Inevitability in SaaS comes around $10m in ARR, plus or minus. Once you hit this point, you have a brand, you have a fully baked team, you have a robust product, and you have a self-generating stream of new leads and new business. Will you get from $10m ARR to $100M ARR? I don’t know. Is an IPO in your future? Not sure. But once you hit $10m in ARR or so, you cannot be killed by anything. That’s the power of compounding SaaS revenue. And actually, as we’ll get to, $10m in ARR — this is when it really gets fun.
I’ve struggled with this concept and how to translate it into action in my world. While the phrase “you cannot be killed by anything” is evocative, your actual value can be killed, as there are many problems getting from this stage (whatever we are going to call it) to the next level.
I don’t like to think in ARR when I’m working with SaaS companies. I’ve always found MRR easier to process, especially when thinking about derivative measures, like growth rate and churn, that are so important to pay attention to on a monthly basis. And, instead of ARR thresholds ($10m ARR, $25m ARR, $50m ARR, $100m ARR), I like to use MRR thresholds, which I talked about extensively in a post from 2015 titled The Illusion of Product/Market Fit for SaaS Companies. The MRR thresholds I focus on are $1, $10k, $100k, $500k, and $1m. And $1m MRR is the particular moment that is analogous to the $10m ARR inevitability.
If you can blast through the $500k MRR mark and march to $1m MRR, you’ve found product/market fit. You are now at the magical point some people call “Initial Scale.” Cool – you’ve got a business.
If you believe the cliche, you are now unkillable. I’d suggest that instead, you are now in an entirely different zone as a company, where you will be evaluated on a different set of characteristics and will face different struggles. If you want a hint, read Fred Wilson’s recent post titled Team and Strategy.
If you are a CEO, the real work of scaling a company begins about now. The question you’ll be facing will have a lot less to do with product (and the product strategy), and a lot more to do with – well – strategy!
You can start exploring questions like: Are you the market leader? Who are your competitors? What are you doing to build a moat around your business? If this sounds like Competitive Strategy, instead of Strategy, it is, but it’s a critical starting point. If you don’t want to read Porter’s classic book (or read it again if you read it a long time ago), try a Wikipedia shortcut on Competitive Advantage.
You can shift to more specific questions around a category like sales such as: Are you making progress on lowering churn? Have you moved from monthly to annual deals? Are you trying to get three-year deals done? What is the composition and health of your channel?
These are all things that you likely ignored, or didn’t even think of when you were in the $100k to $500k MRR zone. Well – maybe you thought about churn, especially if it spiked up to a point as to undermine your growth rate and cause another cliche – the leaky bucket – to appear in all of your board discussions. But did you shift from monthly to annual deals so that you could lower your long-term capital needs significantly? If you did – great job!
We have many companies in our portfolio in the $1m MRR to $2m MRR zone. It’s fun, but challenging in a different way than the up to $1m MRR zone is. And, once you blast through $2m MRR, all the things you focus on as a CEO change again.
An exec at a company I’m an investor in sent this to me this morning. Does this feel like your life at your company?
I’m an enormous fan of Eric Ries and The Lean Startup. His, and Steve Blank’s, thinking and writing changed how we approach startups. However, the bright shiny object syndrome is alive and well in StartupLand and, when conflated with MVPs and fail fast, often results in misery.
Finishing a product and shipping is extremely challenging. It’s different for hardware, as there is a physical instantiation of a product that you have to put in the proverbial box and send out the door. With software, you can ship a buggy piece of shit and keep updating it daily (or continuously) to improve it. But when the product includes some hardware, once it’s out the door you’ve got to live with it.
But, for both hardware and software, the lack of focus on finishing is toxic. When you read Jeff Bezos’ annual letter and internalize “customer obsession” you realize that if you view the world from the perspective of the customer, everything in your business hinges on getting your product into their hands, and then totally delighting them.
