year =
2 years
ARR = 4 x QRR = 12 x MRR
-
R = subscription revenue owed during time Δt $24K 0 3 6 9 12 15 18
MRR = $1,000 per month =
Δt = amount of elapsed time 24 months Time (months)

Churn Rate (aka attrition) Decline in Customers from Churn


Percentage rate of customer cancellations over time, usually Example 100
90
on an annual basis. Also, the probability that a single Of 100 customers, 10 cancel in 6 months (0.5 yrs) 80
customer will cancel during a specific time period. 70 # Customers Remaining
60 - Starting with 100 customers
ΔCcancel 10 50 - 20 % cancel each year
churn rate = a = monthly
C x Δt = 1.67% per month = 40
churn rate 100 x 6 30
C = # of customers 20 Lifetime
10 5 years
Δt = amount of elapsed time annual 10 0
= 20% per year =
ΔCcancel = customers cancelling in time Δt churn rate 100 x 0.5 0 5 10 15 20
Time (years)

Average Recurring Revenue (aka avg. sale price) Cumulative Revenue


Example 35,000
The recurring revenue owed on AVERAGE per customer. with Churn
Equal to the average sale price for the initial subscription, Total Current Customers 2,000 30,000

and then increases over time from upgrades and upsells. Total Current RR $20,000,000 25,000

TRR ARR for Current Customers $10,000 20,000


Cumulative Revenue
average recurring revenue per customer = ARR = Average Upgrade Amount $2,500 15,000
C - ARR = $7500
10,000 - Churn Rate = 20%
TRR = total recurring revenue; C = # of customers
# New Customers 400 5,000

(Beware: ARR is used for both average recurring revenue and Total New ARR $3,000,000 -

annual recurring revenue; they are different concepts) ARR for New Customers $7,500 0 2 4 6 8 10
Time (years)

Customer Acquisition Cost (per customer) Example Covering CAC with ARR
20,000
The one-time cost of all marketing and sales activities plus # New Customers 400
all physical infrastructure and systems required to motivate Total New ARR $3,000,000 15,000
a customer to purchase, including fully loaded labor costs, ARR per New Customer $7,500
usually quoted as an average unit cost per new customer. CAC per New Customer $4,875 10,000 Cumulative ARR
marketing & sales expenses Marketing Staff $600,000 - CAC = $4875
CAC = CAC - ARR = $7500
ΔCnew Promotions/Website $300,000 5,000
- Churn Rate = 30%
ΔCnew = new customers acquired from activities Sales Staff $1,000,000
-
Sales Systems/T&E $50,000
associated with marketing & sales expenses 0 1 2 3 4 5
Total CAC $1,950,000 Time (years)

Average Cost of Service (per customer) Example ACS Reduction From


12,000
The recurring cost of all engineering, support, account # Current Customers 1,000 Economies-of-Scale
management, customer service, and billing activities plus all Total Current ARR $10,000,000 9,000
physical infrastructure and systems required to maintain a ARR per Current Customer $10,000 ACS per customer
current customer, including fully loaded labor costs, usually - Fixed Cost = $300,000
CAC per New Customer $4,875 6,000
- Variable Cost = $3000
quoted as an average unit cost per current customer. ACS per Current Customer $3,200
recurring service expenses Engineering & Support $1,800,000 3,000
ACS =
C Account Management & Billing $600,000
C = all current customers maintained Hardware/Software $800,000 -
0 100 200 300 400
by the associated recurring service expenses Total Recurring Cost of Service $3,200,000 Total # Customers
Customer Lifetime Value Dramatic Effect of Churn
200,000
The economic value of a customer over its lifetime. Can be Example on CLTV
built up for increasing accuracy by components as follows: ARR $10,000 churn 10% 160,000
1. recurring revenue, 2. churn (a), 3. acquisition cost, 4. cost Customer Lifetime Value
ACS $ 3,200 growth 20% 120,000 (simple)
of service, 5. capital interest rate (i), and 6.viral growth (g). CAC $4,875 interest 20%
ARR 80,000
CLTVsimple = expected lifetime revenue =
a CLTV (simple) $100,000 40,000
(“customer lifetime” is quoted as L=1/a so CLTV = ARR x L) CLTV (complete) $53,375 ARR = $10,000
-
ARR – ACS – ( i + a ) CAC
CLTVcomplete = NPV profit = (“customer lifetime” L=1/10% per year = 10 years) 0% 10% 20% 30% 40% 50%
i+a–g Churn Rate (per year)
SaaS Metrics Guide to

SaaS Metrics – Rules of Thumb SaaS Financial Performance


© 2010 Joel York at Chaotic Flow

Churn Kills SaaS Growth Impact of Churn on SaaS Growth Customer Acquisition 2,000 Churn Relentlessly Chases

Number of Customers Joining and Leaving


the Customer Acquisition Rate
Early on, total churn is small 800
early growth Growth Must Outpace
and the customer base grows 700
acquisition rate x time
Churn 1,500 Increasing Customer

Number of Customers
unimpeded at the acquisition 600 maturity Acquisition Rate
acquistion rate / % churn rate As a SaaS company grows, total - 100 in year 1
rate. As total customers 500
- 2,000 in year 10
churn increases with the total 1,000
increase, total churn increases. 400
number of customers. For
When the total churn (churn 300 Churn wins if acquisition doesn't grow
- acquisition rate = 100 customers/year company growth to continue, Increasing Total Churn
rate times customers) equals 200
- % churn rate = 20% per year 500
- limit at maturity = 500 customers
new customers must be added - 0 in year 1
the acquisition rate, then the 100 - 1,500 in year 10
- transition timeframe = lifetime = 5 years at a faster and faster pace, - 7,500 customers
customers joining exactly equal 0 - 20% churn rate
0 5 10 15 20 such that new customer -
customers leaving. Growth Time (years) acquisition grows faster than - 2 4 6 8 10
slows, and then stops. with churn without churn churn limit
total churn. Time (years)

