#16 – SaaS Primer – Part 2

In this episode, the second part of our SaaS Primer trilogy, we deep dive into Sales and Pricing in the Software-as-a-service space. For further context, please listen to episode 15, in which we did an Overview of SaaS and its intrinsic Business Models. Please look out for our next episode that will conclude our Primer, with deep-dives on Financing/Fundraising, Benchmarking/KPIs, Lessons Learnt and Predictions. Navigation: Introduction (01:24) Section 1 - Sales (01:52) Section 2 - Pricing (20:40) Conclusion (36:58) Resources Please check below to download our SaaS Primer PDF deck, serving as reference for our episodes 15-16-17 Our co-hosts: Bertrand Schmitt, Tech Entrepreneur, co-founder and Chairman at App Annie, @bschmitt Nuno Goncalves Pedro, Investor, co-Founder and Managing Partner of Strive Capital, @ngpedro Our show: Tech DECIPHERED brings you the Entrepreneur and Investor views on Big Tech, VC and Start-up news, opinion pieces and research. We decipher their meaning, and add inside knowledge and context. Being nerds, we also discuss the latest gadgets and pop culture news. Download Tech Deciphered SaaS Primer PDF Deck Subscribe To Our Podcast Intro (01:24)Nuno: Today in episode 16, we will have our second episode on our "software as a service" primer.For further reference, please also listen to our episode 15, where we started this discussion.Today, we will talk about sales and pricing, and we will go a little bit in depth into these topics. And we will see where the discussion heads. As always, we always get very verbose when we get excited, as you guys know.Section 1 - SalesBertrand: Exactly. Let's start today on the sales side. The sales motion, the sales process is obviously a critical part of any business. But, SaaS has its own approach to sales, and it's very tightly connected to the financing, obviously, we'll talk later about financing. What do we see as a benchmark of percentage spend of sales and marketing, as a percentage of ARR? What we can see, and we are leveraging some slides from Openview Partners, is that across the range, you are at the lowest, around 30 percent of spend in sales and marketing early on, below the $2.5 million ARR barrier. And then it goes up, 35, 40, potentially 45 percent of spend, on median. From $2.5 million, to 10, to 20, to 50, beyond 50. This is a median, so we see a pretty wide range, plus or minus, 15 percent of these numbers.So if I were to take a different stage, we can see that the wider range would be from 15 to 60 percent being spent in sales and marketing. So widely different range, and usually it depends on the business model. If you have a more product-led growth, you will spend less in sales and marketing. If you're a more traditional, I would call it old-school, SaaS approach, you will usually end up with higher sales and marketing spend. Nuno: And I would highlight two interesting pieces of this chart. One. It seems once you get to a certain critical mass of ARR, let's say about $15 million in this case that the costs will start reducing as a percentage of your ARR, which makes sense. You can start optimizing you have a certain scale and a certain brand, and there's a lot of things you can do.The second effect, which might actually correlate to that as well is in many cases, companies are growing really fast to get into the 50 million ARR or a hundred million ARR. So they are spending way into the market, and we discussed it in our previous episode, they're doing a land grab type strategy.And so there may be overspending on sales or on marketing overall for customer acquisition. And therefore, once they taper at 50 million or 100 million, they might actually then optimize their sales and marketing costs. Also underlines at some point, let's say the a hundred million mark, 120 million mark , would you want to go public as a company and therefore at that stage, you definitely need to align your sales and marketing costs so that the markets are like, okay, this seems like a good the amount. So again, I don't think there's anything, shocking about this chart, the next chart, which is sales and marketing spend by dominant sales channel for me was a little bit more surprising.Certainly indirect, seems to have the lowest spend as percentage of ARR, which makes sense in a certain way, because you're really going through a channel that should be the valuable channel that it takes away some of your marketing and sales costs. The part that I think was a little bit more counter intuitive to me, certainly that self service actually still has very significant, sales and marketing spend. And I would assume that a lot of is driven by marketing rather than sales, but it's still very significant. And from a median perspective seems very similar with, for example, field sales, which for me is almost mind blowing that they would have such similar cost basis again on a combined sales and marketing