How To Measure And Improve Your SaaS Growth Rate
You may be familiar with Canva. You may even be using it for work or personal use. But did you know that it has grown by 880% over the last five years?
With Confluent having 488% growth and Cockroach Labs with a whopping growth rate of 1825% in five years, there is no doubt about the growth potential of SaaS businesses.
So how do you replicate it for your SaaS business?
From product development to marketing, sales, and customer success, there is a vast array of ways to grow a SaaS company. But one of the most crucial things is to measure your growth and make data-driven goals and decisions on improving your business processes.
In this article, we are going to talk about essential SaaS growth metrics, principles, and strategies.
Let’s dive right in.
SaaS Growth Metrics
The first step to improving your SaaS business’ growth is to measure it. And it has to be data-driven, not based on hunches or guesswork. You need the proper key performance indicators (KPIs) and metrics to assess your growth.
Here are some of them:
- Gross Margin
- Average Revenue Per Account
- Monthly & Annual Recurring Revenue
- Revenue Growth Rate
- Conversion Rate
- Churn Rate
- SaaS Quick Ratio
- Customer Acquisition Cost
- Customer Lifetime Value
- CLV:CAC Ratio
- Net Promoter Score
Gross margin is one of the most important metrics not just in SaaS, but in all kinds of businesses.
Your gross margin is your revenue minus the cost of goods sold (COGS). COGS includes things like credit card processing fees, hosting costs, and employee salaries.
To calculate your gross margin, you take your total revenue and subtract your COGS. Then, you divide that number by your total revenue.
For example, if your SaaS business has $100,000 in revenue and $50,000 in COGS, your gross margin would be 50%.
Average Revenue Per User
The average revenue per user (ARPU), from the name itself, measures the average revenue that a SaaS company generates per paying customer.
To calculate it, you take a company’s total revenue and divide it by the number of paying customers.
For example, if a SaaS company has $1 million in recurring revenue and 5,000 paying customers, its ARPU would be $200.
Monthly & Annual Recurring Revenue
Recurring revenue is one of the most important metrics for SaaS businesses. It is a measure of the predictability, visibility, and scalability of a SaaS company.
There are two types of recurring revenue: monthly recurring revenue (MRR) and annual recurring revenue (ARR).
MRR is the monthly revenue that a SaaS company can expect to receive from its customers. ARR is the yearly recurring revenue that a SaaS company can expect to receive from its customers.
To calculate MRR, you take the total number of customers you have for a month and multiply it with your monthly ARPU. To calculate ARR, you take the total number of customers you have for a year and multiply it with your yearly ARPU.
For example, if a SaaS company has 1,000 customers and a monthly ARPU of $50, its MRR would be $50,000 ($50 x 1,000) and its ARR would be $600,000 ($50 x 12 x 1,000).
Revenue Growth Rate
The revenue growth rate is a metric that measures the percentage change in a SaaS company’s revenue from one period to another.
Since recurring revenue can both be in terms of MRR and ARR, the revenue growth rate can also be in terms of MRR growth rate or ARR growth rate.
To calculate your MRR growth rate, you take your current MRR and subtract your previous MRR. Then, you divide that number by your previous MRR.
To calculate your ARR growth rate, you take your current ARR and subtract your previous ARR. Then, you divide that number by your previous ARR.
For example, if a SaaS company’s MRR is $100,000 this month and was $50,000 last month, its MRR growth rate would be 100% (($100,000 – $50,000) / $50,000).
The conversion rate is a metric that measures the percentage of visitors to your website who take a particular desired action.
For SaaS businesses, the desired action is usually signing up for a free trial or subscribing to a paid plan. But it can vary depending on which stage of the SaaS sales funnel you are referring to.
To calculate your conversion rate, you take the number of people who took the desired action and divide it by the total number of visitors.
For example, if 100 people visit your SaaS website and 10 of them sign up for a free trial, your conversion rate would be 10%.
