Decoding SaaS Metrics: A Categorical Approach for Forward-Looking Business Growth

May 30, 2023

The world of SaaS (Software as a Service) is awash with metrics, each one promising to deliver an insightful snapshot of your business's health and progress. Understanding these metrics, their purposes, and how they might apply to your business is key. As you embark on this journey of comprehension, categorization becomes needed.

Backward-Looking vs Forward-Looking Metrics

We begin by distinguishing metrics as either backward-looking or forward-looking. Metrics such as year-on-year growth rates and retention rates are fundamentally backward-looking, offering a retrospective view of what has transpired in the past 12 months. They serve as excellent measures of past performance and help iron out seasonal variations. However, while these backward-looking metrics provide essential context, they're inherently outdated for forward planning.

On the contrary, metrics like month-on-month growth rates and attrition rates provide a more current perspective. For a proactive understanding of your business trajectory, forward-looking metrics are your best choice. This category includes metrics like Customer Lifetime (CL), Customer Lifetime Value (CLV), and the 'holy grail' CLV to Customer Acquisition Cost (CLV:CAC) ratio. These metrics offer valuable insights into sustainable growth.

You may have heard some experts suggest trading in the forward-looking metric 'CLV' for a backward-looking one, 'NRR'. However, these aren't interchangeable. The categories themselves suggest a fundamental difference: forward-looking metrics predict future trends, whereas backward-looking metrics analyze past performance. Consequently, they serve different functions and cannot mirror each other's insights. The key is to choose the right metric for your specific needs.

Risk and Return Metrics

Another helpful categorization separates risk and return metrics. Risk metrics can assist in managing financial exposure. They provide a safeguard, helping you identify potential risks before they escalate into more substantial issues. Notably, industry expert Dave Kellogg has emphasized the payback period as a risk metric. In his article, "You Can't Fix a CAC Payback Period," Kellogg explains that the payback period calculates the time required to recoup an investment or, in simpler terms, how long your money will remain "on the table" or at risk. Risk metrics don’t tell you how much you might get back, and that is where return metrics are useful.

Return metrics such as CAC, SaaS Margin, CLV, and CLV:CAC, pivot towards the generation of returns. These measures are instrumental in evaluating unit economics and assessing financial viability. 

Operational vs Investor Metrics

Operational metrics are used to manage your business on a daily basis. On the other hand, investor metrics primarily interest potential investors who are assessing your business's investment potential. While there's a degree of overlap, many investor metrics don't typically influence the day-to-day operational decisions of your business.

The reason is straightforward: investors, who often review hundreds or even thousands of potential investments, prioritize categorizing and comparing businesses. Their primary objective is to apply filters that can identify ventures that meet their investment criteria. Key investor metrics, such as the Rule of 40, the more recent Rule of 200, and cohort analysis, are typically in their spotlight.

If attracting investment is your goal, it's important to consider these investor metrics. You'll soon realize that while they might not significantly influence daily operations, they play a substantial role in investors' assessment of your business.

Value Metrics

Value metrics serve as the lenses through which you assess your business's growth, gauge its readiness for sale or investment, and comprehend its overall health. These metrics directly contribute to your business valuation, acting as tangible proof of your company's value. They convey the narrative of your business's financial stability and its potential for future growth.

Key value metrics like Annual Recurring Revenue (ARR), ARR growth rate, revenue retention rates, revenue, margin, and profitability are indispensable in this context. They sketch a picture of your business's financial standing, guiding both you and potential investors. Furthermore, the Customer Lifetime Value (CLV) of your customer base, often depicted as Net Present Value (NPV), plays a vital role. This metric provides a forward-looking estimate of the value your customer base is expected to generate over time.

The understanding and optimization of these value metrics are not just essential - they can transform your business into an appealing proposition for potential buyers, investors, and partners.

Applying SaaS Metrics to Achieve Business Goals

Unifying your company around a Big Hairy Audacious Goal (BHAG) - one that is meaningful, understandable, and measurable - can be an effective way to align and focus the efforts of teams and individuals. This shared objective creates a common purpose and direction, knitting your company together in pursuit of a shared vision.

While it's tempting for founders and CEOs to focus their teams on financial goals like revenue, valuation, or capital raised, I've found that a customer-centric approach brings about a more effective alignment. Take my experience with A2X as an example. When we reached our first 100 customers, we set our sights on a 100-fold increase - a target of 10,000 customer subscriptions. This customer count goal was simple, understandable, and certainly audacious.

Our 10,000-customer goal became the company's compass, informing and guiding our every decision. The customer success team, product development, and marketing all understood that every choice should serve our larger ambition. It allowed us to ask important questions like, “Where can we find 10,000 customers?” and “What kind of organizational structure and infrastructure will we need when we're serving 10,000 customers?”

It's important to note that a goal based on customer count might not be ideal for every business - particularly those with significant pricing variation between customers, or where pricing decisions have been delegated. But in the right context, a customer-focused goal can act as a powerful unifier and guide for your company.

In essence, understanding SaaS metrics and their categorization can significantly streamline your decision-making process. This comprehension enables you to pinpoint forward-looking metrics such as CL, CLV, and CLV:CAC, which can shed light on your business's future trajectory. Remember, while metrics like NRR have their uses, they can't substitute the forward-looking perspective offered by CLV:CAC. The key lies in understanding each metric's relevance and application to your unique business context.