At my first company, we did releases of software for multiple clients each week (we were a custom software company.) In some ways, this process has the same characteristics as a weekly sprint, except for it was the early 1990s, and we often had to ship floppy disks by Fedex to our clients. I knew the exact time I had to walk out the door of my office to walk to South Station (in Boston) to get in a cab to go to the Fedex depot at Logan Airport to make the FedEx cutoff. Whenever I did that, I always had a euphoric feeling when I got back in the cab, sat back, and headed home for the night. We’ve come a long way from that dynamic in the last 25 years, but the awesome feeling of shipping hasn’t changed.
This may sound simple and trite but think about it for a second. If you are a CEO or a founder, are you creating an illusion of shipping, but creating a cycle of bright shiny object syndrome?
And with that, this post is shipped …
I just sent this note out to our CEO list. I was going to write a different post today about The Founder Wellness Pact: How Accelerators are Addressing Depression Among Founders but I’m going to save it for next week. After sending this note out, I decided it was the clearest thing I could add to your world today going into the weekend.
Jeff Bezos’ annual letter is now up there with Warren Buffett’s annual letter as must reads for me. However, it is a lot shorter (5 minutes vs. 20 minutes).
You’ve probably seen lots of techy news, tweets, and medium posts about this. Don’t read them. Just read the letter. It won’t take long, and if you think about it while you are reading it, it will mean something that sticks.
Ask yourself several questions when you are finished:
1. Do you have a customer-obsessed culture?
2. Do you make decisions with 70% of the information?
3. Do you have a “disagree but commit” culture (especially when it’s you that is disagreeing)?
I heard a great line from a CEO recently: “I don’t want to play hurt.”
I loved that line.
In my world, some companies beat their Q416 numbers. Others made their Q416 numbers. Some missed their Q416 numbers. That’s life. Any VC who says otherwise (e.g. “All my companies are killing it”) is either full of shit or doesn’t have very many investments. It’s especially true by Q4 when a budget was finalized in Q1 since Q4 is by far the hardest quarter to forecast / predict.
We are now 67% of the way through Q117. Plans for 2017 are either locked or getting finalized. These plans get reset based on the 2016 data, especially trends and progress (or lack thereof) from the second half of 2016. A year ago seems a very, very long time ago.
Let’s assume you missed Q416. I don’t care what the reason was for the miss. Your entire team is bringing that thinking into the budget process. “We need more resources to grow faster.” Or “There’s no way we can grow that fast.” Or “We made some expectations about what was going to have in Q4 around Christmas that didn’t come true.”
At a high level, these are rational reactions. But they don’t really help in thinking about 2017 or the budget process because they don’t get to the root cause. Using the Five Whys or some other process is key. Figure out what happened as your starting point. If you’ve already built and approved your plan without doing this, go ahead and stress test your plan by doing this now. Use the root cause analysis to lower your costs and increase your revenue so that you beat your plan. Ask yourself why what happened, happened. Keep asking why to the answers until you feel like you’ve gotten to the root cause.
Let’s assume 2016 resulted in some layoffs in the second half of the year. You were on a growth trajectory that wasn’t working, or you had invested in some products you decided to shut down. Or in 2015 you had raised a bunch of money, hired a lot of people, and assumed it was all going to just work out according to the spreadsheet model you used to build headcount and revenue expectations based on the headcount. And then it didn’t.
It’s now 2017. You’ve made real cuts and now have a core team that is sized correctly for your current business. The process sucked, but it’s more than a quarter behind you. The dust has settled and people are heads down working. You had a more sanguine budget process this year, with solid revenue growth but much lower head count growth.
Don’t play hurt. Get back on the metaphorical field. As CEO, put the Q4 miss or the Q3 layoffs behind you. Pick your head up and realize that you have a real business, but you hit a giant air pocket last year. That is normal – it happens all the time on the way to building a great business. Any CEO who denies that (as in “Yup – everything was awesome all the time – there were never any issues in our success”) as as full of shit as the VC who says something like “Every one of my companies is doing great.”
