36. SaaS Startup Investing (Mamoon Hamid)

The Full Ratchet Podcast on iTunesNick Moran Angel List

Mamoon Hamid of The Social+Capital Partnership joins Nick to cover SaaS Startup Investing. We will address questions including:

  • Hamid SaaS Startup InvestingIn your words, can you describe what a SaaS startup is and the key elements that define a SaaS company?
  • Can you give an example of what is and what is not SaaS?
  • Can you provide an overview of the SaaS segment and a brief history of its evolution and growth?
  • How does a SaaS company evolve its business model to increase revenue per customer and move from a freemium model to strong revenue, per-seat, model?
  • What are some of the traditional metrics that SaaS companies measure and manage and directionally, what level or amount are you looking to see for each?
  • What additional or new metric(s) do you look at and why?
  • What advice would you have for founders of SaaS companies regarding the way they structure and present their material?
  • How do you evaluate very early-stage companies that don’t have much historical revenue data or traction to produce these metrics?

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Before we kick-off today’s episode, we’re going to start with a little trivia. ย To preface this, I am planning on attending the PreMoney Conference, out in San Francisco, hosted by the folks at 500 Startups. ย The conference is on June 12 this year and I was chatting with the organizers of the event. ย They were kind enough to offer a free ticket to a Full Ratchet listener. ย I’ve already purchased my own ticket for $500, I think it’s gone up since then. ย So I’d suspect that the value is around $700 or more. ย This will be my first year attending, but I hear it’s a fantastic gathering with some of the best speakers in the Angel Investing and early-VC world. ย One of which is Naval Ravikant, founder of AngelList. ย Naval and I have recently been trading emails about a variety of specifics related to the mechanics of startup investing, and so the trivia question I’m going to ask will be related to that. ย  And if you listened to the recent Episode 32 of the Full Ratchet, you probably have some good insight and can figure it out. ย So, if you’re interested in attending the PreMoney conference and you’d like a free ticket, just e-mail me, nick@fullratchet.net, with your answer to the following question. ย I will randomly select a winner from those who were correct and will reveal the winner and the detailed answer next week.
ย 
So here it is…
ย 
An LP invests $100k in a Venture Fund and another $100k in a Syndicate. ย The Venture Fund is a standard 2/20 structure. ย The Syndicate lead takes a 15% carry and AngelList takes their 5% carry.
  • Both the fund and the syndicate invest in the same 10 companies at the same terms
  • Both the fund and syndicate invest at the same time in each company
  • The fund invests the same amount in each company
  • The syndicate invests the same amount in each company
  • Out of the 10 investments made, five fail completely
  • Two of 10 return at ~1x
  • Two return at ~3x
  • And one company has an out-sized return, yielding a total portfolio return of 5x on invested cash, for both the fund and the syndicate.
So the question is… ย Does the LP make a larger return on the $100k invested in the fund or the $100k invested in the Syndicate?
ย 
Shoot me an email nick at fullratchet dot net and let me know what you think. ย Is the better returner the fund or the syndicate? ย And if you can explain why, great, but I don’t require an explanation for you to be eligible for the free ticket to Pre-Money. ย I will announce the winner next week.

 

Answer: ย Economics of Syndicate vs Venture Fundย 

Guest Links:

Keyย Takeaways:

ย 1- What is SaaS?

SaaS started out as companies referred to as ASP’s, Application Service Providers. This was software that was one version, with a single configuration, that scaled across large numbers of customers. And on the business model-side the key factor that makes for a SaaS company, is that the software can be used in exchange for a recurring fee, similar to rent. It is not available for purchase nor is there some sort of performance dollars, revenue share or advertising fees. As long as a user pays for the recurring fee for their seat, they have the right to use the software.

