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If you want a fair valuation to impress investors or potential buyers, forget vanity metrics. Instead, keep your eyes trained on the most impactful financial metrics.
In the previous article (Part 1), we talked a lot about what metrics to track and analyze. We also touched upon what drives investor decision-making.
In Part 2 of this article, we highlight how to derive usable information from complex financial metrics and navigating the impact of customer and markets on valuation.
How to turn data into digestible information
It's easy to get distracted by new KPIs that are being developed all the time. But, for most people, without a background in finances, cash flow is important.
Mads Kunov, a director at Ernst and Young (corporate finance), said, “You know at the end of the day, people understand revenue. Most people nowadays also understand ARR, cash EBITDA, and EBITDA. The man on the street may not understand gross margin, ACV, and NRR, but you can easily explain it to them. So, when we present to trade buyers or investors we really focus on graphics and a few powerful numbers that summarize: Does the business have happy customers? Is it's revenue growing? What percentage of the revenue is recurring?.”
To keep investor interest, it's very important to identify the KPIs and metrics that show the momentum of the company. And a lot comes down to the ACV bookings - the new deals that you have but are not visible to accounting yet.
One key benefit of harnessing the ACV bookings KPI is that it inherently looks ahead and describes future revenue events, both growth and churn. Bookings, in combination with ARR, is especially powerful when describing the health of a business.
Johan Castevall, Chief Financial Officer, Younium & SaaS Investor, Partinc Capital, went on to highlight the importance of the sales pipelines. “When it comes to pipes materializing and conversion rates, I think that is a good complement to the ARR. It helps keep your eyes in the front window and not the rear window,” he said.
The challenge though is that businesses just do not typically showcase their sales pipeline. The reason: people hate tracking it.
Customer and market impact on valuations
Churn is a huge indicator and valuable metric to be used in the valuation process.
And the thing about churn is, it needs to be analyzed based on the size of your company, size of your market, and the product itself.
For instance, you may have a market segment that consists of a lot of very volatile elements, in a B2C market. And in that context, a churn of about 2% per month may be perfectly acceptable. Meanwhile, in a B2B market with long sales cycles, the same amount of churn could be alarming. Either way, you can't just ignore this churn or make it go away. What you can do is replace churn-led losses with growth and expansion revenue.
David Reiling, Strategic Advisor, Former SaaS CCO, explained this strategy by offering the analogy of a sieve. When pouring water into this kitchen utensil, some of it trickles out. And to retain consistent volumes in the sieve, you need to make sure that you're adding some more water to it. Similarly, in the case of churn, you need to make sure that your overall revenue is maintained by securing additional revenue from your existing customer base.
Consider another scenario that involves a very stable customer segment, consistent contracting models that are multi-year, and a sticky product (one that's very challenging or expensive to switch from). Here, the churn in that market is likely to be very low.
In such cases, it's hypo-critical to understand the churn trend of the past and the future, because losing even one customer can cause a huge drop in the valuation of the company.
And the most important thing to consider about churn is the fact that it is not a simple snapshot. “We spend a lot of time analyzing the churn activity that has happened and trying to do a cause-analysis. But then we don't take that information and proactively extrapolate what's going to happen in the future. So, it's a huge opportunity to be able to use churn to your advantage to predict where your company is going. And that's what a lot of the funding entities want to hear about,” David added.
Jorge Fuenzalida, Managing Partner, JLA Advisors, said that churn ties right into NRR. If you're in the B2B market, and you are lucky enough to sign a 3 year contract, you may have done something in those first four months that will ultimately predict the churn at the end of the customer lifecycle. So, you need to work at continually winning your customers each month, by offering innovative pricing, support solutions and proactive upgrades.
The future of SaaS valuations: subscription management software
There's still a huge opportunity out there for investment and return in the current market.
Aart Bijkerk, Director, Clearwater International, believes that if you have a profitable business and you feel your valuations aren't high enough, it's a great opportunity to try and acquire a competitor.
“That is something companies haven't looked at because valuations were so high. But in a market that isn't as hot as before, it could be an opportunity in the near future,” he added.
And, to that end, all panelists agreed that it is very important to keep track of your growth momentum KPIs using a subscription management system.
Cedric Notz, CEO & Founder, Float, said, “Data quality is super important. And what we see, especially for debt funding, is that larger companies and larger SaaS companies use some sort of subscription management software but smaller companies don't. So, it would be great to see more small companies using some sort of subscription management software that shows that they're really on top of their KPIs.”
In conclusion, experts suggest that subscription management software can help businesses keep track of their growth momentum KPIs, which is particularly important for smaller SaaS companies seeking debt funding. To learn more about effective metrics tracking, be sure to check out our metrics guidebook or request a demo from us today.