Important B2B SaaS Metrics PMs Should Understand (part 1)
Breaking down CAC and revenue in part 1 of understanding B2B SaaS metrics
The core concepts important to B2B SaaS PMs when it comes to understanding metrics are the same as for DTC PMs.
1. How much do you spend to acquire paid customers?
2. How much do paid customers spend on your product/service?
3. How much does the product or service cost to make and sell?
4. How many of those paid customers will buy something next month, in month 3, and so forth.
But B2B businesses have some additional complexities, such as the buyer/internal champion not being the user. These subtle, but important complexities require more work for PMs to aggregate and dissect the metrics to understand the subtleties of the business. In addition, SaaS businesses that use subscription pricing have adopted B2C subscription pricing tactics. This is causing the blurring between B2B and B2C, and fueling this trend of “product-led growth”. I’m thus going to write about the first two points in this two part article.
The core concepts can be translated into four metric:
1. Customer Acquisition Cost / Cost of Sale (CAC: units $)
2. Average Revenue Per Customer (APRC: units $). Often called APRA (average revenue per account)
3. Cost of Service (COS: units $). Not to be confused with Cost of Sales (COS), which I’ve put under CAC.
4. Retention (r: %)
If you have a good understanding of the above, you’ll be able to derive other metrics like margins. While many PMs don’t have the direct ability to change pricing, cost, and thus margins, it’s still important to understand profitability or how quickly it might take to be profitable.
Rather than jumping directly into CAC calculation, I’ll start by explaining the different channels that can drive CAC.
1. Marketing led. This is exactly the same as in DTC business. Whether it’s online (earned, owned, paid), or offline (mailing, tv, billboards), costs associated here are usually direct advertising dollars and labor spent to acquire paid customers.
2. Saleforce led. This is people driven, which is why I call this salesforce led instead of sales led. Otherwise, it’s easy to confuse this with marketing led, which is also “driving sales”. In salesforce led, you have people directly responsible for getting paid customers. They can use similar marketing tactics as marketing led (online/offline), but also use tactics such as cold emails, outbound phone calls, online webinars, or in-person workshops to drive sales. The key distinguishing feature from marketing led is that a salesperson is the primary method of getting that paid customers.
As you can see, your CAC is dependent on which model your product/business uses. And they don’t have to be mutually exclusive. Many B2B SaaS businesses utilize both models.
What companies are trying to do is match the higher cost of a salesforce led approach with higher expected revenue from certain customers and vice versa.
The recent popularity of the term, “Product Led Growth”, is just an expansion of marketing led approaches to serve higher revenue customers. By using lower cost options to attract and get paid customers, it’s obviously a win-win when it works.
How to calculate CAC?
Determine if you have marketing-led, salesforce-led, or both. If it’s only marketing-led, then CAC calculation for B2B SaaS is no different than DTC businesses. Read “Understanding Important Direct to Consumer Metrics” Otherwise, read on.
Define your channels and give them labels. Assuming you have both marketing-led and salesforce-led approaches to acquiring paid customers, come up with a list of all your channels (e.g., online - FB, Linkedin messages). Once you have a list, evaluate if it’s easy to track/allocate costs and customers by channel. While it might sound like that the more granular, the better, balance your granularity by the effort it takes to collect the data.
Total and allocate your sales and marketing costs by channel. This is never perfect with two issues.
Getting the data itself maybe challenge
Deciding how to allocate costs may be contentious. You’ll often see marketing and sales leaders argue whether a cost is in one bucket or another. That webinar, is that a salesforce led cost or a marketing led cost or some combination of both?
Some specific tips to getting this done.
For marketing led, don’t forget to include salary. It’s common to see CAC only focus on paid spending at early or growth stage companies. This isn’t wrong, but the unspoken assumption is that at scale, marketing salary/headcount will decrease (i.e., layoff).
For salesforce led, use salary and commissions that are only focused on acquiring new customers. If salary and commission totals $200,000, but a sales person spends 40% of their time maintaining relationships with existing clients, only consider the $120,000 of that in the CAC. The remainder will go into Cost of Service, a topic we’ll cover next week.