2- The success and growth of Software as a Service

Why did SaaS companies get traction and disrupt traditional enterprise software? Mamoon discussed two main reasons. 1- By paying per seat per month, a company’s TCO, total cost of ownership, was much more palatable and scalable with use. They could roll out a SaaS program to select group for peanuts instead of adopting an Enterprise solution, with mass installation requirements, for hundreds of millions of dollars. Essentially, it is a way to reduce significant risk and time-wasted while, in parallel, assessing the value that a tool contributes to your business before making a big bet on it. And, in particular, for small companies, this was a great way to scale their usage of the software commensurate the growth of their business. 2- The second main reason that was cited for the success of SaaS businesses had to do with user adoption. In some cases, SaaS companies have used a bottoms-up approach, instead of a top-down. What’s meant by this is that the individual user adopts and incorporates the SaaS software into their daily work-flow before the business leadership has made any decision or potentially even before the leadership is even aware that the platform exists. Through a freemium model that encourages a user to get other users to adopt, the SaaS platform can form a large user base, within a company, and become embedded. It is at this point, once a critical mass of employees is dependent on the SaaS program, that the enterprise must make a decision on how to move forward. And, in order to unlock more features, enhanced efficiency or greater usage from the SaaS program, then the enterprise starts to pay a per seat license fee.

3- Advice for SaaS founders and early-stage SaaS investors…

We discussed how many early-stage startups will not have a long enough track record to present meaningful metrics. But even if a startup doesn’t have the traction and numbers-to-date, they absolutely can frame their forecasts and their projections through the appropriate ratios and demonstrate to investors that they understand how to manage this type of business. What comps and similar SaaS businesses are you basing your model on? When is your Series A fundraise projected to occur and does your forecast reflect a fundable SaaS company at that time? And, it’s not just about the fundraising process. More importantly, these metrics reveal the strengths and weaknesses of a business. If a founder is managing the business to these metrics and their Quick Ratio is two, instead of Mamoon’s preferred four or greater, what’s the source of the low quick ratio. First they can ask if it’s a growth issue or a churn issue. Then if, for instance, it’s a churn issue, is it lost customers or retraction of dollars per customer? This can allow better outcome-focused management and reveal the source of challenge areas and allow them to be assessed and counter-measured.

Tip of the Week: ย ย SaaS Metrics to Measure & Manage

”HIDE/SHOW
Below is the 'Tip of the Week' transcript from the Podcast Ep36: SaaS Startup Investing (Mamoon Hamid) On today's show we talked about a lot of different SaaS metrics and I wanted to take this week's tip to define each, review how they work and talk about the preferred level for these metrics. And remember that this only includes those that we reviewed today. There are limitless other metrics that one can evaluate but we covered a lot of critical ones, so that's what I'll review. First, we'll start with... (more…)Read More...