The churn rate is a metric that measures the percentage of customers who cancel their subscriptions or stop using your SaaS product within a given period of time.
There are two types of churn: customer churn and revenue churn.
Customer Churn: This refers to how many of your customers are opting out of your SaaS product.
To calculate your customer churn rate, you divide the number of customers who cancel their subscriptions by the total number of customers you had at the beginning of that period.
For example, let’s say a SaaS company has 100 customers at the beginning of a month. Then 10 of them cancel their subscription or stop using the product. That would give them a customer churn rate of 10%.
Revenue Churn: This refers to the amount of recurring revenue you lose due to customers canceling their subscriptions.
To calculate your revenue churn rate, you take the amount of recurring revenue you lost due to customer cancellations or downgrades. Then divide it by the total amount of recurring revenue you had at the beginning of that period.
Let’s bring back our earlier example. If that same SaaS company had $1,000 in recurring revenue at the beginning of the month and lost $100 due to customer cancellations or downgrades, its revenue churn rate would be 10%.
SaaS Quick Ratio
The SaaS quick ratio is a metric that measures a SaaS company’s ability to grow its recurring revenue despite incurring revenue churn.
The SaaS quick ratio takes four factors into consideration: new MRR, expansion MRR, churn MRR, and contraction MRR.
New MRR: This is the recurring revenue you get from getting new customers.
Expansion MRR: This is the additional revenue you generate as a result of upselling and cross-selling. In SaaS, this means getting your current users to upgrade to higher plans or to purchase other add-on products that you offer.
Churn MRR: This is the total revenue you lose due to the customers that cancel their subscriptions.
Contraction MRR: This is the revenue you lose because of users downgrading their subscriptions.
To compute your SaaS quick ratio, divide the sum of your new MRR and expansion MRR by the sum of the churn MRR and contraction MRR.
If your SaaS quick ratio is more than 1, that means your new sales, upselling and cross-selling efforts are successfully making up for the losses from churn and contraction.
If it’s exactly 1, then you’re just barely making ends meet.
If your SaaS quick ratio is less than one, then your sales and marketing teams need to up their game. Double down on getting new customers. Work on nurturing your relationships with existing customers so that you can keep churn to a minimum and even convince them to upgrade their subscriptions.
Or else, you would be losing so much more revenue than anticipated.
Customer Acquisition Cost
The customer acquisition cost (CAC) is a metric that measures the amount of money that a SaaS company spends to acquire a single new customer.
To calculate your CAC, you take your total sales and marketing expenses for a period of time and divide it by the number of new customers you acquired during that same period.
For example, if a SaaS company spends $100,000 on sales and marketing in a month and acquires 100 new customers, its CAC would be $1,000.
Customer Lifetime Value
The customer lifetime value (CLV) is a metric that measures the total amount of revenue that a SaaS company can expect to generate from a single customer over the course of their relationship.
To calculate your CLV, you take your ARPU and multiply it by the average customer lifespan.
For example, if a SaaS company has an ARPU of $100 and an average customer lifespan of 24 years, its CLV would be $2,400.
The CLV:CAC ratio is a metric that measures the relationship between a SaaS company’s customer lifetime value and customer acquisition cost. It literally tells you how much you are making for each dollar you spend on sales and marketing.
To calculate your CLV:CAC ratio, you take your CLV and divide it by your CAC.
For example, if a SaaS company has a CLV of $2,400 and a CAC of $1,000, its CLV:CAC ratio would be 2.4.
Net Promoter Score
The Net Promoter Score (NPS) is a metric that measures customer satisfaction. It is based on the responses to a single question: “How likely is it that you would recommend our company/product/service to a friend or colleague?”
Respondents are given a scale of 0 to 10 and are classified into three groups:
Detractors (0-6): These are customers who are unhappy with your SaaS product and are unlikely to recommend it to others.
Passives (7-8): These are customers who are satisfied with your SaaS product but are not particularly enthusiastic about it.
Promoters (9-10): These are customers who are happy with your SaaS product and are likely to recommend it to others.
