SaaS Metrics: SaaSoNomics 102A

At the recent OpSource SaaS Summit 09, I had the opportunity to meet many entrepreneurs either operating a SaaS business or preparing to offer a product as SaaS. I was not surprised to see that the most popular sessions were based on marketing, sales compensation, sales channels and “Thriving Not Just Surviving.” In this economy it is critical to understand the practical issues around running a successful SaaS business model.

In this article, I’m going to cover some examples of using SaaS metrics to guide business operations. If you haven’t read our SaaSoNomics 101 article – I’d suggest you hop over and give it a look, before you start on this one. It will give you an overview of the “generally recognized” metrics – and I have made a couple of additions and updates since we published the article.

To expose how the gears of a SaaS business mesh, let’s start with one of the most difficult areas – Sales Compensation. It is fine to say that the majority of SaaS sales should be generated and completed on the Internet (and I do) but the simple fact is that especially in enterprise or high value Line of Business (LoB) applications there is a limit to how effective the reach of online marketing can be. In a traditional software sales model, sales commissions are based on “bookings” – the sales of application licenses. The license cost is based on an assumed “window” of time between new versions, costs and sales expectations – which is why software companies suffer so badly when they miss a scheduled release. A booking is usually a high value sale. By their nature, SaaS sales are comparatively small and recur over a much shorter time period.

The classic way to compensate SaaS sales is to use the Committed Monthly Recurring Revenue (CMRR or simply MRR) generated by the client as a guide. This is based on the conclusion that the monthly recurring revenue is 1/12 of the yearly revenue and if $1 of commission was paid for every $1 of CMRR the commission paid would be roughly equal to the typical 8% paid for licensed sales. To extend the model further, the actual percent received can be varied by the percent of quota achieved by the salesperson. So, in this way, a salesperson achieving 25% of quota might receive $0.25 for every $1 of CMRR which would scale up to as much as $1.5 per $1 of CMRR for those who achieved over 75% of quota. Using the CMRR is also important because it makes the sales team focus on subscription-based metrics.

That model is fine up to a point – but if your salesperson is not selling to the right market or completely disclosing the focus of the application, your up front churn (RR) may be higher than you expect. If your basic subscription period is short, this could eat up all your profits very quickly because in effect – your cost to acquire (CtA) has risen even though you may not recognize it immediately. Linking the achievement of a low initial churn or negative churn (negative churn occurs when the client buys more seats or services than originally committed over their lifetime value – CLV) to sales assumes your service is well-aligned with the target customer base so it is likely that can only be done on an “average RR” basis across the entire customer base. A salesperson with an average RR in the first six months of client subscription that is lower than product-wide average over the same period may need to be reviewed or “retrained.”

If your revenue model is based on usage or transactions at any level, there may have to be some recognition of the average usage or transaction rate per user in sales commissions. This becomes even more complex to compensate for – which in part accounts for the fact that even where transaction or usage fees are a large part of service revenue – a low base subscription is often charged. This base subscription should cover the overhead (broadly, overhead includes the Cost to Acquire (CtA) plus the Cost to Maintain (CtM)) and allow the transaction and usage fees to provide a separate income stream over the base.

Because typically customer retention is even more critical for LOB and enterprise SaaS than it is for “consumer” services – it may be necessary to consider a model more like those used in professional services. When licensed software is incorporated into a custom application by a professional services group, the salesperson is usually compensated for license renewal as well as the services contracted. In this model, the salesperson becomes an “account executive” who is responsible for the long term customer relationship and provides feedback to the product and services management on customer satisfaction. This model fits well into the concept of “Agile product management” that I truly believe needs to be incorporated into all SaaS business models. This may mean over time you will need to separate front end sales (hunters) from account executives (farmers) with different compensation models for each.

So – what does all this tell us about SaaS metrics? The sales team needs to understand the metrics they are being compensated on fully and have individual as well as average metrics against goals available to review on demand. Company management needs to have a “dashboard” approach to watching the metrics to assure their Cost to Acquire and Time to Acquire is not rising, early stage Churn is under control, and their Customer Lifetime Value ratio is not dropping. If the service is enterprise or LOB based, a component of sales or support compensation needs to be based on long-term customer relationships and retention. These types of controls have parallels in other types of business models, but because of the typical subscription period in SaaS – constant monitoring and well-considered goals are critical to success.

As the title of this article suggests – there are additional examples of metrics that can be applied to decision support in a SaaS business. We plan to cover more of them but I would like to hear from our readers: What “business intelligence” do you feel is missing from your existing or envisioned operations dashboard? What would you like to hear more about? Let me know – either in comments or by message on Twitter to @MichaelDunham. And yes – Stay Tuned for more!

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