For a long time, a prominent theme in the SaaS industry was achieving growth at all costs. This makes sense to a certain extent, especially during the bullish exuberance of an industry’s opening phases.
But like most stories, the narrative around SaaS growth has changed as the years have passed–and especially lately, as leaner market conditions have many organizations on the back foot.
Now, rather than “growth at all costs,” the mandate for SaaS CFOs has become “efficient growth.” What does it mean to grow efficiently, and how can you ensure optimized growth now and in the future?
What is SaaS growth efficiency?
SaaS growth efficiency can be split into 2 useful pieces: a concept, and a formula.
Growth efficiency: the big picture
The general idea behind growth efficiency is that companies should scale intelligently. This means achieving growth in a financially sound way. In other words, you need to be careful not to spend too much on every dollar of revenue you acquire.
Growth efficiency index (GEI)
A company’s growth efficiency index (GEI) is an objective measurement of how efficiently it’s obtaining revenue. To find your current GEI, use this formula:
GEI = Current year’s sales and marketing costs / (Net new ARR – Current ARR)
Generally speaking, SaaS companies aim for a GEI of 1.0 or lower. Anything much higher signals that you’re not acquiring revenue as effectively as you could be.
Benefits of tracking SaaS growth efficiency
Like other metrics and KPIs, your GEI offers an objective reference point for gauging your organization’s financial performance.
Among other benefits, tracking your GEI with cloud-based financial management software can help you:
- Avoid many of the traditional growing pains and bottlenecks faced by SaaS companies.
- Demonstrate to investors that you’re growth-minded but not reckless.
- Gauge your financial performance in real time and adjustment as needed.
Let’s compare growth efficiency to another important SaaS metric.
SaaS growth efficiency vs. the magic number
The magic number is another revenue formula that gauges growth and performance efficiency.
Your GEI only measures the efficiency of growth as it relates to new customers. This is extremely useful because it provides a detailed snapshot of one particular aspect of your corporate growth: your new ARR (annual recurring revenue).
But sometimes you need a more inclusive view of your overall efficiency. That’s where the magic number comes in. It measures total revenue efficiency, not just your newly acquired revenue.
The magic number is usually calculated for quarters or months. To find it, subtract the present quarter’s revenue from the last quarter’s earnings, multiply the result by 4, and then divide that number by the previous quarter’s sales and marketing spend.
These metrics have a complementary relationship, and they both hold important information about the trajectory of your company.
How do these two metrics work together?
Cloud-based financial management software makes it easy for finance professionals to track these two metrics in tandem.
SaaS CFOs use this pair of KPIs in a mutually-reinforcing way. Your GEI specifically tells you how efficiently you’re generating new ARR (annual recurring revenue).
This is extremely important to investors and your board, but it’s only half the story. The magic number fills in the other half by showing how efficiently your firm is generating new revenue and holding on to previous subscriptions.
An attractive GEI of 1.0 or lower is always something to aim for. But that needs to be counterbalanced by a similarly strong magic number for the same period.
A low GEI paired with a high magic number tells you that your company isn’t holding on to new customers very effectively. The “magic combination” is for your GEI and magic numbers to both fall below 1.0.
SaaS growth efficiency and company maturity
As your company scales, your GEI should ideally drop. This reflects a decline in your customer acquisition cost (CAC) and rising customer lifetime value (CLTV).
Automation creates the internal infrastructure to seamlessly facilitate this trend.
SaaS organizations that incorporate automation pave the way for sustainable scaling over time.
Firms that take the “growth at all costs” approach frequently see strong initial performance followed by a reversal as they start to lose subscribers.
It’s much better to get things right the first time around instead of doubling back to compensate for past mistakes.
Maximizing your SaaS growth efficiency
Putting cloud-based, automated software to work in your department is just one way of optimizing your SaaS growth efficiency.
Here are some other best practices well worth considering:
- Running monthly forecasts to ensure that your positive momentum is on track to continue.
- Using role-based dashboards to maximize the effectiveness of your team.
- Automating revenue recognition with a single source of truth–rev rec gets much trickier as you scale, leading to revenue leakage.
- Trading in disorganized spreadsheet budgeting for cloud-based automation. Accurate budgets make for profitable quarters.
In your efforts to grow as efficiently as possible, there are also some common problems to watch out for.
Growth efficiency sticking points
Below are some of the worst offenders when it comes to keeping SaaS companies from growing as effectively as they should.
Lack of cohesion across departments
Data siloing is one of the worst impediments to optimized SaaS growth. When companies silo their data, each department houses and updates its information independently. The info then gets manually sent back and forth through email attachments.
This leads to potentially serious errors in forecasts and reports, lost information, cyber liabilities, and many other problems. What it doesn’t lead to is efficient growth.
Untamed regulatory chaos
Recurring revenue companies are beholden to complex regulations like ASC 606 and others. If you handle compliance manually, these complexities will only compound as you scale.
Incomplete financial data
Insufficient reporting granularity can be a big impediment to corporate growth. It leads to finance teams formulating plans based on a financial picture that’s only halfway drawn.
Cloud-based financial management is helping SaaS CFOs gracefully leap these hurdles and many others like them.
Automated software provides real-time regulatory updates, comes equipped with an exhaustive library of SaaS metrics, links up departments with an SSOT, and much more.
Growth is essential
As a SaaS finance pro, you’re instinctively attuned to the value of metrics. They help you chart your organization’s growth and results across time, allowing you to proactively steer the direction you’re heading in. As essential as they are, however, metrics only reflect results back to you.
The secret to sustainable long-term growth lies in fine tuning and expanding your financial leadership skills, rather than a single strategy.
Navigate the future of SaaS finance with tips and tricks to help you identify the metrics that matter for your business on the Modern SaaS finance academy.We have curated lessons taught by industry leaders and subject matter experts on topics including how to achieve success throughout your company lifecycle, the 6 C’s of SaaS finance and so much more!
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Modern SaaS Finance Academy
The Modern SaaS Finance Academy is a free online training hub designed for CFOs, Controllers, FP&A, Revenue managers, Revenue Operations, and other members of the finance community in fast growth SaaS companies.
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