I encourage those VCs (and entrepreneurs) to read my post Something New Is Fucked Up In My World Every Day and reflect on their actual reality.
The struggle can be extremely painful, especially in the moment. But, if you are a great CEO (or manager), keep focusing on what you need to do to fix the immediate problem while continuing to play your long term game. And, most importantly, don’t deny reality in any way whatsoever.
And … Don’t play hurt.
My wife Amy sent this HBR article – How to Handle the Pessimist on Your Team – to me. It’s almost a decade old but seems timeless.
I’m an optimist. With rare exceptions (usually when I’m depressed), I can carry an optimistic view point about things (business, projects, humans, life, existence on this planet, my ability to some day go to a parallel universe) around in most of my interactions.
I very much respect and value different opinions as I learn from them and from being challenged. I’m not “right” and don’t view my approach to discussions as “telling the truth”, but rather “providing data”, “telling stories”, and “helping a person / team get to a decision.”
Pessimists are useful to counter balance my optimistic view point. But endless pessimism does tire me, especially when it is only used to put up objections. When the objections are part of a discussion that leads to a more thoughtful outcome, it’s great. When it’s just negative, reactive, tone deaf to context, or relentless, I often feel like I just want to crawl under my desk and take a nap.
This article is prescriptive for the non-pessimist. But, if you have a pessimistic orientation, it’s also useful. I’d be surprised if you don’t have at least one pessimist on your team, and numerous teammates who have pessimistic tendencies. Turn them into a positive, not a negative.
Over the past few days, I’ve had a similar conversation about reporting tempo with three different people (2 CFOs and 1 CEO). In each case, we snuck up on the issue, rather than starting with it.
The fundamental question addressed what the reporting tempo to the board should be.
A number of years ago, I decided to shift to quarterly board meetings. Historically, the number of board meetings I had per company was all over the place. Some had four per year, some six, some eight, and some had twelve. This was an artifact of the last 30 years of venture capital, where VCs often would use the board meeting as the way to primarily engage with the company.
I wrote about this in my book Startup Boards: Getting the Most Out of Your Board of Directors. I’ve shifted to a cadence I call “continuous board interaction” which is gated by the desire and need of the CEO as well as the needs of the company. As such, a quarterly board meeting is plenty since I’m having continuous interaction with the CEO and board. This approach was originally stimulated by Steve Blank’s posts Why Board Meetings Suck and Reinventing the Board Meeting – Part 2 of 2 but modified to fit the more varied and flexible reality that I operate in.
This does not mean that quarterly financials work for me. When the financials are tied to the quarterly board meeting, it’s almost impossible to have continue board interaction. There’s just not enough financial context about what is going on in the business. On the other hand, with a few exceptions (hyper-growth cases or ones where you are focusing on specific metrics), daily financing reporting is not helpful either, as is it overly burdensome on the company. It also quickly turns into metric reporting, which is very distinct from financial report, and often extremely helpful, especially in a continuous board interaction approach. However, many board members can’t handle daily anything, especially if they are on ten boards, except for the companies that they need to spend daily attention on.
That’s the context for how we wandered up to the discussion in each meeting. After the second conversation, I thanked the person I was talking to (she knows who she is) for providing the content for today’s blog post. Of course, since the conversation came up again with someone else after that, it sealed the deal that this would be a blog post.
Here is how I like to do board level financial reporting for private companies I’m on the boards of. I don’t force this – if the CEO wants to do something different that’s up to her. But I encourage this, or something like this.
Quarterly board meetings: The financials are decoupled from the board meeting. There is a quarterly financial and metric review in the board meeting, but it’s not the meat of the meeting unless there is a specific set of financial issues that need to dominate, such as the 2017 budget, a big financial miss, or a significant change to the plan for some reason.
