David Cummings on Startups

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  • Quick Thoughts on Product Pricing

    Earlier today an entrepreneur asked about thoughts on product pricing. I’ve found that product pricing evolves over the life of the startup based on a number of factors including competitive dynamics, target markets, corporate strategy, and overall value to the customer. Here are a few more specific ideas around pricing:

    Pricing should be treated like everything else in the startup: an iterative element that warrants regular experimentation and improvement.

    What else? What are some more good resources on product pricing?

  • Think Gross Margin When Considering Metrics

    Earlier today I was talking to a growth stage startup in town and was reminded of the importance of gross margin when considering metrics. From Wikipedia:

    Gross margin is the difference between revenue and cost of goods sold, or COGS, divided by revenue, expressed as a percentage.

    In the SaaS world, gross margins are assumed to be in the 75-85% range such that the heuristics, like The Golden Metric for SaaS – $1 Burned for $1 of Recurring Revenue is consistent from company to company. Yet, most companies don’t have SaaS gross margins (and different cost of goods sold), such that when thinking about metrics and best practices, they should be recalibrated for the gross margins of the specific company. Meaning, if the Golden Metric for SaaS is $1 of cash burned for $1 of net new annual recurring revenue, that assumes 80% gross margins. If the company has 40% gross margins, the Golden Metric would be $1 of cash burned for $2 of net new annual recurring revenue (half the margin so need twice the revenue).

    Whenever you hear metrics and best practices mentioned, factor in the gross margin.

    What else? What are some more thoughts on considering gross margin when thinking about metrics?

  • The Golden Metric for SaaS – $1 Burned for $1 of Recurring Revenue

    Thinking more about the post from a couple weeks ago titled Evaluating a Startup Based on Cash Burned vs Recurring Revenue and how the same idea was brought up again two days ago in Bessemer’s 2017 State of the Cloud Report, I’ve come to believe that $1 of cash burned for $1 of net new recurring revenue is the Golden Metric for SaaS.

    As an idea, it’s easy to understand.

    As a metric, it’s easy to track.

    As a way to create value, it’s excellent.

    As a benchmark for entrepreneurs to measure against, it’s perfect.

    Some startups will choose to burn more than $1 for each $1 of new new recurring revenue, but most won’t have that luxury. Startups that achieve scale, and burn $1 (or less!) for every $1 of net new recurring revenue, will do well for all stakeholders involved.

    What else? What are some more thoughts on the Golden Metric for SaaS being $1 of cash burned for $1 of net new recurring revenue?

  • 5 Questions to Ask When Evaluating a Market

    Looking back on the recent posts, including Bessemer’s 2017 State of the Cloud Report and 12 Key Levers of SaaS Success, it’s clear that the core market is critically important for any of the metrics and ideas to matter. Without a great market, worrying about things like how much cash to burn won’t even be relevant. Here are five questions to ask when evaluating a market:

    1. Where is the market in the adoption lifecycle? Ideally, you want to be 2-3 years early so that there’s a great foundation in place when the market really heats up.
    2. How big can the market become? Most entrepreneurs talk about a market being X big (say $2 billion/year), when in reality that’s all the spend in the market and not the spend on software in the market (which might only be $100 million/year). Potential market size is crucial.
    3. Why now? Besides the size and adoption component, ask the core why question. There should be a compelling reason why now is the time to enter the market (market shift taking place, new innovation, new trend, etc.).
    4. Where does the budget come from? Customers have to figure out how to pay for the solution. Existing budget vs new budget makes for a different dynamic. Departments that are used to buying solutions vs ones that rarely do makes for a different dynamic. Figure out the budget question.
    5. How bad does the market need the solution? The must-have vs nice-to-have dynamic never goes away. Pain killers demand a premium over vitamins.

    Picking a great market and timing it perfectly are two of the most important things an entrepreneur can do. Never underestimate the importance of these when evaluating the potential for success.

    What else? What are some more questions to ask when evaluating a market?

