How can you effectively evaluate a SaaS company for investment?

Yes growth is important, not just as financial return metric but even more as market acceptance metric. A SaaS is just as good as its sales team and therefore the growth shows their capabilities. Although growth is important, it’s important to take into account mitigating factors for the industry and benchmark the growth to others in the industry.

When evaluating a SaaS company for investment, prioritize a thorough assessment of its revenue growth. Begin by scrutinizing historical financial statements for consistent, sustainable growth exceeding industry benchmarks. Analyze current revenue streams, focusing on diversification and scalability to ensure the company can accommodate expansion without disproportionate cost increases. Evaluate customer metrics, including acquisition costs, retention rates, and satisfaction, while also examining competitive positioning and infrastructure scalability for a comprehensive investment perspective. Analyze, Diversify, Scale, Retain, Innovate.

several revenue growth metrics are essential for evaluating the company's performance and guiding decision-making. Key metrics include: -MRR and ARR is the predictable revenue a company expects to generate every month(MMR) or LTM(ARR) from its subscribers, providing a clear view of the revenue stream and financial health . -Average Revenue Per User (ARPU): ARPU indicates the average revenue generated per user. -Expansion Revenue: This tracks additional revenue from existing customers through upsells and cross-sells, reflecting a company's ability to grow revenue within its current customer base. -MRR Growth Rate: This demonstrates how the revenue generation is improving over time, indicating business expansion and market traction

Well, the truth is the best SaaS companies that are already generating revenue growth don't need venture capital and probably shouldn't be pursuing it. Debt is the best method to finance growth for SaaS firms.

Whereas revenue growth rate is important, VCs are more concerned with “high quality” revenue. This needs to be (1)Reliable, (2)Profitable, (3)Repeatable & (4)Expandable. This translates as having customers who: - Will pay on time (& in full) - generate a high margin (70%+) - have strong repeatability (rather than one off transactions) - have potential to expand the product across their enterprise During recessionary periods, large enterprise logos provide comfort to investors as the likelihood of them going out of business or cutting SaaS costs is lower. That said, the “Rule of X” recently coined by VC Bessemer indicates that the public markets value strong growth 3x as much as they value Free Cash Flow margin.

How much does it cost to acquire customers? This is one of the most important metrics in SaaS - but you have to put it in context. What is the customer lifetime value, and how much does it generally cost to acquire customers in the industry the company is in? Also look at things like HOW the company acquires customers, and how long it typically takes for them to become a customer. Also, the retention of those customers is just as important to look at.

CAC represents a crucial metric for measuring the return on investment in customer acquisition activities, which is particularly vital for SaaS startups that rely on long-term subscriptions and customer retention for their revenue. -It measures the cost-effectiveness of a startup's marketing and sales strategies, helping the company to optimize its use of resources -CAC has a direct impact on a company's profitability. A startup with a high CAC may spend more on acquiring customers than the revenue those customers generate, leading to unsustainable business practices -CAC is used along with other metrics like LTV to establish a sustainable growth rate for the business, aligning spending with revenue to avoid cash flow problems

VC investing is all about risk mitigation... To that point, CAC is arguably one of the most important metrics to be watching these days. In addition to watching CAC it is especially important to be monitoring churn rate. You want to see CAC and Churn as low as possible as this reduces burn rate and increases LTV. The less it costs to acquire customers and the longer they can keep them the more likely you are to add a unicorn to the portfolio.

CAC and Retention defines any SaaS company growth and financial aspects. SaaS company needs to have a solid marketing channel to keep higher operating profits and thus evaluation. In order to scale customer acquisition channel, CAC has to be creatively combined, morphed into customer discovery, that occurs natural/organic to their journey. To avoid leaky-bucket phenomenon, customer acquisition channel must have higher Retention across cohorts, greater than 80 to 90% +.

This is one of those B2C metrics that B2B vendors tend to care less about. It really needs to be considered in the context of the customer lifetime value. e.g. Paypal in the early days gave $10 to new customers knowing an average customer earned them $20.

Customer Lifetime Value (CLV or LTV) is pivotal for venture capital assessments of a SaaS startup's longevity and profit potential, capturing the total revenue a customer is projected to provide. Strong LTV is a mark of the company's success in drawing and keeping customers, implying a solid product-market fit and operational effectiveness. LTV's comparison with Customer Acquisition Cost (CAC) is crucial; a much higher LTV than CAC indicates efficient customer profitability and a sustainable model. Additionally, high retention rates and low churn enhance LTV, mirroring customer contentment and product loyalty. A rising LTV trend makes startups particularly appealing to investors, signaling scalability and increased market traction.

SaaS is all about playing the long game, and CLV is a great indicator. The longer your customers are on board and the more they pay, the better.

