NEW! Read the article
The 1981 classic movie Indiana Jones and the Raiders of the Lost ArkThe search for the Ark of the Covenant is underway. Indiana, played by Harrison Ford as the protagonist, discovered a set instructions on where to find the Lost Ark.
Instructions are written on both sides of a medallion. Bad guys may have only gotten the instructions on one side of the medallion, so they might not have known the exact location.
Belloq and Indy realize this, and exclaim “They are digging the wrong place!”
The Marketing and Sales Funnel Does Not Provide a Complete Picture
The traditional marketing and sales funnel provided a clear path to growth that was step-by-step. This is how it works:
- Find leads that you can turn into opportunities over time.
- These opportunities can be turned into deals over time.
- You need to win more business deals if you want to grow quicker.
- To win more deals, you will need more leads.
This formula has worked for decades and is still the basis of B2B marketing and sales teams who sell hardware and software under one-off contracts with upfront payments.
Growth in a recurring revenue business like software as a Service (SaaS) is not just about acquiring new customers, but also about selling more to existing customers. This is even more true when you consider that at $20M per year in recurring revenue, the balance of growth for a SaaS company does not come from acquiring new customers but rather from growing the existing customer base.
Growth from expansion occurs entirely outside of the traditional marketing and sales funnel. The framework does not show the growth of the expansion, so those who use it miss important information. Like in the movie. Companies continue to look in the wrong places for growth. Companies are spending more on leads and salespeople to meet the ever-increasing demand for growth.
This is not an exception. It is the norm.
A few years ago, I was working with a company about to go public. Let’s call this NewCo. It is a well-known company. NewCo’s annual recurring revenue stream was well above $100M by the time it went public.
NewCo’s executives met once per month to review company growth metrics. This was done in order to align all functions. Each slide represented a growth metric in the sales and marketing funnel. The deck was 48 slides. The 45th slide was dedicated to cutting and dicing growth from acquiring customers. This included leads generated per campaign and the performance of salespeople. It also showed average deal sizes across different channels and segments such as SMB and mid-market.
The last three slides focused on current customers’ growth. These three slides showed that the renewal rate was much higher than the market average and that expansion sales were responsible for more than 70% of growth at a fraction of the cost.
However, executives only reviewed the deck once per month and never had the time to look at the three slides.
This is what I mean when I say “digging in the wrong spot”.
Scalable vs. Sustainable SaaS Business Growth
NewCo eventually went public and its stock trades at a fraction the strike price today. Why? Growth from acquisition is scalable but ultimately unsustainable.
- Scalable growth: Get more, do more
- Sustainable growth: Get more for less
NewCo’s growth rate began to decline, which is a natural result. The leadership team at NewCo increased the pressure for continued growth by spending more on leads and hiring more people. This was the only way it could see in the traditional marketing and sales funnel. This led to an increase of the Customer acquisition costs Nevertheless, the rate of growth naturally decreased.
After the company was listed, the cost of growth became the main determinant of the company’s performance. Leadership would have been better equipped to understand and see the causes of growth in a recurring revenue business. They would also have seen that expansion (current customers) is less expensive than acquisition (new customers), and that expansion costs are declining. The company would have invested more in customer success and account management.
Three Signs You Know You Are Digging in the Wrong Place
After working with hundreds of SaaS businesses, I’ve noticed three signs that companies have more than $20M in annual revenue (ARR). They are looking for growth elsewhere.
1. Winnable Deals: A Maniacal Focus
SaaS companies are growing quickly. The growth begins with winning deals. However, the majority of growth comes from current customers.
It’s not uncommon to encounter organizations with a maniacal focus that focuses on winning new business at all costs. This maniacal focus can lead to too many customers being brought in, which ultimately increases churn. Customers leave when they realize they aren’t the right fit. The more you win, however, the more deals you lose. This leaves an organization feeling like they are “swimming downstream”.
Instead, you should be focusing on customers who have high chances of making a real difference in your business.
2. There is a huge demand for leads
Ask sales executives what they need in order to double their sales. Most sales leaders will answer, “Double the leads.” This assumes that there is a linear relationship between wins and leads. This is incorrect. The relationship between leads and wins is exponential.
This phenomenon occurs when the economy is in decline. Companies notice an increase in sales as a result. All downstream conversion rates suffer.
Instead, focus on quality and not quantity. As they work with you, educate your leads and make sure they are the right fit.
3. Customer Success that is Only about Happy Customers
When selecting KPIs customer successCompanies typically choose ARR managed, churnmetrics, and Net Promoter Score (NPS).
NPS can be a powerful emotional gauge of the champion at an account. However, it does not give a complete picture about how successful that account uses your product or service. The same goes for churn metrics. A vacuum of them can paint a different picture, and lead to incorrect conclusions.
Instead, focus on net revenue retention (NRR). This demonstrates the true impact you have on your customers. If you deliver results, they will continue to do business with you and, over time, expand their relationship. That is precisely what the metric does.
* * *
SaaS startups at their infancy need to not only focus on winning deals, but also depend upon it. This is what will get you to $1M in ARR and then to $10M.
Once you have at least $20M in ARR, the shift towards retention begins. You must have made the transition once your business has reached between $60M-$80M in ARR.
It is not uncommon for companies to take two years to make the transition. This is due to company culture and internal politics. If you have approximately doubled your revenue in the early stages of your company, it is time to make the shift once your ARR is between $20M-30M.
SaaS companies that recurring revenue are required to adopt a bow tie model. You will most likely dig in the wrong places if you don’t have a bow tie at $10M ARR.
Next week: We’ll be looking at the bow tie model and how it works.