basis.What do you think Bertrand?Bertrand: Yes, I think, it's what it is, it's combined sales and marketing, if I take some situation like self-service, self-service without freemium, it's a lot of marketing actually to convince people to go to your site, to come and use your product, and pay for it immediately, without a chance to have a proper trial or free usage of the product, build the trust step by step. so you are going to spend more. so i am actually not surprised that on the freemium side it's probably where you have the opportunity to spend the less in combined sales and marketing, and at the same time if you are self service only or field sales, you have an absolute minimum to spend that is significant enough in sales and marketing and we are seeing that with a median of 30%, the minimum is actually 20 percent It can go as high as 60 percent spend in sales and marketing for self service. What's interesting for me is also indirect business model can be actually quite efficient. Based on these numbers nearly as efficient as a freemium business model. But we also know, that indirect sales business model is usually coming with a slower growth on one side, and also less controlling the way on your future. So I always have some suspicion on the indirect business model. I think some companies manage to do it very well, like Shopify. But for some others, I'm not sure about that indirect business mode, channel based approach, was really the right decision.Nuno: What about inside sales? it seems to be the least efficient by far, is it because it's a hybrid dimension, there's marketing costs on it and there's a lot of sales costs on it as well. It seems to be the most inefficient if you look at certainly as a percentage of ARR, is it because it's a mix of both? It's aggressive mix of both?Bertrand: It's a mix. It cannot be as efficient as freemium, where it's coming from the product. It cannot be as efficient as self service, because you have sales people to really pay, and sales people, ultimately it will always end up being the mass, make it worse than a marketing lead growth, like you would have in self service. I'm not totally surprised, and usually inside sales is focused on a very small business with a lot of churn.It's a game where you keep putting bodies. So I'm not totally, surprised, and field sales is a more traditional enterprise approach. And this one has been optimized for I would say a long while. And we know that there is less churn in enterprise business model. So all in all, to see that freemium is probably the most efficient model, followed by self service and field sales, I'm not totally surprised. For me the surprise is more on the indirect channel. But again, I think if it looks efficient, if we were to look at other metrics like growth rate, indirect might not look as exciting as it sounds.Nuno: Exactly. Which is the next slide. Maybe not that exciting.Bertrand: Exactly. so this next slide is actually, pretty good, because it's showing a comparable of how fast you can go depending on how much you rely on external channel partners. And here, what we can see is that your growth efficiency is actually, much better if you don't have indirect sales channel. The number is 1.39, if you have zero percent going through sales channel, and keeps going down to 0.48 if you have more than 25 percent of your customers acquired through sales channel.And what it means is the growth rate also is halved the more you go through sales channel. And having some experience with that, it's not surprising, because when you have to manage conflict between external sales channel, your own sales channel, very few companies just rely on indirect. You have to manage conflict, you have to train partners. Partners might talk a lot, but ultimately, don't deliver much. There are some industry metrics, where only one third of your partnerships actually deliver value.I'm not surprised. It's a lot work, a lot of management to deliver something that is truly efficient. My take is that if some like Shopify manage to be very successful with this approach, is that it was not a traditional channel partner approach. It was more a freemium type of, partner approach, where you let the partner do, some little work, some advertising, some convincing. But ultimately, the partners were close to irrelevant beyond advising the product to the customers. Everything else could be done, by the SaaS business Nuno: Moving to sales commissions. I was actually quite surprised by this chart. Obviously in median initial contract sizes above $250K we do see obviously a drop around the sales commissions, where the median there's between 10% and 12%, so 10% for direct and 12% for fully loaded. But overall it seems like the medians are between 10 and 13%.Again, 10% for direct, and 13% for fully loaded. Very surprising to me because actually, there's some variance here in the middle, in these smaller contract sizes,...