Monthly financial package: This is a full financial package distributed to the board and executive team. It includes P&L, Balance Sheet, and Cash Flow statements. It has actuals to budget for monthly, quarterly, and YTD. It also has trailing 12 months of each (P&L, BS, CF). In addition, there is a cover MD&A (hopefully written by the CFO – not a formal SEC one, but a comprehensive management discussion and analysis). I prefer this package to be distributed by the CFO and not the CEO – it then becomes part of the operating rhythm. I also like the Q&A that occurs (in email, or in a Google doc around the MD&A) to be driven by the CFO with support from the CEO.
Optional monthly financial state of the company board call: This is a call with the CEO, CFO, and the board. Ideally it is led by the CFO. It’s limited to one hour, is completely independent of the board meeting, and is optional. The CFO sends out a short (less than 10 page) presentation summarizing the key financials, key metrics, and any topics for discussion at least two days in advance of the call. While I rarely attend these, I find that the board members who don’t engage continuously can use this to keep current on the financials and in the rhythm of the company.
This rhythm works around the monthly financial close cycle. The CFO sets the schedule. An example would be (based on day of the month) that the financials are closed by day 15. The monthly financial package goes out on day 17 with the presentation for the optional monthly state of the board call. The call happens on day 20.
If you’ve got a different, or better, rhythm, I’d love to hear it.
If you are growing at a rate of less than 50% year over year, you should consider viewing 2017 as the year of flat headcount.
As budgets are settling down and getting approved for many of the companies I’m on the board of, I’m seeing a general trend of much less headcount growth in 2017 than in 2016. In some cases, companies got ahead of themselves. In others, they need to integrate all the people they’ve added. In some, they feel like they have a critical mass of people and want to march to get profitable on current headcount. And still others are profitable and have realized significant operating leverage in the past two quarters that they want to continue.
While there are different reasons, many of these companies are being a lot more targeted and selective with where they are adding people. These are generally the companies between 50 and 200 people who have growth rates that are 50% or less. But I’m also seeing it in companies with larger growth rates (100% year over year – yup – we can to that and only add 10% new people.)
I hadn’t really thought of it as a trend until I reviewed a board deck this morning and it’s called out as a feature. I agree that it’s a feature. A company with $10m+ of revenue that is growing at 50% or more can often get profitable within 12 months if it focuses on its operating costs. Headcount is almost always the largest increasing operating cost.
I see a nice second order effect in all of these companies. Given the focus on getting profitable, they are now clamping down on other discretionary costs around the system. That money you’ve been wasting on a PR agency – delete. That extra space you thought you might need, but don’t – sublet. The outsourced recruiter you’ve been paying a retainer to – gone. There’s a long list of operational efficiencies that go along with the focus on getting net income and ultimately cash flow positive.
While this isn’t a universal truth, nor should it be, it definitely feels like a trend, especially as companies start putting a lot more focus on ICDC as part of their growth strategy.
Lately, I’ve been stewing over increased complexity being generated by companies around their organization approaches. While this activity varies by stage, in many cases the leadership team expands to a large (greater than six) number of people, there become two executive teams (the C-Team and the E-Team), the CEO gets sucked into endless distractions and working “in the company” rather than “on the company”, and I could go on with a 1,000 word rant on the challenges and complexity.
Recently, I saw a structure rolled out by a CEO at a company I’m an investor in that made me pause because of its simplicity and brilliance. I didn’t like the labels the CEO used, but I loved the intellectual approach.
It coincidentally had three categories. Three is my favorite number and has been since I was three years old. While I can carry more than three things around in my head at a time, when there are only three attached to a specific thing I find that it’s second (third?) nature to me and requires no additional processing power to remember and organize my thoughts around three things.
If you recall my post on Three Magic Numbers, this will immediately make sense to you. Or if you’ve ever heard my story about struggling with clinical OCD in my 20s where the number three was one of my key anchor points, you’ll have empathy for my relationship with the number three.