  • Bessemer’s 2017 State of the Cloud Report

    There was so much good content at the SaaStr Annual that it’s going to time to get through it all. Next of the list is Bessemer’s 2017 State of the Cloud Report.

    http://www.slideshare.net/AnnaKhan9/the-state-of-the-cloud-report-2017-bessemer-venture-partners

    Here are a few notes from the Bessemer slide deck:

    • 40% of the market cap of publicly traded SaaS companies has already been acquired representing greater than $300 billion in value
    • Key questions from top CEOs:
      • How fast should I be growing?
      • How much should I burn?
      • How do I scale?
    • How fast should I be growing?
      • Dropbox is the fastest SaaS company ever to hit $1B in run rate (did it in eight years)
      • The pace is quickening for SaaS companies going from $1M – $100M in recurring revenue (5.3 years for top 25%, 7.3 years median, 10.6 years bottom 25%)
      • BVP Growth Benchmark for ARR
        • Good
          • $1 – $10M in four years
          • $1 – $100M in 10 years
        • Better
          • $1 – $10M in three years
          • $1 – $100M in 7 years
        • Best
          • $1 – $10M in two years
          • $1 – $100M in five years
    • How much should I burn?
      • Rule of 40 = % Annual Revenue Growth + % Profit Margins
      • Efficiency Score = % Annual CARR Growth + % Burn
      • BVP Efficiency Rule (> $30M ARR)
        • Expansion ($30 – $60M ARR) – 70% efficiency score
        • IPO (~$100M ARR) – 50% efficiency score
        • Public (>$150M ARR) – 30% efficiency score
      • BVP Efficiency Rule (< $30M ARR)
        • Net New ARR / Net Cash Burn > 1
        • Meaning, for every dollar burned, company needs $1 or more net new dollars of ARR
    • How do I scale?
      • Customer Acquisition Cost (CAC) Payback = Total Sales and Marketing Costs Last Quarter / New CMRR Added Last Quarter * % Gross Margin
      • Understanding Your Sales Model
        • SMB
          • CAC Payback 3-6 months
          • AVG ACV < $12k
          • Churn/Upsell < 3% monthly
        • Midmarket
          • CAC Payback 12 months
          • AVG ACV $12 – $50k
          • Churn/Upsell 1% monthly
        • Enterprise
          • CAC Payback 3-6 months
          • AVG ACV $50k+
          • Churn/Upsell < 1% monthly, upsell

    Thanks to the team at Bessemer for putting together the great information. Every SaaS entrepreneur should read Bessemer’s 2017 State of the Cloud Report.

  • Video of the Week: Artificial Intelligence – What Everyone Needs to Know

    For our video of the week, watch Jerry Kaplan present Artificial Intelligence: What Everyone Needs to Know. Enjoy!

    From YouTube:
    Over the coming decades, artificial intelligence will profoundly impact the way we live, work, wage war, play, seek a mate, educate our young and care for our elderly. It is likely to greatly increase our aggregate wealth, but it will also upend our labor markets, reshuffle our social order, and strain our private and public institutions. Eventually it may alter how we see our place in the universe, as machines pursue goals independent of their creators and outperform us in domains previously believed to be the sole dominion of humans. Jerry Kaplan is widely known as an artificial intelligence expert, serial entrepreneur, technical innovator, educator, bestselling author and futurist. He co-founded four Silicon Valley startups, two of which became publicly traded companies, and teaches at Stanford University.

    Join Kaplan for an illuminating conversation about the future of artificial intelligence and how much humans should entrust to machines.

  • SaaS Numbers that Actually Matter

    Continuing with 12 Key Levers of SaaS Success from David Skok at SaaStr, Mamoon Hamid gave an excellent presentation Numbers that Actually Matter. Finding Your North Star.

    http://www.slideshare.net/03133938319/numbers-that-actually-matter-finding-your-north-star

    Here are a few notes from the presentation:

    • Quick Ratio (QR) = New MRR + Expansion MRR / Churned MRR + Contraction MRR
    • Goal is a Quick Ratio greater than 4
    • Product-market fit happens one customer at a time one month at a time
      • Mostly ignored any product-market fit metrics
    • Churn/Expansion/Contraction MRR is a lagging indicator of product-market fit
    • MRR is the price that the customer pays, the North Star is the value that they get
    • Focus on a leading indicator of the MRR decision
    • Your North Star measures the value you deliver
    • Bad: Mostly measuring price paid as opposed to value delivered
      • MRR, paid seats
    • Good: Measures value delivered in bulk
      • MAU, DAU, messages sent
    • Better: Unquestionably indicates Product Market fit has been reached with the customer
      • Number of users with L28 >= 16
      • Messages sent w/in 30 days in signup

    Read the presentation Numbers that Actually Matter. Finding Your North Star. and figure out the North Star for your product.

