The Wand Chooses the Wizard
11/13 OpenView Capital Markets Roundup
Our 2020 SaaS Benchmarks report launched this week! You can read it here. As with every year since 2017, we surveyed more than 400 companies (aggregating more than 1,200 responses across prior years) to visualize the performance of private software companies. While it is nice to look at the high-growth, public companies like Datadog, Snowflake, or Zoom… the performance of the best performing companies isn’t particularly relatable for most private SaaS companies. This year our report asked a big question: how were private software companies impacted by the pandemic? While brokerage accounts and earnings releases suggest public companies continue to see strong demand, it is with our benchmarks data we can see that is also the case in the private markets! We’re encouraged by how proactive companies were in preparing for the worst during March / April, but companies have remained efficient in customer acquisition, so we think it’s time they get back to investing in product and GTM to make CY2021 an accelerating growth year (which my colleague Kyle expanded on here). We also explored topics like diversity, founder attitudes, product teams owning revenue, and more!
One question I often get is “how do I use benchmarks”? The way I answer this is by first describing what benchmarks are. Imagine you’re driving down a three lane highway. Then think about the speed limit, which I believe happens to be a really good metaphor for benchmarks. In the left lane of a 65mph zone much more than 80mph will earn you a speeding ticket, in the center lane somewhere between 65-70mph is typical, but in the right lane much less than 55mph and you’re going to create a whole lot of angry Boston-area drivers hyped up on their morning Dunkin Donuts. For any stretch of highway with any speed limit – any SaaS metric – there is a range of “speeds” one can go. Of course for a SaaS business the challenge is that there is no one north start metric: creating value is a problem with multiple complex variables (6 or more three lane highways stacked on top of each other).
Our report solves this complex problem by providing the ranges of peer performance for each different metric from growth to gross margin to sales efficiency to retention for operators. So then how to use them?
Well, there is a difference between a business whose peer set benchmarks are venture backed companies with $10-20M in ARR growing more than 50% and burning cash vs. one whose peer set benchmarks are bootstrapped, profitable businesses with $10-20M in ARR and 10-30% growth.
Both can create incredible value but the risk / return profile and shareholders interested in each are just different.
At the end of the day it all comes back to shareholders – what kind of investors, executives, and employees is a company trying to attract and what will they want from performance of the business to match their risk / return appetite? Said differently: just as the wand chooses the wizard (a la Harry Potter), so too does a company choose its shareholders. Performance vs. benchmarks creates shareholder alignment. What kind of business you want to build, and who you want to build it with comes out of benchmarks. Do partners want top quartile growth at the expense of capital efficiency (growth at all costs a la Softbank), so lots of cash burn? Or do they want so-so/median growth and best in class efficiency metrics that can tolerate significant leverage to juice equity returns? Perhaps maybe they want something in between? Some people prefer growth, some prefer profit, some are in the middle. So know your landscape of potential investors, know what their bright lines on key metrics are, and optimize performance vs. benchmarks for that. Because no matter how great your business, if you can’t attract shareholders to support capital structure of your company you’re dead in the water.
Benchmarks – specially your performance vs. benchmarks is what deliver investors “permission to believe” that your model will meet their expectations. But I’d be remiss to not also acknowledge that there are a lot of qualitative inputs that play a role as well – management team quality, market size, differentiation, defensible competitive advantage, and more that can meaningfully impact the ability to attract the right shareholders (i.e. create value). The hard data coming out of our benchmarks are important, but don’t forget “boards need an investor perspective” to tell the whole story.
Market & Economic Data
The public market indices (save for the SaaS index) we track had another terrific week: SaaS -5.05%, Dow +4.08%, NASDAQ -1.97%, S&P 500 +2.16%. In fact, on Friday the 13th, the S&P closed at its highest level ever. All major indices – at long last – have passed their February ‘20 ATHs.
On the economic side, the November FOMC meeting last week was largely a non-event (rates to remain the same until unemployment comes back towards 4%). This week there were positive data points as the labor market continues to improve, manufacturing is doing well, etc.
Market & Economic Commentary
I enjoyed some dialogue on Twitter this week around the concept of liquidity vs. the present value of future cash flows. While we believe businesses are worth the latter, the reality is the former: a business is worth whatever someone is willing to pay (liquidity).
The future cash flows might be worth $1 today, but if the market will only offer to $0.50 for them, that is what they’re worth (their “intrinsic value”). While I plan to expand on this next week, I think it is a helpful framing of the declines in SaaS prices – any individual participant is only every willing to pay what she wants to pay. No more, not less. As “reopening” dialogues permeate (despite worsening case data) on the back of vaccine hopes and reopening trades become more and more popular (i.e. theaters, airlines, cruises) I’m reminded of the SaaS tourists I wrote about in June. This is especially on my mind as the public SaaS index that we track declined for the second straight week. As I wrote then, when equity opportunities with more compelling profiles emerge tourist investors will rotate out of software, and SaaS will have merely acted as a high yield savings account in the bad times, and an easy ATM in the recovery. Yes, we can argue about strong growth, tailwinds, and market size… but many people were also willing to pay more than $1 for the safety of SaaS. So as potential returns compress given the expectations baked into prices, it only makes sense that investors seek to find alternatives.
On the economic side, Steve Andrew at Webster Bank wrote: “…stocks found their mojo again as the prospect of a divided government, with a Democrat-controlled House and a Republican-controlled Senate, reduced the odds for sharp tax hikes and more regulations, while keeping the odds for another stimulus package high. On the other hand, the push for a “green new deal,” changes to Senate rules (like eliminating the filibuster) and the Supreme Court, will be tabled for now and, for good or bad, the status quo remains and stocks rejoiced at that outcome. As we’ve said before, the stock market is not the economy, but the markets, by and large, point in the right direction as they process all the information currently available to them. And, when stocks rise, it typically signals a vote of confidence in US companies and their prospects for future profits which…the virtuous cycle that lifts an economy.”
What Else We’re Reading
Guess the Correlation. New subscriber? Check out some of the best hits:
SPF Infinity (public SaaS retention teardown)
Be Like Mike (on VC predestination & valuations in 2020)
The limit does not exist (interest rate policy and SaaS)