I abstracted the structure I saw from the CEO recently into what I’m currently calling “The Three Machines.” While this can apply to any size company, it’s particularly relevant to a company that is in the market with its first product, or a company that is now scaling rapidly with a set of products.
The three machines are: (1) the Product machine, (2) the Customer machine, and (3) the Company machine.
If you step back and think about all of the activities of a company in the phases I described above, they fit in one of these three machines. However, most leadership teams don’t mirror this. Instead, in a lot of cases, there is a traditional leadership team structure that has a CEO and a bunch of VPs (VP Engineering, VP Product, VP Finance, VP H&R, VP Sales, VP Marketing, VP Customer Care, VP Operations, …) which are often title inflated with CxO titles (CTO, CFO, Chief People Office, CMO, COO, CRO, …) or artificial demarcations between VPs and SVPs (and EVPs.)
Regardless of title structure, the CEO has a span of control that gets wider as the company scales, often with more people being added into the hierarchy at the VP or CxO level. As this continues, and CxOs are added, you end up with the C-team and the E-Team (which includes the non-CxOs). The focus of each person is on a specific functional area (finance, marketing, sales) and traditionally scoped.
In a few cases, big organizational experiments ensue, often after the organization dynamics hit a wall. Holacracy, which is still bouncing around, was a relatively recent trendy one. I disliked holacracy from the first time I heard about it and resisted even experimenting with is, preferring to watch what happened when others tried it. In 2013, Nick Wingfield wrote an often-citied article in the NY Times titled Microsoft Overhauls, the Apple Way that is liked to a now famous graphic of different org charts for Amazon, Google, Facebook, Microsoft, Oracle, and Apple.
I’ve wrestled with hundreds of conversations around this in the past few years. I never have felt satisfied, or even particularly comfortable, until I landed on the three machines recently.
My current hypothesis is that if you are a CEO, focus your organization on the three machines. Product, Customer, and Company. Then, have a direct report own one of them. If you have a sub-scale leadership team (e.g. you are three founders and four other employees), as CEO you can own one, but not more than one. As you get bigger (probably greater than 20 employees), hopefully how you have enough leadership to have one person own each, but recognize that if someone is being ineffective as a leader of one of the machines, you will have to replace them in that role (either by firing them or re-assigning them).
Let’s assume you have enough of a leadership team that you have a key leader who can own each one. Organize the company leadership around each machine. The titles don’t matter, but the hierarchy does. Naturally, you will have a product or engineering leader for Product, you will have a sales, marketing, or operations leader for Customer, and you will have a finance or admin leader for Company.
But, this does not mean that your VP Engineering is your VP Product and Engineering. That rarely works – you want to separate these two functions. But your VP Product, or your VP Engineering, or your CTO could be responsible for the Product machine, with the other VP functions reporting to her. You probably also don’t want to merge your VP Sales and VP Marketing and VP Customer Care function into a VP of Sales, Marketing, and Customer Care. But, if you have a Chief Revenue Officer, you may have done this. While that can work, recognize that it works if the CRO realizes he is in charge of the entire Customer machine.
I’m still in the first few weeks of really building a theory around this so there’s a lot of sloppy thinking on my part so far. For example, I don’t think this necessarily means that the CEO only has three direct reports. But it might. Or, in some cases, at certain scales it might. I haven’t focused on what it means in terms of the overall hierarchy. I haven’t really thought about how multiple different product lines come into play. I don’t know if there needs to be dramatic retitling at the top.
I do, however, have several companies that are very clearly focused on these three machines. Yet, they are at different scale points and have different formal hierarchies. Over the next few months, I’m going to use this lens across every company I’m an investor in as I poke and prod at how it might, can, and should work. And, determine if it’s a valid hypothesis.
Feedback of any type is welcome.
Everyone has a junk drawer. Or two. Or ten. One of mine is to the left.
So does every company. It’s now often referred to as “Labs” (as an homage to the infamous Google Labs which was disbanded in 2011.)