FULL TRANSCRIPT
*Please excuse any errors in the below transcript
ย Nick: Today, Mamoon Hamid joins us from Palo Alto. Heโ€™s a general partner at the Social+Capital Partnership, VC firm based out in the Bay Area. And Mamoon has invest in iconic SAS companies such as Box, Yammer, Slack, Greenhouse, Intercom, Castlight Health, Act-On software, and dozens of others. Mamoon, thanks so much for the time, and for joining us today.Mamoon: Thank you, Nick!Nick: So, can you walk us through your background and how you got into venture?Mamoon: Sure, yeah. So I moved to the Bay Area in 1997 right out of college. I had studies electrical engineering at Purdue, so naturally the place to go was Silicon Valley in 1997, when all the rage was chips and SGI at Intel, so I came out here to work for a Silicon Valley based, Semiconductor Company called Xilinx and joined as an engineer. Did that forโ€ฆthree years, and got to learn and go right through the first internet boom more on the sidelines as a guy who built chips for the networking and telecomm industry. So I got to see that really play out over the course of a few years.
And then I knew I didnโ€™t want to be an engineer forever, so I started to think about my next steps and got recruited to a team that was tasked to find new growth areas for the company right as the bubble was bursting. And for my company, most of our revenue was from the telecomm and networking space, so we had to quickly find a way to get out of that, or at least find new areas to grow from. And so I was part of this new startup within a larger company, which is kind of my taste of a startup being when things werenโ€™t so great. So actually got some pretty awesome responsibility to go after consumer and automotive for our company and grew that to be a real businessโ€”became a hundred million dollar business over the course of three years that I was responsible for. Kind of an amazing leap to make from engineer to like starting a little business and taking leadership of that business and growing that into a real revenue stream for our company.Nick: Sure.Mamoon: Yeah, soโ€”and that was sort of like my operational career as an engineer and operator in the Valley. And I was fairly young at the time still. I graduated college when I was nineteen so by that time, I was like twentyโ€”twenty-three/twenty-four when I started thinking about sort of my next thing. And one of the things Iโ€™d been doing at that company was also helping evaluate some investments out of our corporate venture fund. So we had this seventy-five million dollar corporate venture fund that was investing in semiconductor startups but also like ETA start-ups, and networking startups, and so got a little taste by helping them evaluate a number of companies and that was sort of my first foray into venture investing.
And that was in the back of my mind as I was thinking about sort of the next thing I could think about doing in my career, which led me to thinking about going to business school. Less so about the learning, and more about having time to be away from the valley for a couple years. So applied to one school, got into that one school, moved to Boston to go to Harvard for a couple of years to think out of the valley echo chamber, knowing that Iโ€™d want to come back to the valley and do something in technology. And really, in venture capital, that came to be. So I had my eye set on venture capital for, I guess, a long time, and made sure I spent that summer between first and second year of business school in venture capital.
So I find myself an internship at a small VC firm in the valley. Got a chance to look at some interesting companies during that summer, and really sink my teeth into what it means to evaluate companies and what it meant to due diligence and what it meant to be at a VC firm. I liked it enough to really consider it as a full time thing post-business school, and set my sights on finding a job at a business school inside of venture capital. And that lead me to US Venture Partners, which at the time was probably close to a thirty-year-old firm that had done a lot of semiconductor investing over the course of the twenty years prior. And some of the best semiconductors in the business were actually at USAP, so what better place to join as a guy who had a semiconductor background to join USAP and learn from some of the best in the industry? And thatโ€™s what lead me to USAP and sort of lead me to my first venture capital job.Nick: As a student out in Boston, did you get a sense for the venture environment out there and the mindset and how it was different from the Valley?Mamoon: You know, at the time, Boston was still very relevant in the venture world, and since 2003/04/05, when I was thereโ€ฆand I frankly didnโ€™t spend much time thinking about staying in Boston, and it wasโ€”it already had changed over what networking and telecomm really did have a bust, and the next generation of Boston companies were really not starting in Boston anymore. We really were moving toโ€”this is like, you know, Mark was starting Facebook, and that was in โ€™04. I think he actually tried to raise money in Boston based firms and I donโ€™t think he got too far and he moved out to the Valley.