When allocating between marketing and salesforce, use whole percentages. I recommend starting with just two numbers: 50/50; 100/0, and 80/20. Remember, you can always refine further.
Tracking your paid customers to matching channels. Again, data capture to accurately define what caused a potential customer to be a paid customer can be more art than science. If the incentive in the cost side is to push costs, everyone wants to take credit for getting the paid customer. That’s why there is attribution software to help make this decision. It’s like giving credit for group assignments in high school. Again, there are three options, but I generally recommend starting with first or last where first is better for new startups and last is better for early stage. When you have the resources for multi-touch, you can go there.
First touch: Easiest to implement; focus on top of the funnel.
Last touch: More difficult, but you can focus on final conversion
Multi touch / percentage touch: Most difficult. There are a host of options from linear, equal weight, percentage, u-shaped, etc. It’s difficult in terms of implementation and getting agreement.
Cohort by channel and time to calculate a range. Because there will be errors in attributing cost and customers to channels, it’s best to calculate a range for CAC, rather than a single fixed number. There are many ways to calculate the range, such as independently estimating the error percentage for the cost and number of customers. Whether you do this depends on your accuracy level per channel, but one easy way is to just do a 20% +/- to your calculated CAC. Here are the steps.
Take the total cost per channel (e.g., $100,000)
Divide by the total customers (e.g., last attributed) to that channel (e.g., 500)
Add and subtract 20% (e.g., CAC = $160 - $240)
While it’s imprecise, the objective of creating its range is to compare CAC for different channels and see where there’s overlap. Any overlap would signal directionally, the CAC for that channel is comparable.
What’s the Average Revenue Per Customer (ARPC)? This leads directly to a discussion on pricing discussion. For SaaS, we have to discuss the three models first.
Freemium. Some customers can use the software for free with usually limited functionality or other constraints (ex: numbers of seats / users allowed in an instance). Other customers will pay.
Paid with trial. All customers must pay before using the software. However, there is a trial period. The trial period can be priced at a lower or the payment can be refunded in partially or full if the customer cancels by the trial end date.
Paid without trial. All customers must pay before using the software.
What the models are trying to do is increase or decrease the friction to adoption, with freemium being the lowest friction.
To add complexity, under each model, there are also different tiers of pricing plus different durations before renewal. This is why paid w/o trial is the easiest to start.
How to calculate APRC (bottom up approach)?
Pick a time period. Typically, the end of the month.
Find revenue collected from customers. It should just be the recurring revenue collected. You want to exclude any one-time or outlier revenue because like DTC, we’ll be using this APRC to calculate LTV later.
Calculate by cohorting across similar customers, even if there’s one user. In B2B SaaS, there isn’t any benefit to calculating APRC across all your customers. While you’ll get a descriptive metric, it doesn’t do anything for you. So you need to calculate APRC based on groups of customers that are similar. For example, if one customer gives you $10K revenue in this month and another gives you $100, the APRC of the two is $5050, which hides the difference. This is made challenging in two ways:
Sometimes, the user = customer, especially for SMB. You still need to calculate those at the customer, not on a per user basis and group like customers together.
Sometimes, two different departments within the same company independently signed up (e.g., two accounts = 1 customer) From their perspective, they are separate customers. From yours, you should aggregate and treat them as one, which is one place to identify opportunities to upsell.
What you should now have is several groups of customers, counts of customers per group, and total revenue per group, which you can use to calculate APRC per cohort.
Slight shortcut: You’ll also find a top-down approach for calculating APRC often discussed online. If you have the monthly recurring revenue and it’s already cohorted by customers handy you can easily take MRR and divide by # of customers, which is what we’ve done.
And that’s it for this week. You now have a understanding of CAC and APRC.
For next week, I’ll dive into.
3. Cost of Service <-> How much does the product or service cost to make and sell?
4. Retention <-> How many of those paid customers will buy something next month, in month 3, and so forth.
Special thanks to Evan Besser, Director of PM @ Haven Life for pre-reads and inputs that made this article possible.