  • 4 Reasons Startups Need to Stay Lean After the Seed Round

    Over the last year couple years I’ve helped several startups after they’ve raised a modest seed round and searched for product/market fit. In every case, the entrepreneurs were too optimistic, drove product development hard, and fell well short of their revenue goals. Fundamentally, the mistake is believing that once investors write the check, everything is going to go according to the spreadsheet model. That never happens.

    Here are four reasons startups need to stay lean after the seed round:

    1. Product Development is Never Finished – Entrepreneurs always cite product development as the main focus for the seed round. Only, with a small seed round, adding one or two engineers seriously increases the burn rate. Product development is never finished, so know that product/market fit comes with having the most fit, not the most features.
    2. No Repeatable Sales Process – A handful of unaffiliated customers is far from a repeatable sales process. Building a repeatable sales process is harder, and slower, than expected, so plan accordingly.
    3. Plan for 24 Months – Most entrepreneurs burn through whatever capital is raised in 12-16 months, as they’re optimistic and see opportunity. Instead, make the money last 24 months so that there’s more runway to course correct. It’s always easier to ramp up than it is to ramp down.
    4. Scrappy at the Core – Creating a resourceful culture starts on day one. Each round of financing creates an internal tension around how much of that scrappiness needs to let up in search of faster growth. Stay scrappy through the seed round.

    Startups needs to stay lean even after raising a seed round. Focus on customers and ensure enough runway to hit the key milestones.

    What else? What are some more reasons startups need to stay lean after raising a seed round?

  • 12 Key Levers of SaaS Success from David Skok

    David Skok of forEntrepreneurs and Matrix Partners has a great new slide deck up from his presentation at SaaStr Annual titled 12 Key Levers of SaaS Success.

    http://www.slideshare.net/DavidSkok/12-key-levers-of-saas-success/1

    Here are the 12 key levers:

    1. Product/market fit
    2. Top of the funnel flow
    3. Conversion rate
    4. CAC (customer acquisition cost)
    5. Number of sales people
    6. PPR (productivity per rep)
    7. Getting enough leads
    8. Pricing
    9. Customer retention rate
    10. Dollar retention rate
    11. Months to recover CAC
    12. Recruiting, onboarding & management

    Haven’t read it yet? Head on over to 12 Key Levers of SaaS Success and read it now.

  • 4 Reasons Investors Shouldn’t Do Convertible Notes

    Over the last week the topic of convertible notes came up in two different conversations. Convertible notes are essentially a loan to a startup that converts to equity on a certain date or if the startup raises a certain amount of capital. Convertible notes (and subsequently the safe) became popular several years ago as investors wanted to move fast, keep initial legal costs down, and defer the valuation topic to the next investor. Basically, a much simpler transaction. Only, it put convertible note holders in a poor position.

    Here are four reasons investors shouldn’t do convertible notes:

    1. Misalignment on Valuation – Convertible notes often have a cap which represents a maximum valuation for the investor (e.g. a cap of $3 million such that if the startup raises money at a $4 million valuation, the investors’ debt converts at the lower of the two valuations). Only, the convertible note investor is incentivized for the startup to raise money at a lower valuation so that they’ll get more equity for their money (assuming everything else about the terms is equal). Entrepreneurs want to raise money on good terms and good valuations, but that isn’t aligned with the convertible note holders as they have negative benefit with a higher valuation.
    2. Limited Initial Upside – Most convertible notes have a discount of 20% to the next round of financing (e.g. if the round is at a $5 million valuation, the convertible note holders get their equity at a $4 million valuation as that’s 20% less). Yet, raising convertible debt doesn’t guarantee a subsequent round of financing happens quickly. If the financing round takes 6-12 months (or more), the investor is only getting a paper return of 20% for taking on outsized risk. Investors typically want to see their portfolio companies raise money each round at a minimum of twice the last valuation.
    3. Lack of Future Qualified Financing Event – Most convertible notes only convert at a qualified financing event (some have a conversion date far in the future). If the startup doesn’t raise more money, or can’t raise more money, the investor is essentially stuck with a low interest loan in a high risk investment.
    4. No Governance – Convertible notes are simple debt with limited covenants and no governance rights. Ideally, the startup will raise a “normal” round and have the governance that comes from a board and a lead investor in the future, but there’s no definitive timeline. Without governance, the entrepreneurs can do what they please with the money with limited recourse.

    Investors would do well to understand the pros and cons of convertible debt. Personally, I require equity and don’t invest via convertible debt.

    What else? What are some more reasons why convertible debt can be worse off for investors?