Viral Growth Viral Customer Growth Trumps SaaS Churn SaaS Company SaaS Company Profitability
Follows SaaS Customer Break-Even

Recurring Contribution / Acquisition Cost


Trumps Churn Profitability Follows company
180,000
Because churn increases in 2000 Customer Break-Even 160,000
profitability
Number of Customers

direct proportion to the viral growth The accumulated recurring 140,000


number of customers, the 1500 growth = 40%
contribution of a SaaS 120,000
CAC
churn = 20% cust 6
surest approach is to drive company at any time mirrors 100,000
baseline growth cust 5
1000
growth at a higher rate that 100 new customers per year the lifetime accumulation of 80,000
customer cust 4
also increases in proportion to churn limit the typical SaaS customer 60,000 break-even
cust 3
500 40,000
the number of customers, churn dominated growth directly linking company time cust 2
20,000
i.e., virally. churn = 20% to profit with customer break- cust 1
0 -
0 5 10 15 20 even time. 1 2 3 4 5 6 CAC

Time (years) Time (years)

Best Case Time-to-Profit Achieving SaaS Profitability with Churn Growth Creates Pressure Elusive SaaS Profitability with Growth
500,000 2,000,000
is Simple Break-Even to Reduce High total cost of service

Recurring Contribution / Acquisition Cost


Recurring Contribution / Acquisition Cost

- acquistion rate = 100 customers/yr


450,000
- churn = 25% per year combined with high growth
The higher your churn, the 400,000 - ARR 1000; ACS 500, CAC 1500 Total Cost of Service 1,500,000 delay profitability
- break-even = 3.0 years
recurring
longer it takes to reach 350,000
- time to profit = 5.5 years contribution Customer acquisition costs are ( gBE0 > 1 )

profitability. The higher your w/o churn


300,000
total paid with the recurring 1,000,000 recurring
growth rate, the longer it takes 250,000 customer recurring contribution contribution of current contribution
acquistion 20% growth
to reach profitability. For a 200,000
cost BE0
w/churn of 25%
customers. If a SaaS company 500,000
time
150,000
growing SaaS company subject grows rapidly acquisition costs to profit
100,000 increasing costs
to churn, the best case time to time profitability -
50,000 to profit not possible increase rapidly. It must - 1 2 3 4 5 6 7 8 9 10
profit is the average break- -
w/churn of 35% reduce acquisition costs or Time (years)
even time for a single - 1 2 3 4 5 6 7 8 9 10 increase contribution in order CAC w/gBE=0.5 CAC w/gBE=0.8
customer. Time (years) to sustain profitable growth. CAC w/gBE=1.1 RC w/20% Growth

Churn Creates Elusive SaaS Profitability with Churn Upgrades and Upselling Upselling Accelerates SaaS Profitability
1,500,000 Dominated Growth 3,000,000
Pressure to Reduce Accelerate SaaS
Recurring Contribution / Acquisition Cost

Recurring Contribution / Acquisition Cost

profitability impossible upselling enables


if total cost of service profitability
Total Cost of Service 1,250,000
or churn is too high
Company Profitability 2,500,000
and accelerates
recurring time to profit
Customer acquisition costs are 1,000,000
contribution
( gBE , aBE > 1 ) Upselling and upgrades 2,000,000
20% growth
15% upsell
paid with the recurring 750,000
20% growth leverage the initial investment 1,500,000
25% churn recurring
contribution of current of customer acquisition cost to contribution
500,000 1,000,000
customers. If old customers accelerate SaaS time to profit 20% growth
time
cancel before they cover the 250,000
time
by increasing contribution 500,000
to profit
cost of acquiring new ones, -
to profit margin and offsetting the -
Upselling

then it’s necessary to reduce - 2 4 6 8 10 12 14 16 18 20 delays created by both growth - 1 2 3 4 5 6 7 8 9 10

Time (years) Time (years)


acquisition cost or increase CAC w/gBE=0.5 aBE=0.63 CAC w/gBE=0.8 aBE=1
and churn. RC w/20% Growth 15% Upsell RC w/20% Growth
contribution to be profitable. CAC w/gBE=1.1 aBE=1.38 RC w/20% Growth 25% Churn CAC w/gBE=0.17 CAC w/gBE=0.5

Joel’s Magic Number Customer Lifetime Value


for SaaS Companies J
[ARR-ACS]
÷ CAC
SaaS customer
rate of return Drives Company Value SaaS Company NPV
The average customer rate of best case The link between SaaS CLTV =
1/J BE0
return must exceed both the time to profit and SaaS company valuation CLTV x NEWLTV
current customer churn rate g⇒J dramatically delays arises naturally from the SaaS
approaching
and the new customer growth a⇒J time to profit subscription model where CLTV = average customer lifetime value
rate for a SaaS company to exceeding g ≥ J or a ≥ J
SaaS company will topline company revenue
achieve profitability. Customer never be profitable emerges as the sum of NEWLTV is an analogous measure of the
rate of return is powerful, ⇑J by ⇑ARR upsell & lower TCS individual customer revenue lifetime value number of customers
increasing
or ⇓TCS accelerate profit equal to the discounted number of new
because it measures the streams.
economic health of a SaaS per year is generally customers acquired during the company’s
benchmark J ≥ 50%
very healthy lifetime, using the standard NPV formula
business.