So at the time, in Boston โ€˜04/โ€™05, things were not very techcentric at all. In fact most of my classmates didnโ€™t want to have to do anything with tech. and I was among the very few who come from tech, who definitely wanted to go back into tech. so tech was definitely not hot. And to sort of give you a sense of timing, this was when Google was going public, and the people who were going to Google at the time, at the ninety-seven dollarโ€”people were like โ€œYou guys are kind of sillyโ€ for going to this company thatโ€™s fully priced at a public company. And thatโ€™s obviously had a 10x since then. One lesson there is, uh, business school studentsโ€ฆplacards when it comes toโ€”in fact theyโ€™re a leading indicator of whatโ€™s potentially to go down. [both laugh] Myself probably included.Nick: Did you have exposure to Mark? Iโ€™m curious if you had an opportunity to investโ€”you know, one of my special investor questions I ask a lot of folks is why I passed and I can only dream about talking to a Boston VC that passed on Facebook.Mamoon: Yeah, so I was at Harvard when Facebook got started, but I was at the Business school where it wasnโ€™t really a thing. So when I did my summer in โ€™04 here in the Bay Area, one of myโ€”the partner I worked for, his kids were at Stanford. And they started using it. And he told me โ€œHey, this Facebook thing is blowing up. You know about this? Youโ€™re at Harvard, you should know about it.โ€ Andโ€ฆthatโ€™s the first time I actually heard about it, was from my partnerโ€™s kids. And I got onto it, and there was like no one from the business school on it. Thereโ€™s a couple people I think I connected with as friends, who were not my real friends, but they were at Yale, and Penn, and a couple other places. Soโ€ฆitโ€™s not until after we graduated from Harvard did the Harvard Business School students get on Facebook. [both laugh]Nick: Laggards.Mamoon: Again, like I said, not early adopters of great stuff.Nick: Thatโ€™s awesome. So Iโ€™m a Hoosier myself, and Iโ€™m pretty glad I didnโ€™t tell you that when I asked you for the interview or you might have passed on that. Soโ€”Mamoon: Well, Iโ€™m sorry for you.Nick: Yeah, itโ€™s a tough basketball year. But Iโ€™m curious, how does one graduate college at nineteen?Mamoon: Okay, so, the way it works is, you skip a bunch of grades. So I grew up in Frankfurt, Germany, and I started my academics in German school, actually. First grade was German school, and sort of the end of first grade, my parents decided โ€œWouldnโ€™t it be great for you to go to an English speaking school instead? Because who knows if weโ€™ll continue living in Germany.โ€ My dadโ€™s job was in Germany, but there was always this thing in the back of their head, sort of x spots in Germany, that we may move. We may go to another country, and itโ€™s better to have English speaking education than to have a German speaking education so itโ€™s more transferable.
And so, I interviewed at a couple of American speakingโ€”English speaking schools, and I donโ€™t know. This thought crossed my mind, and my parentsโ€™ mind, like โ€œHey, why donโ€™t you just skip second grade and go to third gradeโ€ only because it seemed so easy. The curriculum and the second grade curriculum I was testing through seemed so straight forward and easy. Soโ€ฆI just skipped second grade by switching schools. And ended up in third grade. And then we actually ended up moving when I was in fifth grade, and we moved to Pakistan, where school starts off a cycle every six months. So instead of moving from fifth grade to fifth grade, I moved to sixth grade. Gained a year.
Then we moved back to Germany later in life, and instead of going to ninth grade, which I shouldโ€™ve gone to, I went to tenth grade. So I got two half years, that got me another year, and then I skipped a year in college because I test out a bunch of AP courses in high school. So thatโ€™s how you get three years.Nick: Wow. Iโ€™ve never heard that before, but thatโ€™s pretty incredible. So alright, sorry for getting into the weeds, today the topic is SAS. I was thrilled to come across your slide share content that you put together. It was robust and so thoughtful. So very pleased to have you on the show today to help us walk through this topic. But weโ€™ve talked about it before on a number of shows, and I wanted to get in your words the definition of SAS, and if you could give us an example of what is and what is not SAS?Mamoon: So, SAS is software that is delivered for rent and paid for monthly, or annually, without installing any software behind your own firewall. So, itโ€™s not a license, itโ€™s not the professional services that go along with installing something or getting something deployed, itโ€™s purely software that you pay for and you get some direct benefit from as a service. So Box is SAS. What their SAS solution offers is storage as a service, with an application around that storage. Yammer is a SAS company, it offers enterprise social networking to every single employee in a company, rather than deploying it behind a firewall with something like Jive, which wasnโ€™t SAS for many years. This was SASโ€”Yammer was SAS.
