AUGUST 8, 2023
As digitization continues to spread across various industries and cloud adoption becomes even more popular and important for businesses, the demand for Software as a Service (SaaS) solutions is experiencing rapid growth, reflecting a global shift towards flexible, scalable, and cost-effective software delivery models. According to a Statista report, revenue in the global SaaS market is projected to reach US$253.90bn in 2023 and is expected to show an annual growth rate of 7.89%, resulting in a market volume of US$344.00bn by 2027. For Africa, the report shows that revenue will hit US$2.20bn in 2023 with an annual growth rate of 10.50%, amounting to US$3.27bn by 2027. This means that the SaaS market in Africa will become increasingly competitive and measuring the right SaaS metrics is critical.
What are SaaS Metrics?
SaaS metrics are essential yardsticks used to understand how different parts of a SaaS business are performing. These metrics help product managers, marketers, and customer support teams to evaluate and improve on specific areas of growth.
For better understanding, these metrics have been grouped into four categories – acquisition, retention, growth and economic metrics.
Customer Acquisition Cost measures the total sales and marketing expenses required to acquire a new customer.
For example, If the marketing team spend the following on various marketing and sales activities in June 2023;
Total marketing and sales expenses for the month will be – $20,000.
If during the same month, the company acquires 200 new customers, the CAC will be:
Total marketing and sales spend / the number of new customers:
CAC = $20,000 / 200
CAC = $100
This means on average, the company spent $100 to acquire each new customer. It is essential to monitor this metric to ensure that customer acquisition efforts remain cost-effective and sustainable for your business.
Win-Rate measures the success of converting potential customers (leads) into paying customers. It shows the percentage of deals or opportunities that a company can close successfully out of the total number of opportunities they pursue.
If in Q2, 2023; the marketing team generated 50 sales opportunities, and of those 50 opportunities:
To calculate our win rate, simply divide the number of won opportunities (sales) by the total number of opportunities and then multiply by 100 to get the percentage.
Win Rate = (Number of Won Opportunities / Total Number of Opportunities) * 100
Win Rate = (30 / 50) * 100
Win Rate = 60%
This means that the business successfully closed 60% of the sales opportunities it pursued in Q2. Analyzing win rates can provide valuable insights into the company’s sales performance, help identify areas for improvement, and guide sales strategies to increase overall revenue and customer acquisition.
The churn rate measures the frequency at which customers stop using or cancel a product or service over a specific period. It helps companies understand customer retention and the effectiveness of their strategies to keep customers engaged and satisfied.
If at the beginning of July, a Terragon Rewards had 1,000 paying customers and 100 customers decide to cancel their subscriptions for various reasons, leaving 900 paying subscribers.
In this example, the churn rate for the month would be calculated as follows:
Churn rate = (Number of cancellations / Total number of customers at the beginning) x 100
Churn rate = (100 cancellations / 1,000 customers) x 100 = 10%
Tracking churn rate alongside other metrics like customer acquisition cost (CAC) and Customer Lifetime Value (CLV) provides a comprehensive understanding of your company’s performance and the effectiveness of its customer retention efforts.
Customer Lifetime Value represents the predicted revenue a customer will generate throughout their entire relationship with the company. It accounts for the average subscription duration, expansion revenue, and upsells. LTV helps SaaS companies identify their most valuable customer segments, prioritize customer success efforts, and optimize pricing strategies.
Let’s consider this example:
If your Monthly Recurring Revenue (MRR) = $100
Average Customer Lifespan: 24 months
Churn Rate: 5% per month
LTV= $100 x (1 – 0.05) x 24
LTV= $100 x 0.95 x 24
This means that the Customer Lifetime Value per customer is $2280. It’s important to note that the LTV is not a fixed value and can be influenced by various factors, including customer satisfaction, customer support quality, and the success of the customer in achieving their goals using your product. Businesses can use the LTV to better understand their customer base, tailor marketing efforts, and optimize customer acquisition costs to inform long-term profitability.
Monthly Recurring Revenue, or MRR represents the predictable revenue generated monthly from subscriptions or recurring charges. ARR is similar to MRR except that it provides a predictable and recurring revenue stream businesses can expect from their customers over a year. MRR and ARR provide a clear understanding of the company’s financial stability and growth trajectory. They allow companies to make strategic decisions, plan their budgets, and evaluate their overall financial health.