To calculate your NPS, you take the percentage of respondents who are promoters and subtract the percentage of respondents who are detractors.
For example, if a SaaS company has 100 respondents and 60 of them are promoters, 20 of them are passives, and 20 of them are detractors, its NPS would be 40.
SaaS Growth Rate Principles To Follow
If you want to grow your SaaS business, there are certain principles you should follow. What makes these principles important is that venture capitalists often use them to decide whether or not to invest in a particular SaaS company.
Some of them include the following:
- Growth Persistence
- The Rule of 40
- The T2D3 Framework
Growth persistence is the idea that SaaS companies can have a predictable decline in their annual growth rates. Understandably, these growth rates don’t stay the same forever. They are bound to diminish at some point.
Growth persistence follows that a SaaS company must retain 80% to 85% of its growth in the previous year.
For example, your growth rate for the previous year is 500%. Then this year, growing by 400% to 425% is still considered healthy.
Having this growth persistence will help you anticipate your growth in the coming years. It will help you predict how much ARR you would be having three years, five years, or even ten years from now.
The Rule of 40
Another SaaS growth standard that investors use in measuring the potential of a SaaS business is the rule of 40.
The Rule of 40 states that the combination of a SaaS company’s profitability and growth rate must at least be 40.
And in calculating this score, the EBITDA margin is usually utilized as a measure of profitability.
For example, let’s say you have an EBITDA margin of 20%. You need to have an ARR growth rate of at least 20% to be considered healthy.
The T2D3 Framework
The “triple, triple, double, double, double” or T2D3 framework follows that a SaaS company can triple its ARR every year for two years and then double for three years.
If done right, you can go from $2 million in ARR to more than $100 million in ARR in five to six years.
But that’s much easier said than done, I know. That’s why you need to have the right SaaS growth strategies in place.
Now that we’re talking about strategies for growing a SaaS business…
SaaS Growth Strategies To Put Into Action
There are various SaaS growth strategies that you can implement to help improve your SaaS company’s growth rate. Here are some of the most popular ones:
- Blue Ocean Strategy
- Product-Led Growth
- Community-Led Growth
- Customer Marketing
- Securing Funds For Growth
- Moving Upmarket
Blue Ocean Strategy
The Blue Ocean Strategy is a SaaS growth strategy that focuses on creating uncontested market space. This means you’re looking for areas in the market where there’s little to no competition.
This is based on the analogy of the SaaS market as an ocean and SaaS businesses being sharks.
Areas where there are a lot of competitors targeting the same audience, or “sharks hunting the same prey”, would become red because of the fighting.
But if you go somewhere that doesn’t have much competition over the same “prey”, you would find a blue ocean.
You can do this by looking at your target market and identifying other pain points that are not currently addressed by other SaaS solutions.
Still, finding a viable market with little or no competition is no easy task. If you manage to find a specific pain point that isn’t addressed by many SaaS solutions yet, make sure that there are enough people that share the same pain point.
After all, you need to make sure that there is enough demand for your SaaS solution to be profitable.
Product-led growth is a SaaS growth strategy where the product is the primary driver of growth. This means that your SaaS solution should be able to grow on its own without relying too much on sales efforts.
A SaaS business that’s product-led typically has lower CAC and higher CLV.
This is because when your SaaS solution is able to grow on its own, it becomes more viral. It’s easier for customers to recommend it to their friends and colleagues even without you spending a single cent on marketing or sales.
There are various ways you can do to make your SaaS solution more viral. But mainly, it’s about creating a high-quality product that fits your target market’s needs like a hand in a glove.
This takes a lot of market research. You need to understand your target market’s needs, wants, and pain points. Only then will you be able to create a SaaS solution that they would want to use and recommend to others.
You should also offer a free trial or a freemium version of your SaaS solution. This will allow potential customers to try out your SaaS solution without any risk on their part. It would also be your chance to deliver value to them even before they buy your SaaS product.