Whatโ€™s not SAS, for example, isโ€”are companies that take a percentage of revenue, theyโ€™re delivering software, like Stripe, but they take a percentage of that gross transaction value as their revenue. Thatโ€™s not SAS to me. A company that has advertising or leech-end revenue, is not SAS. So technically Zenefits today is not a SAS company because the revenue that they generate is from health insurance brokerage fees. So they are the broker of record, for even a company like ours. And the revenue that they generate comes not from the companies like ours, but it comes from health insurers that write them a check for getting them customers for their health insurance. So those are not SAS companies to me. But that gets into the technicality of the revenue that companies generate.
So for me itโ€™s pretty clear when we look at a SAS company, what the kind of metrics and what the kind of revenue quality weโ€™re looking for to call it a SAS companyโ€”and thereโ€™s a lot of SAS companies. Thereโ€™s lots and lots of SAS companies. Last count, thereโ€™s probably like, I donโ€™t know, ten thousand SAS companies?Nick: Yeah. Plenty of SAS companies out there. It sounds like the way that you look at it is sort of an intersection between the fundamental offering, the technology, as well as the business model, or monetization.Mamoon: Correct.Nick: So can you give us an overview of the SAS segment? And you talked about how many SAS companies there are, can you talk about what the constituents are within that greater SAS segment, and a brief history of its evolution and growth.Mamoon: Sure. So, maybe Iโ€™ll start with theโ€”technically what a SAS company requires you to be in ordered to be classified a SAS company. But thereโ€”what predates me is a SAS company used to be called an ASPโ€”an application service providerโ€”and thereโ€™s all kinds of lingo that was used in the earlier 2000s to classify SAS companies, and one of the key requirements was always this notion of a multitenant architecture. Which essentially meant you had a version of your software running somewhere in the cloud that could scale infinitely to the number of customers. So you didnโ€™t have to install another version to satisfy the needs of anther customer. It was one version with a single configuration that scaled across lots and lots of customers. And that was sort of what definedโ€”defines a SAS company.
And so the evolutionโ€ฆreally if you go back the last fifteen years, if I look at the first SAS company, this again predates my experience, I look back at companies like Concur and Salesforce and SuccessFactors as among the sort of first SAS companies. Companies that started out in the late nineties, maybe like โ€˜99/2000 era. And they were the ones to first exploit this notion of have one version of the code in a cloud based service, or in a public data warehouse, where you could offer it to lots and lots of customers. And so, if I can recall, Salesforce started in 1999. I think Concur was maybe before that. But those really I think are the first generation of SAS companies. And then the next generation of SAS companies really fell into this camp of almost like consumerization enterprise, and thatโ€™s when I think about Box and Yammer and Zendesk. I call it sort of the consumerized SAS companies where the application doesnโ€™t look like your NetGear router screens and it looks more like consumer software they now use inside of the enterprise.
The next generation as I see now is like the third generation, the things weโ€™re kind of investing in right now, or the last few years, we have are the likes of Slack and Greenhouse Intercom, theyโ€™re almost like theโ€”even more so focused on the daily use case of the office worker, the knowledge worker, more than anything before that. If you look at even the transition, across the first and second and third, they start to look more and more like consumer companies than enterprise companies in terms of the product look and feel. So if you look at the sortโ€”overarching, then if the software industry worldwide is four hundred billion dollars, SAS is only still like close to twenty billion dollars today, plus or minus. So thatโ€™s like five percent of the overall software revenue in the world are still only SAS. Which, obviously, we see as a lot of opportunity for our companies and for ourselves.Nick: Right. So, itโ€™s transitioned over time for more infrastructure and security to a lot more consumer offerings.Mamoon: Yeah, I would say kinda the nuts and bolts of running large companies. You know, whenโ€”letโ€™s say you looked at the Siebel deployment and youโ€™re a small company and you have to spend two million dollars for your fifty person company to deploy Siebel, youโ€™re scratching your head like โ€œWhat the ROI of this? Am I ever gonna use it?โ€ and thatโ€™s why Salesforce came to be. Itโ€™s like โ€œWell, I can offer it to you for a hundred dollars a set per month per salesperson.โ€ So you have twenty sales people, okay. Thatโ€™ll be two thousand dollars a month. Twenty-four thousand dollars a year instead of the two million probably that you wouldโ€™ve spent for licenses and deployment and all kinds of other crap that didnโ€™t make any sense and by the time you deployed it, the features might be obsolete. And a lot of enterprise software, license software became obsolete by the time it was deployed.
