If you’re building a company in a competitive market, then we all know it’s a race to gain marketshare. That is not what this post is about. Rather, this is about SaaS metrics and the fundamental choice that both CEO’s and NASCAR drivers have to make. It’s all about burn.

It’s all about burn.

Whether you’re driving a souped up mega machine or controlling the reigns of a complex organizational infrastructure, you’re worried about how fast you’re going (or growing) and how fast you’re burning fuel (capital). That’s what dictates whether you win or lose. But making the decision between going faster to get ahead of your competition — thereby burning more fuel — or easing off of the accelerator — thereby conserving fuel — and picking up time when they need to refuel in the “pit” is a fundamentally challenging question. BUT it’s not an existential one, it’s a mathematical one.

Metrics Metrics Metrics

I know that the world of SaaS is already riddled with metrics. Metrics help us understand the business and diagnose potential issues, but getting too deep into the weeds can sometimes cause you to lose perspective.

If you google “SaaS metrics” you’ll find sites and blogs that talk about cumulative cash flow, Lifetime Value of a typical customer (LTV), Customer Acquisition Cost (CAC), Monthly Recurring Revenue (MRR), Annual Recurring Revenue (ARR), the Magic Number, Bookings, Billings, Churn, and the list goes on. This flurry of accounting and sales metrics are each independently important, but each only give you a single perspective of the business. They fail to give you a big picture view.

This big picture is important because it’s constantly changing. If you get the big picture wrong, you’re likely to have the wrong goals, and if you have the wrong goals you’ll be looking at the wrong metrics.

So how do you get the big picture? How do you zoom out from the minutia? If we go back to our Race Car driver example, the big picture is also the simplest fundamental tension — acceleration or fuel conservation. In a startup we translate that to accelerating growth or slowing the burn rate so you see another day. That’s the big picture.

Navigating Tension

Knowing the big picture is only part of the equation. You have to know how to use it, how to navigate the big picture and understand it. Luckily, a lot of people have talked about accelerating growth. One of the most often sited examples is post written by Neeraj Agrawal which describes the“Triple, Triple, Double, Double, Double (T2D3)”.

Neeraj does a great job explaining how rockstar companies have consistently accelerated growth. But T2D3 doesn’t really help us understand managing cash burn. That might not have mattered as much in early 2015, but if you’re building a startup in 2017, it’s going to matter. Investors want to see that you have discipline. But how do you show that you’re disciplined? The answer is a little metric we’ve created here at Storm called the Growth Efficiency metric. It allows us to quickly understand how a company is navigating this natural tension.

Growth Efficiency

Simplicity can be beautiful, and that’s what we think Growth Efficiency (GE) is. We created the metric to make it simple and easy to understand how well a company is doing and it allows us to track our portfolio and better understand the companies we’re evaluating. At it’s core, GE is the measure of how efficiently a business adds net new recurring revenue. In other words, Net New ARR dived by Cash Burn.

Growth Efficiency = Net New ARR/Cash Burn

What we’ve found is that the GE number of a business helps give us a numerical representation of the intuition that experienced entrepreneurs and investors have after decades of looking at these metrics.

So how is Growth Efficiency a big picture measure?

But the fun doesn’t just stop there. We can dig a bit deeper and see that the following is also true.

So essentially, GE brings neatly together Operating Expenses, Sales and Marketing Expenses, Retention Rate, Gross Margin, New ARR, Billings, Magic Number, and Churn. That’s a pretty big picture view of the business.

Obviously calculating GE isn’t enough. You need to have an understanding of what the resulting number actually means.

What we’ve found is that if a business has a GE of 1, then the business is doing alright for a startup. This means that if the business puts a dollar out, they get a new dollar in…not bad in the world of cash hungry SaaS businesses that are trying to grow.

Graphically, this looks like this:

The colored zones represent how we at Storm Ventures think of the business. Green means things are going great, and red means things aren’t going well.

Using Growth Efficiency to Understand the Journey

The great part of Growth Efficiency is that it can easily be used to benchmark the business. The numbers needed are easily available in the public domain. Here’s how Marketo looks with our analysis.

The shaded green area represents the total cash burned by Marketo during the years we plotted the company. Now lets add Box and Zendesk to the analysis.

What we find is that companies that have a GE in the Orange section are market driven investments — i.e. the market is so hot in the space that the investor is willing to invest when the underlying financials aren’t necessarily great because the potential upside is huge.

If a company is being presented in our partnership meeting with a GE below one, it means the person presenting is going to need to have greater conviction around why we should invest. The team, market, and/or product have to be very exciting to get the partnership convinced.

Efficiently Using Your Time

The whole reason we came up with GE was to save time. For us this relates to the trend-line of 1, which we call the “Fundable GE.” If a company has a GE of above 1, it’s fundable. This means the team can begin to dig into diligence.

If a company has a GE below the “Fundable GE,” then it begins to draw some red-flags across the firm. This is demarcated by the orange and red zones. When a company falls into these zones, it means there needs to be greater conviction around the company or market that urges us to start diligence and potentially invest.

In general, the placement of the “Fundable GE” line is highly dependent on market conditions and over-all interest in the investment community around the sector. In todays investing environment, we think the most exciting SaaS businesses that have found product market fit and have a repeatable sales process will have a GE of around 1. That being said, this line can shift down if the sector is hot — this is what happened with Box and this is what is likely currently occurring with companies in the Drone, VR/AR, and AI spaces. In our analysis you can see this as being represented by the orange section.

Price of Growth

The standard Silicon Valley high growth strategy no longer applies in todays market conditions. In the standard strategy, high growth startups raise huge amounts of cash (think Box and Uber) to grow very aggressively despite incurring a huge cash burn.

The fundamental assumption is based on a high price of growth, which rewards the companies for high growth. Unfortunately, the viability of a high growth “at all costs” strategy no longer exists.

Instead, the cost for acquiring growth will need to trend downwards. Our analysis of GE shows how company journeys should begin to look in the current environment.

The chart above shows the relationship between GE and growth rate for Marketo, Box and Zendesk. Today, we expect more companies to mirror the growth rates of Marketo and Zendesk. That is, they spend less to acquire their growth. The bar, simply put, is just higher.

Growth Efficiency is, in our belief, the easiest way to see whether a company measures up.

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