In my experience, you should really look into the gross margin here. You might think that you should just subtract server costs etc, but if the application requires highly skilled CS employees because it caters to a niche audience of specialists then perhaps that should affect the gross margin too.

I see unit economics as not only important but fundamental to the viability and scalability of such businesses. Unit economics provide a granular view of profitability by breaking down revenue and costs to the per-unit level, such as per customer or per transaction. This micro-level profitability analysis is essential because it reflects the direct financial impact of a company's product or service offerings. In a competitive funding landscape, SaaS startups that can showcase compelling unit economics stand out. For VCs like myself, these metrics are indicative of operational efficiency and strategic pricing and can speak volumes about the management team’s understanding of their business and market dynamics.

SaaS solutions come in all shapes, sizes, industries and business models hence putting matrices like CAC and LTV in context of gross margins, magnitude of improvement (reflecting customer’s willingness to pay) and not just GTVs can make all the difference when trying to identify opportunities that fit your portfolio and investment return matrices. Having said that the industry and business model have a large influence on what a healthy margin looks like, so finding a magic number is highly subjective. While most SaaS plays are tend to be asset light / low capex leading to higher margins, some could have different industry dynamics at play and could be investible for other reasons.

Another "interesting" metric that needs to be considered in the wider context, particularly the B2B space where there can be a wild variation in customer value. It's far more interesting for high volume lower margin B2C vendors, but even then overall profit is really where the rubber meet the road.

Essential to understand the market and its trends. Now factor in your competition. Just about every market is saturated with SaaS offerings, some hyper-niche and others very broad. Working out where you can fit and how you distinguish yourself is critical.

The relevance of the technology offered by SAAS is much more important than anything else.For example a Saas offering of a Chatbot solution provider shall include all updated Gen AI and ML capabilities without which the accuracy of the information provided by the Chatbot solution will be ambiguous. Hence the relevance of technology offered by SAAS is of utmost importance.

When evaluating SaaS companies, focusing on Annual Recurring Revenue (ARR) and Monthly Recurring Revenue (MRR) is essential. These metrics provide clear insight into the predictable and sustainable revenue streams of a business, crucial for long-term success. A healthy growth rate in ARR/MRR indicates a strong product-market fit and customer loyalty. Furthermore, analyzing the trends in ARR/MRR growth can help investors understand the scalability of the business model and forecast future performance. It's also important to consider the impact of customer churn on these metrics, as it directly affects revenue predictability and growth potential.

Evaluate the SaaS company's customer acquisition cost (CAC) efficiency by analyzing its sales and marketing strategies, channels, and associated costs. Look for evidence of cost-effective customer acquisition channels, such as inbound marketing, referrals, or partnerships, that result in a low CAC relative to customer lifetime value (CLTV). When assessing a SaaS company's investment potential, I scrutinize its sales and marketing funnel to understand the efficiency of customer acquisition efforts. For instance, if the company relies heavily on expensive outbound sales tactics with a high CAC, it may face challenges in achieving profitability and scalability, reducing its attractiveness to investors.

Ao avaliar empresas SaaS, focar na Receita Recorrente Anual (ARR) e na Receita Recorrente Mensal (MRR) é essencial. Essas métricas oferecem uma visão clara sobre os fluxos de receita previsíveis e sustentáveis do negócio, cruciais para o sucesso a longo prazo. Um crescimento saudável no ARR/MRR indica um forte ajuste ao mercado e lealdade do cliente. Além disso, analisar as tendências de crescimento do ARR/MRR pode ajudar os investidores a entender a escalabilidade do modelo de negócio e prever o desempenho futuro. É também importante considerar o impacto do churn de clientes nessas métricas, pois afeta diretamente a previsibilidade da receita e o potencial de crescimento.

I've owned and operated three SaaS companies and invested in others. My first was a classically lean startup in the mid-90s that grew nicely organically. Back then there weren't many options for financing organic growth with high margins -- the model was too new, specialty lenders had not yet emerged (many today), and regional equity wasn't an option outside of SV, so I sold prematurely. I wish I would have held on to it even if I needed to reduce growth to maintain cash-flow positive. Today there are many specialists in SaaS - lenders, investment banks, private individuals, strategic partners, and some traditional banks are willing to lend. For small cap SaaS ventures, which represents the majority, VC should be the last resort.

A thorough evaluation of a SaaS company considers product uniqueness, market potential, and scalability. Review the strength of recurring revenues and customer satisfaction metrics like NPS. Analyze sales effectiveness, funds management, and the team's expertise. Innovation, legal compliance, and strategic partnerships also play crucial roles. It's essential to tailor the assessment to each company's context, using critical thinking and due diligence to navigate the SaaS sector's intricacies.