So SAS really allowed, you knowโ€”and this is completely amplified nowโ€”is that those who couldnโ€™t really afford it, the TCO, the total cost of ownership, made so much more sense for smaller companies to go this SAS way by paying by the seat by the month, rather than buying the license for your whole company. So what happened was a lot of the basic stuff like Human Capital Management or HR Software, Financial Planning Software, Expense Management software, Sales Flow Automation, CRMโ€”thatโ€™s the kind of stuff that was the first generation that really when the way of SAS. And, you know, we got a number of ten plus billion dollar companies that come out of it including Workday and Concur, sold for eight-point-something billion, and we all know how much Salesforce is worth. And thereโ€™s a couple of companies at SuccessFactors which got acquired for about three something billion. Iโ€™m sure it wouldโ€™ve been a much bigger company todayโ€”or even Omniture which was the first sort of SAS based analytics company that got acquired forโ€ฆnot a number, relatively speaking, in the couple billion dollar range, would be worth a lot more in 2015. But a lot of consolidation did happen towards the end of the last decade where a lot of the first movers either consolidatedโ€”and some are still standing aloneโ€”are standalone companies.Nick: As Iโ€™m thinking about it here, I imagineโ€”I used to run product for aโ€ฆabout a hundred and seventy million dollar vision of a conglomerate, and Iโ€™m thinking about how easily adaptable SAS would be as opposed to some of our offerings. We had a mix of software and hardware, of course, but the authority required and, to your point, the ROI required to justify that expense decision, or that capital expenditure, is a huge hurdle and makes for really long sales cycles. But if you can ramp up on a per seat basis for a monthly fee, and always pull back if itโ€™s not delivering any ROI, I imagine itโ€™s a much better option.Mamoon: Yeah, and thatโ€™s the point aboutโ€”weโ€™ve moved from a world of top down to bottoms up. Where it used to be the CIO would sanction the adoption of a particular application, like Box, if itโ€™s storage for every single employee, it would be a CIO decision, but what happened was instead you had individuals inside of marketing adopting it because it made their life easier as they were working with their marketing agency, their ad agency, and then they started to share with them and also share with their colleagues internally. And then it spread from marketing to product, and the whole business unit adopted it. And then, instead of just the business unit, you had people from other business units starting using it with the people from the initial business unit, and then the whole company adopted it. And thatโ€™s the kind of success that companies like Box had, was this bottoms up adoption, where people could justโ€”you know, the premium just worked to get lots and lots of people into their funnel and then they converted by using their own credit cards, eventually leading to paying on their credit card even for their department. And over time, someone on the IT side actually getting involved to do a whole company wide deployment.
Thatโ€™s the case with lots of Fortune 500 companies, where adoption sort of happened through this bottoms up mechanism. And thatโ€™s been the beauty of SAS is the ability to also grow with your customers, and also grow the complexity of a product with your customers. A company like Box probably couldnโ€™t have closed Proctor and Gamble in its first year of existence, but by the time there were ten thousand users on Box from Proctor and Gamble, we had all the features necessary to appease the need of an IT buyer from a security and control standpoint. Thatโ€™s been the other beauty of it. The ability to grow with your customer base over time, and thatโ€™s sort of something that doesnโ€™t get talked about a lot. But you just canโ€™t, on day one, close these massive, long sales cycle customers just because they have different ways of making decisions than individuals do.Nick: Itโ€™s like real virility instead of faux virility, right.Mamoon: Yeah, yeah.Nick: More like a productivity pill that permeates the organization.Mamoon: Yeah thatโ€™s something we think about a lot, is rather than selling shelfware and making lots of money off of no used of a product and zero ROIโ€”our intent even as investors, and Iโ€™m sure people who build the products, is โ€œHow do I build a product that people will actually use and love and get value from?โ€ And thatโ€™s really a determining factor in how we make our investments, is we think about daily active use products. The tools that employees at companies use on a daily basis, itโ€™s the first thing they open up, just like with the email in the browser window when they get their day started. Itโ€™s the last thing they close down. What is that tool if youโ€™re a product person, a marketing person, a sale person, a customer support personโ€”whatever your role might be? What is that one tool, or two tools? And so thatโ€™s what weโ€™re looking for when we invest in these thingsโ€”in these companies.Nick: This companyโ€”I do consulting for a variety of companies, and one of which that I have a large engagement with right now, is using Slack. And Iโ€™ve seen this thing just proliferate throughout the organization. Everyoneโ€™s on it now and itโ€™s kind of a necessary tool.Mamoon: Yeah. I