When you have a product that works, it solves the customers’ problems, and the customers are happy, congratulations, you’ve just achieved product-market fit.
The question is: What’s next?
The obvious but slightly simplistic answer is to generate sales.
While this is certainly true, how you generate sales makes an enormous difference in whether you’ll be yet another SaaS company that languishes in low single-digit millions of ARR or become a growth story that surpasses the $10M ARR mark and beyond.
Here’s why this matters.
The growth equity and private equity worlds have investment threshold points.
In the SaaS world, this means the vast majority of the investment community will not look at financing you until it’s abundantly clear you will cross $10M in ARR within a quarter or two.
The issue is one of sales…
Can you not only generate revenues but do so in ways that are repeatable?
Repeatable processes scale. All others do not.
The first $1M to $3M in sales typically come from the lead salesperson (often the founder) who hustles and cobbles together the first milestone of sales.
Early customers might come from personal contacts in the industry. The next round of sales usually comes from customer referrals/word of mouth (proof of product-market fit) within a small base of customers…. and then, something terrible often happens:
Word of mouth in a small base of customers is good, but growth can be slow.
What needs to happen next is a repeatable sales process that is nowhere close to hitting a ceiling.
A repeatable process is one that can be cloned and replicated. Having a repeatable process isn’t enough. You need one that hasn’t yet hit its natural ceiling or saturation point. If you have that, you have a process that is both repeatable and scalable.
This is where most modestly successful SaaS companies stall or slow down enough to be considered low-growth companies.
Here’s the key insight:
Many sales channels have a dynamic, not static, saturation point.
For example, getting leads via paid advertising is a commonly used lead generation channel.
It’s a very good one. You want to generate leads through paid ads until the point when it’s no longer profitable to do so.
This point of “unprofitability” is dependent on your customer LTV (lifetime value).
If your customer’s LTV is $20,000 when your competitor’s customer LTV is $10,000, you can afford to outspend them in advertising to get a customer.
Most paid advertising channels work on an auction system.
If you buy Google Ads, the more you bid, the higher your ad ranks. The higher your ad ranks, the closer to the top of the Google search results page you appear.
The closer to the top of the page you appear, the more qualified traffic you get. The more traffic you get, the more prospects and customers you get too.
So in the end, the company with the highest LTV has the opportunity to dominate because they can afford to spend the most on their customer acquisition cost (CAC).
If you have the highest LTV, you can afford to…
- Create a website with 1,000 pages of content for SEO purposes, whereas the one with the lowest LTV can only afford a 20-page site.
- Bid on second-tier pay-per-click keywords that aren’t profitable for others but still are for you.
- Staff an outbound telesales team to call literally every prospect in your vertical market every 60 days, forever, whereas others can only afford to call on 20% of the vertical once per year.
- Compensate go-to-market partners with no-cost services or a greater degree of cash compensation than others.
- Pay your salespeople a higher commission rate than competitors and grab all of the best talent in the industry.
The reason why most moderately successful SaaS companies stall or hit slow growth is that they never develop a sales process that is both repeatable and scalable.
Sometimes, the process is available and feasible within the company’s unit economics (a.k.a. LTV vs. CAC), but the founder hasn’t yet iterated enough to find the right channel/repeatable process.
Or, they found a sales process that is repeatable and scalable, but they don’t realize it and don’t actually scale it up.
(This happens a lot and has been true of many of my clients when they first found me. These are the same clients who would go on to sustain triple-digit growth rates shortly thereafter. There is a time and place to go big. And that time is when you have good unit economics and a repeatable sales process and a sales process that can be scaled. That is when you scale it.)
Other times, their unit economics are mediocre. If your unit economics aren’t great (meaning your LTV doesn’t exceed your CAC by at least double), you do not want to scale.
You want to go work on your unit economics. This is usually a sign of “whole product” to market fit issues.
The whole product is the totality of your customers’ experiences.
If your tech is good but there is no user training available, you have a gap in your whole product or user-experience ecosystem.
If your product is good, but your customers can’t integrate your product with their other systems, you have a whole product/ecosystem problem.
[I am constantly on my client and portfolio company CEOs to replace the word “product” (such as product team, product management, product development) with the term “whole product” (from Geoffrey Moore’s seminal work Crossing the Chasm) or “product ecosystem.”
So, someone isn’t in charge of “product management,” they are in charge of “product ecosystem management.”
It has a totally different connotation that gets you and your employees to see the world through your customers’ eyes.]
In addition to poor LTV to CAC ratio being a sign of poor unit economics, let’s look at the components of LTV that are often easier to track and more obvious to notice.
To slightly oversimplify, lifetime value is calculated by:
Number of Months Charged * Monthly Fee
The warning signs to look for are:
- High churn
- Low prices
When the average lifespan of a customer is low (due to high churn) and your prices are low, your LTV is going to be too low. Your unit economics will be too poor to scale.
(This is why growth equity and private equity firms look at unit economics. If they are crappy, they don’t want to finance crappy economics. It’s a good way to destroy cash with no return.)
The ability to charge higher prices is a measure of value creation for customers. It’s a sign of how important the problem you solve is to a customer.
Customer retention is a measure of how indispensable your offering is to the customer.
The optimal situation is both high prices and high retention.
If customers are willing to pay a lot for your product, and they never churn, you are in a highly advantageous economic situation.
If this is true for you, call me. I’m serious.
This means you have achieved the most difficult to achieve pre-requisite to scaling: brutally favorable unit economics.
In the right hands, a company with incredible unit economics can scale up big and dominate… with comparatively very low risk.
[Note: There is an exception to this rule of thumb. For some product categories, it can make sense to use product-led growth using a freemium pricing model.
Some users pay nothing. A subset pays fees for a premium version of the product.
This approach can make sense to use where there is some kind of viral marketing aspect to using the product.
However, even in this scenario, the retention rate and active utilization of the product are very high. Crappy products that nobody likes and they refuse to use don’t go viral (a.k.a. crap does not scale).
The difference here is that the free users are the repeatable and scalable sales process to find the customers who pay… you guessed it… high-premium prices. (Hence the term “freemium pricing model.”)]
So, these are your two paths after you’ve achieved the minimum viable product:
- If you have good unit economics, find the repeatable, scalable sales process, and invest in it heavily.
- If you have poor unit economics, shift from the minimum viable product mentality to the whole product/complete product ecosystem mentality to improve the product-market fit and unit economics. The two go hand in hand.