Lastly, you need to encourage your customers to tell others about your SaaS product. Sure, it should come naturally from them enjoying your SaaS solution themselves.
But still, you can do things to give them a little push. You can incorporate social sharing features into your product. Or you can run a referral program.
Community-led growth is a SaaS growth strategy that’s focused on building a community around your SaaS product.
It’s actually a supplemental strategy to product-led growth. Once you have a passionate customer base, you gather them to form a community.
This SaaS growth strategy is about leveraging the power of word-of-mouth marketing. When you have a tight-knit community behind your SaaS product, it becomes easier to promote and sell your SaaS solution.
Plus, a SaaS product with an engaged community typically has a lower customer churn rate. This is because your customers are more likely to stick around when they feel like they’re part of a community.
There are various ways you can build a community around your SaaS product. This can be in the form of an online forum, a Slack channel, or even a Facebook group. It’s really up to you.
The important thing is that you provide a space for them to interact with each other.
Another way to build a community is to hold events related to your SaaS product. This could be an annual conference, meetups, or webinars.
Customer marketing is a SaaS growth strategy that’s all about focusing on retaining your current customers and leveraging them to help you acquire new ones.
This is done by turning your happy and satisfied customers into brand advocates. These are the people who will tell others about your SaaS product and how it benefited them.
There are various ways you can turn your customers into brand advocates. The most important thing you need to do is to deliver an exceptional customer experience.
Your SaaS product should be able to solve your customers’ problems and make their lives easier. If they’re happy with your SaaS product, they’re more likely to recommend it to others.
Another way to turn your customers into brand advocates is to give them an incentive to do so. This could be in the form of a discount or a freebie.
You can also run a referral program where your customers can get rewards for every new customer they refer to you.
The important thing is that you make it worth their while to tell others about your SaaS product.
Securing Funds For Growth
The most direct way to boost your growth is to actually fuel it with more funding. There are two ways that you can do this: venture capitalist funding and bootstrapping.
Venture Capitalist Funding: Funding for most SaaS businesses usually comes from venture capitalist firms or angel investors. They invest in SaaS companies that they believe have high growth potential.
The funding you receive can be used to hire more personnel, acquire new customers, and scale your SaaS product.
Of course, the downside of this SaaS growth strategy is that you will need to give up a portion of your company’s equity.
But if you’re confident in your SaaS company’s ability to grow, then this strategy might be worth considering.
Bootstrapping: This refers to the act of funding your growth from your own business’ profits rather than relying on investors.
The advantage of this SaaS growth strategy is that you don’t have to give up any equity in your company.
But the downside is that it might be harder to fund your growth if you’re not generating enough profits. That’s why a lot of SaaS startups choose to offerlifetime deals (LTDs).
Through a lifetime deal, you offer a lifetime license to your SaaS product for a one-time fee.
The downside to LTDs is that you would be forfeiting some recurring revenue and limiting the CLV of your LTD customers.
But if you do it right, it can earn you a lump sum of cash that you can use to fund your growth and gain subscription-based customers.
Another SaaS growth strategy that you can consider is moving upmarket. This involves targeting larger enterprise customers who are willing to pay more for your SaaS product for longer-period contracts.
The advantage of this SaaS growth strategy is that it can help you increase your ARPU and CLV.
But the downside is that it can be harder to close deals with larger enterprise customers. Not to mention the competition you’re going to have to face.
That’s why it’s important that you have a strong sales team in place if you’re going to pursue this growth strategy.
These are just some of the SaaS growth strategies that you can consider for your business. But as with anything else, it’s important that you tailor your ultimate strategy to fit your own business needs and objectives.
There’s no one-size-fits-all solution when it comes to SaaS growth. So experiment and see what works best for your business.
And always remember to use the right growth metrics. Track your progress so you can gauge the effectiveness of your SaaS growth strategy.
By doing so, you can make the necessary adjustments to ensure that your SaaS company continues to grow.
Looking for more tips and guides on growing your SaaS business? Visit our blog here.