You know what’s back in fashion today in SaaS? Profits. Cash.
For years, it was Growth, Growth, Growth. Now, for the first time in a long time, it’s Growth + Profits.
And that’s a lot rarer in SaaS. It’s out there. ZoomInfo, PayCom, Zoom, and more mint cash. But so many SaaS leaders aren’t really profitable at $1B ARR, even,
Why not? Let’s update a classic SaaStr post on the topic.
And it’s not just public SaaS companies that are often struggling to get profitable. I’m doing a lot of this financial planning now. And one thing I can tell you is I see a lot of different plans for next year, even at fairly similar ARRs.
I’m an investor in maybe 30 SaaS startups. Next year they are all going from a few million to >$300m in ARR, but the burn rates are all, all, all over the place. Some are barely burning any cash. Some are still burning far more than their new bookings, which is very, very risky these days.
But … the key is … they are all different. Each SaaS company is different.
If you read a lot of the SaaS, and even Wall Street, press, you’ll think that most SaaS companies basically have to burn cash almost forever. Salesforce didn’t generate significant free cash flow until it crossed $1b or more in ARR. Box finally became cash flow positive at $500m ARR. DropBox didn’t become cash-flow positive until $1b in ARR. Etc. etc.
But … it’s not the whole story. Why are Zoominfo, PayCom, and Veeva wildly profitable? Why was Netsuite? Why do Oracle and SAP just rain cash? Why did sales-driven Qualtrics get to $100m+ in ARR without ever raising a nickel, and generating more than $20m a year in free cash flow?
So is SaaS cursed? Does it cost so, so much to host a few million lines of code on AWS?
Well, let me just step back with my learnings as you do your own planning:
First, assuming you are growing > 80% YoY or so, and have a lot of pre-paid annual contracts, … you should be able to be cash-flow positive almost no matter what, somewhere around $5-$8m in ARR. How many people do you really need just to keep the app up? 30? 50? 200? Sales, done right, should be accretive (although expect sales efficiency to ultimately decline post-Initial Scale). And your marketing costs should be manageable as your mini-brand kicks in. Now once you hit, say, $5m ARR, and the renewals kick in (which rain cash), and the pre-paid annual contracts kick in … you should be able to pull in 120% of your MRR every month in cash, possibly even more. You can’t run your core team on $6m in cash per year? Or $10m? Really?
The renewals, upsells, and pre-paid contracts just are cash engines if you are growing fast enough.
Second, if your quotas are real, and attainable, sales shouldn’t be that expensive. You have reps with an OTE of $120k on an $800k quota … I mean, if they come close to quota attainment, then sales shouldn’t break the bank. In fact, great sales teams are accretive.
And third, most of your leads ultimately become free or really more literally free-ish. Ultimately, almost everyone in B2B SaaS, down the road, ends up getting 80%+ of their leads through their brand, through word-of-mouth, through second-order revenue, etc. These leads cost almost nothing. They do need to be nurtured, and managed, and showered with love, demos, and attention. That costs real money. But really, these core leads aren’t that expensive. It’s the extra, incremental leads that cost so much. More on that here.
So what makes SaaS burn so much cash, once you have enough revenue to cover the costs of the core teams you need to build and service the product?
One, reps often end up with really low realized quotas, especially in low ACV, high-competition spaces. If your sales team is weak, either truly weak or simply weak competitively … and/or your ACVs are low … the real, realized quotas are often really low in many fast-growing SaaS companies — even $250k or less. Similarly, even in the best SaaS companies, lead-starved sales teams often end up with relatively low realized quotas. Maybe that’s a fair use of cheap Unicorn capital, I don’t know. But if you lower the effective, realized quotas (no matter what you claim the nominal quotas are) … costs skyrocket.
Two, fiefdoms can consume a lot of cash. Do you really need 12 people on the product team? 18 in marketing? You do? Really?
Competition simply drains cash. Fast. As soon as your competitor cuts prices and quintuples their marketing budget … and is everywhere … can you stay out of the arms race? I’m not sure you can, in many cases. This burns the most cash of all. More on dominant strategies in SaaS competition here.
The incremental customer can become extremely expensive. We talked about this a while back here. Even if 90% of your customers are pretty cost-effective to acquire and close, growing that extra 10%, 15%, 20% a year can be phenomenally expensive.
So net, net, I have one main point and then a few semi-actionable insights.
The main point is there is no reason SaaS can’t mint cash. It certainly can.
And if you can raise $100m+, and you are in a competitive space, and you can crush your competitors with that $100m, I think it’s worth it. More on that here.
But … if your competition is bounded, your brand is positive, your churn is net negative, and your contracts are pre-paid … and your ACVs aren’t abnormally low … SaaS can rain cash.
So if cash matters, past $5m-$7m or so in ARR, here’s what I’d do to make it rain:
- Go upmarket. Get your ACVs up. Raise prices tomorrow. Same work, more cash.
- Ask for 1, and even 2, years cash paid up front. Big companies are happy to do it. Often for a nominal discount you would have given anyway.
- If your competition is fierce, raise prices even more. I know this seems counter-intuitive. But break away. Go more enterprise. Get more differentiated. Get better. Don’t just play the arms race game. Redefine it.
- Don’t wait to invest in customer success and account management. Mining your existing customers for upsells is the best way to rain cash. It just takes a while.
- Churn burns a lot of cash at scale. Everyone knows churn is “bad,” but what we miss is just how much cash it burns at scale. Because you end up basically having to pay the same in sales and marketing, no matter what. If those customers don’t even last 18 months, you just burn tons of cash.
My uber-point is this: in SaaS, there is no magic “Magic Number.” There isn’t. Once you are on the way to Initial Scale, you can drive it and influence it.
And if you have $200m in the bank and 10 years of runway, ignore this post.