mean, thatโ€™s just an unprecedented growth story. Iโ€™d be happy to talk it, but yeahโ€”itโ€™s, uhโ€”Iโ€™ve never seen anything like it.Nick: Iโ€™m curious, I donโ€™t want to get too far off the script, but this is good stuff. So, when you invest in a SAS company, and youโ€™re advising them, looking for their sort of hockey stick growth, are you also looking for them to sort of build out that offering and upsell and exploit adjacent opportunities around that core offering, in order to move the needle on the monthly per seat dollar amount that they can capture?Mamoon: Yep. So, yeah, I would say the way it typically works out, if itโ€™s a freeman business, if itโ€™s a free version of a product, and thatโ€™s the case with Box and Yammer and Slack. They all had free versions of the product. And the paid version, in the case of Box, more storage. With the case of Yammer, you got some more security and control. In the case of Slack, you get search integrations. So thatโ€™s the next layer up, and then, the layer up from there is like typically enterprise grade features. Certain certifications, things that make the CIO and CIS feel good about deploying software. And so thatโ€™s sort of the very linear way of ratcheting up pricing per seat, and it works pretty well. And I donโ€™t encourage my companies to sort of fan out too much from there. Because thereโ€™s enough market size to service 1.5 billion knowledge workers with a content management solution, what Box does. Or if you want to deliver enterprise message and collaboration tools via slack to 1.5 billionโ€”thereโ€™s enough market size there. So yes, lots of features get built in over time, but thereโ€™s quite tangential as opposed to orthogonal to what theyโ€™re already working on.
So focus as you know is a core thing to any successful startup and you can get pretty massive just off of one thing, and as Salesforce has proven, you can be pretty big as just a CRM company. And obviously theyโ€™ve done a lot of things that are outside of the CRM, but thatโ€™s because they wanted to continue to grow thirty to forty percent year over year, and you canโ€™t just grow that fast at multibillion dollar scale at just CRM.Nick: Yep. Sometime down the line, itโ€™d be nice to have a reflective conversation about sort of where we end up withโ€”I know Iโ€™m using Google Drive, and Oscona, and Slack, and Salesforce, and email of course, Trelloโ€”you know, thereโ€™s all these tools and they are complimentary and they all fit in the ecosystem in a good way, but it becomes a bit hard to manage everything when youโ€™re working in such a wide landscape of different platforms. But Mamoon, can we talk about some of the metric for SAS? You touched on earlier how a business may look like a SAS company, but the business model is a fundamental component. And I imagine thatโ€™s important because as a venture investor, youโ€™re able to analyze in a more repeatable and structured way. So can we talk about some of the metrics that SAS companies need to manages and optimize and also what you guys as the venture capitalists look for in terms of what the metrics are and where they need to be?Mamoon: Yeah. So, given that weโ€™re sort of fifteen years into the world of SAS, thereโ€™s a lot of data now around whatโ€™s best in class and what are the right metrics to track, and thereโ€™s terms that have been coined like โ€œthe magic numberโ€ and I came up with this thing called the โ€œquick ratio.โ€ So thereโ€™s a lot of precedent for numbers and metrics now, but Iโ€™ll distill it down to the ones I think are super important for the companies I look at, especially at the early stage we look at them.
The number one thing is whatโ€™s your monthly MRR growthโ€”or in a given month, whatโ€™s your monthly recurring revenue look like? And typically, the month recurring revenue is decomposed into โ€œWhat are the new logos you signed up that month?โ€ โ€œWhat are the existing logos that signed up for more seats or went to a higher plan so they expanded?โ€ Subtract that by the number of existing logos that actually either decided to downgrade or go down in their plan. And then subtract finally by logos that completely churned and went away. So to add all that up and you get your net new monthly MRR. And I think every single company should maniacally track that on the monthly basis, and look at it month. If it increases, thatโ€™s great. If itโ€™s decreasing as a startup, it may be because your sale cycles are longer and itโ€™s a bit lumpier of a business than a transactional business where things should kind of continue to grow up into the rightโ€”because presumably youโ€™re in a space thatโ€™s sort of untapped and you are continually getting better at marketing yourself and increasing the top of the funnel which should mean that youโ€™re getting more qualified leads, and youโ€™re adding more sales people to close those leads.
So your net new MRR should always increase. If itโ€™s not increasing on the month to month, it should definitely be increasing on a quarter basis. And thatโ€™s sort of the one thing that I definitely look for. A key metric, net new monthly MRR growth.Nick: And, Mamoon, MRR itself is typically an absolute dollar? Units in dollars, is this metric also in dollars or are you looking at it in like a percentage or a delta?