We’ve seen a lot of companies spin up a Labs as a way to try to create new products. In most cases, after about a year, it’s a junk drawer of random shit.
At a Techstars meeting on Monday, in response to something I said, Jason Seats blurted out “that’s just putting it in the junk drawer.” I love when Seats does that – it makes me stop and think. And, in this case he was absolutely right – it was a lot better to simply delete the thought that I’d had (and the activity around it) then to put it in the junk drawer.
I’ve come to really hate the concept of “Labs.” Fortunately, most of the companies I’m involved with who have done a Labs thing have shut it down and reabsorbed it back into the product organization in a more systematic way.
At some point, I realized that Labs was either (a) a random place to put a founder who is no longer working on the core activity of the business or (b) a place to work on a set of things that product can’t make progress on. Both of these are foundational issues.
If (a) random place for a founder, the CEO may not be dealing with an organizational issue around a founder. Or the founder may not be tuned in to how to work with a now scaling organization. There are situations where you want a founder (or founders) to go work on a new R&D project, and it could be called Labs, but it should be focused on a particular product initiative, not a non-defined grab-bag of randomness. When I think of the success cases here (and I have a few), it’s really “new product R&D” rather than “labs”, even when the new product isn’t clearly defined yet. But that leads to (b).
If (b) a place to work on a set of things that product can’t make progress on, this usually appears when the CEO (and potentially a founder) are frustrated with the pace of new product development. This is a recurring theme in my world when a company hits around $5 million of revenue on their first product. It happens at multiple points again in the future and is a good example of the differences between starting a company and scaling a company. It’s easy to blame this on the product organization, but it’s often more complicated than that. Sometimes it’s a single executive; often times it’s the way the engineering and operations organizations (including customer support) interact. And sometimes it’s the CEOs lack of understanding of how to run a maturing / scaling product line while adding in new products.
In either case, the default to creating Labs as a solution to a problem is not a good one. And, when I get home from CES, I’m going to throw all the shit in my junk drawer away.
As we head into 2017, I have a steady stream of operating plans hitting my inbox. Since many of our investments are companies that are scaling, vs. companies that are just getting started, there are a lot of derivative metrics in these plans.
Q1 is the easiest quarter to make your plan, so most of these companies are getting a free pass for the next three months after fighting the good fight of making or beating plan in Q3 and Q4. For the SaaS and recurring revenue companies, if they missed by more than 5% in 1H16 and didn’t reforecast, they’ve had a particularly grueling uphill climb for the past six months.
While the relief of Q1 was missing last year because of the existential freakout caused by the public markets (anyone remember that?) I know a bunch of people who are hoping Q1 will be nice, calm, and normal. Good luck with that.
Regardless, you can start the year off by being clear on how you calculate your various derivative metrics and make sure that your plan – and the expectations of your board and investors – fit what you are putting out there for the next year. Before you say, “yup – no big deal – we are great at that” go read two posts by Glenn Wisegarver, the CFO at Moz.
- Remember That The Lifetime Value Of A Canceled Customer Is Zero
- How LTV Metrics Lie — And What To Look Out For
If you’ve worked with me, you’ve probably heard me call out CAC as a nonsense metric, since it’s super easy to game. Or maybe you read my post about ICDC (increase conversion, decrease churn). Or, instead of growth rate at a moment in time, you’ve heard me ask for a monthly graph of trailing twelve month growth rate so we can see the actual acceleration or deceleration of growth, which is way more interesting than last months growth number.
There are tens of thousands of words written on the web about SaaS metrics, consumer metrics, recurring revenue metrics, and all kinds of other metrics. Entertainingly (at least to me) there are very few words written about CE / hardware metrics (other than nonsense about how to value CE companies).
As part of getting your metrics together for 2017, I encourage you to go read some of these articles. And think hard about which metrics really matter and where the change in them will impact your business performance in 2017.