Data Driven Decision Making


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Research shows that the most successful companies use benchmarking as a key management process and information tool. As your company develops its annual strategic plans and budget, it helps to understand where you stand relative to your peers and competitors. Deviating from benchmarks isn’t good or bad: But it is important to know why and by how much you deviate in order to test and justify your decisions.

OPEXEngine Founder and CEO Lauren Kelley delivered this “Data-Driven Decision Making” presentation to an audience of over 100 CFOs at an invitation-only event hosted by General Catalyst Partners, a Boston-based venture firm on 19-Oct-2011.

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Data Driven Decision Making

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  2. 2. We all think that we are incredibly rational in our decision-making, open to newinformation, always searching for the best answer regardless of where it takesus, but the reality is that we tend to have blinders on based on how we’vealways done things and past experience. This has often been the case insoftware management. Recently, though, there’s been a shift in managementaway from basing decisions on “gut instinct” and what one Microsoftresearcher called: “HiPPOs” or Highest Paid Person’s Opinions.Prof. Erik Brynjolfsson at MIT/Sloan has been doing work with very large firmsshowing that a one standard-deviation increase toward data and analyticscorrelates with a 5-6 percent improvement in productivity and a slightly largerincrease in profitability in those same firms. After benchmarking hundreds offast growth software firms over the past 5 years, I would venture to suggestthat with smaller companies, an even stronger result can be seen inmanagement efficiency, productivity and minimizing risk, as well as makingfaster course corrections along the path to growth. 2
  3. 3. Research shows that the most successful companies use metrics and benchmarkingas a key management process and information tool. The popularity of benchmarkingin this country originally grew out of the manufacturing world, especially in looking atJapanese manufacturing and comparing best practices. Benchmarking didn’t reallytake off in the software industry, or at least for budgeting and managementprocesses, but was applied to some extent in the software development area tobenchmark the coding and testing process.After the disruptions of the 2001 and 2008 economic downturns, with the rise of theSaaS business model, plus extensive use and experience with affordable financialapplications, CRM and other analytics tools, software companies are embracingbenchmarking and metrics today. Especially SaaS vendors. And the investmentcommunity and external shareholders require good data and good peer comparisons– they are looking at it themselves – to support investments in software ventures.Evidence of data-driven decision making, and a good grasp of key metrics in acompany helps drive the value of that company, especially any private company.We find in our own work that our clients that are the most driven to examine the data,metrics and comparisons, are the ones that tend to perform the best and have thehighest revenue growth. Because we see their data, I know this is a fact; we see thatevery day.Benchmarking has its limits, but is a useful tool to drive decisions based on datarather than by intuition or how things were done at somebody’s last company. Ialways tell companies that deviating from the benchmarks isn’t good or bad, it is justimportant to understand how and why you are deviating from a benchmark so thatyou are choosing to be higher or lower to fit your particular business, rather than noteven knowing what the benchmark is. 3
  4. 4. SaaS is all about the numbers. As the SaaS business has evolved,management has had to dig deeply into the numbers to track how resourceinvestments are paying off, and how customer numbers are growing, whileexamining in detail the cost of acquiring and maintaining a customer. SaaS,as you all know, is a trickier investment upfront because the vendor has tobuild a great product which is turn key for the user, take care of allinfrastructure investments, and get paid on a subscription basis, not all upfront. Gone are the good old days when it was all about building a really coolproduct and selling the heck out of it by whatever means possible and movingon to the next customer. And gone are the days when your customers wereyour beta testers and the testers for a variety of environments.But, with SaaS, gone are the days when you had to start each quarter at zeroand run til you dropped at midnight on the last day of the quarter. So, onceyou get past the initial hurdles and get to a scaleable model, a profitablerecurring revenue stream in a SaaS company is very profitable and highlyvaluable. The question is: how do you navigate the hurdles to get from start upto a profitable recurring revenue stream and solid, growing business. 4
  5. 5. In early stage companies which are still building products, the key metrics for thosecompanies are around the overall cash burn, cost per employee, and relative costs byfunction. For early revenue and early stage companies that are still defining their targetcustomer profile, and business model, these metrics are important to track closely to ensurethe company has the runway to get to the next stage where it can scale the business.As the business scales, companies tend to focus mostly on operating expense by department– what’s the right expenditure on sales, on marketing, on G&A, on support, on R&D at aparticular stage of the company. And companies need to get into greater detail than just themacro expense per department.One area that doesn’t get talked about enough where we see companies having to focus oneven as they scale is hosting expense and the cost to maintain a customer. Hosting expensehas come down with the availability of services in the cloud, - for example, this past year, wefound small, private SaaS companies (about $8.5M revenues) spending 3.6% of revenueon hosting expense, while even in 2009, companies roughly the same size werespending 8-9% of revenue on hosting expense.Hosting expense doesn’t seem to have a nice economy of scale trend line down evenly as thecompany grows, typically, it goes up as revenue and the number of customer grows, and thenat a point which varies for different types of applications and models, starts to achieve someeconomy of scale, but hits bumps as additional data centers are built out, or availability,security issues, etc. are expanded. 5