For instance, if Terragon has 500 active customers paying a monthly license fee of $3000 for its Customer Data Platform (CDP), the MRR would be:
Total users: 500 x subscription fee: $3000
MRR = $1.5m
ARR calculation in this case would be
MRR x 12 months
$1.5m x 12 = $18m
These metrics are valuable tools to measure a SaaS company’s performance and help drive long-term success.
Annual Contract Value (ACV) is the total value of a contract over a year. This metric is used to calculate the revenue generated by a customer’s subscription or contract on an annual basis. ACV provides an understanding of the financial impact a customer will have on a company’s revenue over a year.
For example, if a business offers a $100 subscription monthly for an intelligent multi-channel messaging platform, and a customer signs up for a one-year contract, the ACV would be calculated by multiplying the monthly price by 12 (the number of months in a year). So, in this case, the ACV would be $100/month x 12 months = $1,200.
Good knowledge of ACV enables businesses to make intelligent decisions about resource allocation, sales strategies, and customer retention efforts. It also aids in identifying high-value customers who can significantly contribute to the company’s revenue stream.
This CAC: LTV compares the cost of acquiring a customer to the value that the customer brings over their entire lifetime as a customer. Remember, CAC is the amount of money a company spends on marketing, sales, and other efforts to acquire a new customer; LTV on the other hand is the estimated revenue a company expects to generate from a customer over the entire duration of its relationship with the company. Now, the CAC: LTV ratio compares the cost of acquiring a customer to the value that the customer brings to the company.
For example, if your CAC= $100 per customer
LTV = $1,200 per customer
Your CAC: LTV ratio would be:
CAC: LTV = $100 / $1,200 ≈ 0.08
A healthy CAC: LTV ratio is considered to be less than 1. Since the CAC: LTV ratio above is less than 1 (0.08 < 1), it suggests that your company’s customer acquisition efforts are efficient, and the lifetime value of your customers outweighs the cost of acquiring them. Monitoring the CAC: LTV ratio is important to make better decisions about your marketing and sales strategies, optimize customer acquisition costs, and allocate resources effectively.
Gross Margin is a financial metric that measures the profitability of the core operations of a business. It is an important indicator of the business’ ability to generate revenue from its service after accounting for the direct costs associated with delivering that service.
Gross Margin is typically expressed as a percentage and is calculated using the following formula:
Gross Margin = (Revenue – Cost of Goods Sold) / Revenue * 100
If your company generates $1,000,000 in revenue and the cost of goods sold (COGS) amounts to $300,000:
Gross Margin = (($1,000,000 – $300,000) / $1,000,000) * 100
Gross Margin = ($700,000 / $1,000,000) * 100
Gross Margin = 0.7 * 100
Gross Margin = 70%
This means that for every dollar of revenue generated, you retain 70 cents after accounting for the direct costs associated with providing your services. Tracking your gross margin can help you identify opportunities to optimize input costs, pricing strategies, and operational efficiency which can enhance profitability and sustainable growth.
EBITDA is used to evaluate the profitability and operating performance of a company. It provides a snapshot of a company’s ability to generate profits from its core operations without the impact of certain non-operating expenses.
To understand EBITDA, let’s break down each component:
By excluding interest, taxes, depreciation, and amortization from the earnings, EBITDA provides a clearer picture of a company’s operational profitability. It helps investors and analysts assess the company’s ability to generate cash flow from its core operations.
Let’s say we generated $15 million in revenue from our data management and customer engagement solutions in 2022 and we incur $6 million in operating expenses, including salaries, marketing costs, and software development expenses. Additionally, we pay $1.5 million in interest on outstanding loans, $2 million in taxes, $500,000 in depreciation for office equipment, and $300,000 in amortization for acquired intellectual property.
To calculate EBITDA, we would take the earnings of $15 million and subtract the expenses related to interest ($1.5 million), taxes ($2 million), depreciation ($500,000), and amortization ($300,000).
EBITDA = $15 million – $1.5 million – $2 million – $500,000 – $300,000 = $10.7 million
EBITDA is a useful metric as it provides a snapshot of a company’s operating performance without considering the impact of financial and tax decisions. It allows investors, analysts, and stakeholders to assess the company’s core business profitability and operational efficiency.
As the SaaS industry continues to grow, the importance of these metrics cannot be overemphasized, as they empower organizations to adapt, innovate, and ultimately thrive in a competitive landscape.