  6. 6. In the early stages of a SaaS company, cash flow is THE critical metric totrack. We’ve watched as SaaS companies have learned to conserve cashflow over the years, from 2007 and 2008 when the SaaS model was taking offand companies, especially venture-backed firms, had around 8% negativecash flow as a percent of revenue, which went up in 2009 as the recessiontook hold, but by 2010, we saw early stage companies getting on top of cashmanagement and becoming almost cash flow positive (and since this is anaverage, many were cash flow positive) by the end of 2010. 6
  7. 7. Here’s data over time for larger SaaS companies, comparing 2010 and 2008,one peer group averaging $57M and another averaging $61M – so roughlysimilar in size. 2008 was a year of spending and growth for a lot of venture-backed software companies as budgets had been set to expect high growtheven though the recession was getting started, as compared to 2010 whencompanies were clearly more careful about spending, even though theeconomy, especially markets for successful Saas companies, seems to haveimproved. Generally, SaaS companies are showing greater efficiencyreflecting more conservative cash management. Even Successfactors(SFSF), which as a public company in 2008 at $112M spent 105% of revenueon SG&A, brought that down to 66% of revenue in 2010 (while doublingrevenue during that time period).The largest public SaaS companies in 201 showed a large increase in cashgrowth, averaging 17.5% cash from operations as a % of revenue. Thisbenchmark is for companies averaging $186M in 2010 revenues. 7
  8. 8. Lets look at the key metrics for SaaS companies: customer metrics. In an earlystage company with early customers, the critical metrics to watch are around the costof customer acquisition (coca), cost of sale, average deal size, implementationcosts, and costs of maintaining the customer. The key focus for this phase of thebusiness is to develop a solid and repeatable sales model that can bring the companyto profitability and growth.One of the metrics which is well discussed in SaaS circles is the “MagicNumber”described by Josh James, CEO of Omniture at an industry summit to explainhow Ominiture tracked their customer profitability and whether or not to add gas inSales & Marketing, or not. Basically, you take a quarter’s incremental revenuegrowth, multiple by 4 to annualize, then divide by last quarter’s S&M marketingspend. According to James, anytime the magic number is .75 then you should spendmore and put gas on your sales and marketing to bring in more customers. If yourmagic number is 0.5 or less, then there is something wrong with your model. Again,the key is watching your sales and marketing spend, and revenue growth.One assumption in this model is that you have very low Churn rates, Omniture wasshooting for 95% renewals or better. The industry average is about 15% churn orless. We look at both customer renewal rates by number of customers renewing andby amount of dollars renewed. For example, if you had 100 customers up for renewalfor contracts totalling $10M, and all 100 customers renew, you have a 100% renewalrate, but they renewed contracts now totalling only $8M, you have an 80% renewalrate by dollar value (or conversely, they renewed for a total value of $12M, yo u havea renewal rate of 120%. You can see these benchmarks in the next two slides 8   8
  9. 9. Here we have customer renewal rates for smaller, private companies andlarger public companies in 2010 and for small versus larger companies in2009. As you can see, the renewal rates by customer is higher for the largercompanies, which makes sense as they presumably know their market andtarget customers better, so are more likely to keep them, and they have betterresources to support their customers, also helping them keep them. Also, wetend to find that companies selling subscriptions at a higher average contractsize, for example, over $100k/annually per customer, have less churn thancompanies selling a low average contract size. 9
  10. 10. We typically see renewals by dollar value being slightly higher than thenumber of customers renewing. This means that companies are maintainingthe value of contracts and increasing them. 10
  11. 11. I spent 20 years building businesses for small and large companies, in the PCsoftware world, in enterprise software and internet infrastructure andapplications and I wish that I had had better information as I was makingdecisions, so I started OPEXEngine. We started by developing our owncontent through the confidential software benchmarking, and now are startingto develop information products incorporating a variety of data sources, but allfocused on the small and mid-sized corporate market and giving executivesdata reports so that you can spend more time analyzing and making informeddecisions, instead of spending a lot of time and personnel resource compilingdata. 11   11
  12. 12. I’d like to encourage that all of you that are building your software company participate in ournext confidential software benchmarking which annually takes place in the Feb/Marchtimeframe and will cover the previous year’s financial and operating data. We includecompanies from $1M to $350M in revenues, so this obviously includes private and publiccompanies. Over a hundred software companies participate by inputting their data directly intoour secure on-line system. We have a team of accountants and statisticians who help us cleanand sort the data, and we have been doing this for 5 years now, so we have an extensivedatabase with over 50,000 data points.Participating companies receive an individual company report, which shows their data againstseveral peer groups. We look at the data not just by similar sized companies, but companieswith similar types of business models. For example, companies selling SaaS applications tothousands of customers at a low price point with an inbound internet marketing strategy,versus a peer group of companies with a higher price point selling more into the enterprisespace. Participating companies also receive the overall Software Industry BenchmarkingReport and we’ve just built out a new interactive custom benchmarking system for participatingcompanies.Last year, benchmarking participation cost $999 for companies under $10M, and $1995 forcompanies over $10M. Many participants have told me they have easily saved theparticipation price through looking at peer expense benchmarks. But more importantly,companies use the metrics as part of on-going management, which has a far greater value.Please register at: if you are interested in being informedabout participating in the 2012 benchmarking.We work with CFOs and CEOs, as well as investors to define the most useful software andSaaS metrics to track each year. I invite you to participate, and also to help us define whichbenchmarks are most important for you to track in growing your business. Please feel free tocontact me directly at: Thank you. 12