Mamoon: typicallyโ€”yeah, I look for dollars. Thereโ€™s two ways to look at it, is customersโ€”like number of customersโ€”or dollars. The better thing to look at is dollars, rather than number of customers.

Nick: Got it. And Iโ€™m sure that that scale changes sort of as the startup progresses from seed to A to B.

Mamoon: Yeah, so I would say a seed stage company, like just completely ball parking it just to give a sense to the audience, isโ€”a seed stage companyโ€™s probably batting anywhere from 5 to 10k a month, or in that 5k a month range. A Series A companyโ€™s batting 10/20k a month of recurring. So annualize that, right, youโ€™re adding 10k a month of MRR, that means youโ€™re adding 120k a month of annual recurring revenue, and if you added that every month for the whole year, youโ€™d be adding 1.44 million of annual recurring revenue. Soโ€ฆif you did that just on a flat basis and you didnโ€™t even grow, at the end of a year, youโ€™d be at one half million of revenue. So Series A companies start to add more of that a year, and then you scale that all up. And I would say weโ€™re seeing companies add anywhere fromโ€”Iโ€™d say our Series A companies are adding that 10/20/30k a month, and weโ€™ve got some companies that are adding 500k a month.

Nick: Wow!

Mamoon: Yeah. So, a lot of MRR being added.

Nick: Good bet there, Mamoon.

Mamoon: Yeah!

Nick: So, this last metric, it sounds like itโ€™s a bit of a hybrid between the MRR churn and some of these other things to really arrive at a metric thatโ€™s very useful for you guys. Before we get into the quick ration, can you talk about some of the other traditional metrics that a lot of VCs will look at and a lot of SAS companies will measure and manage?

Mamoon: Yeah, so for me the net new MRR number, it really encapsulates everything about a business. It encapsulates how youโ€™re able to enclose new deals, how youโ€™re able to manage your existing deals, and how happy your customers are or unhappy they are because theyโ€™re churning away completely. So it encapsulates the whole essence of a company into one metric. And thatโ€™s why I like it so much.
And so, other things you can look at, and theyโ€™re great things to track, are growth churn and net churn. Growth churn sort of varies by the type of end customer youโ€™re selling to. If youโ€™re large enterprise company, your growth churn is typically much lower because typically youโ€™re earning annual deals and in your first year you may not have any churn, and the second and third year, the sale cycle is longer, and itโ€™s harder to get in, but itโ€™s also harder to get out. So the growth churn on enterprise deals is lower. But if youโ€™re selling to SMBs, itโ€™s easy to get in, itโ€™s just as easy to get out of the software, the churn gets to be higher.
And when you look at this thingโ€”net churn, everybodyโ€™s looking for a negative net churn. Which means that for every dollar that Iโ€™m generating today for my customer, then next year Iโ€™m generating more than a dollar. Iโ€™m actuallyโ€”my cohorts are expanding their revenue over time. And thatโ€™s something that ever good SAS Company has, negative net churn. And again, itโ€™s something we always look for in a company that is able to show net churn. Because in an early stage company, if youโ€™re a one year old company, itโ€™s really hard to show expansion of your MRR from your existing customers because most have only been with you for months. So it only makes sense if youโ€™re looking at year two three and four of a company. But itโ€™s certainly something that you want to track.
Other things that you track are average deal size. You know, average ACBโ€”average contract value. Weโ€™ll look at price per seat per month. Then I start tracking things like sales efficiency. So how many reps do you have? How much quota does each rep carry? You multiply those two and you get your quarter capacity. Then you find out how much of that quota was attained by them, and thatโ€™s the percentage of sales efficiency. As companies get more mature, we start looking at things like LTV and KAK. But Iโ€™m not a huge fan because LTV and KAK typically assume a lot of things. And you can start to show a lot of really attractive things with LTV and KAK, but really thereโ€™s so much embedded into those numbers that a lot of times you really lose sight of where things are. So I try not to focus on those two things.

Nick: I feel like Iโ€™m reading David Scopeโ€™s blog all of a sudden. [Both laugh] Alright, can we talk about the quick ratio, and/or the new and additional metrics that you guys look at?

Mamoon: So yeah, the quick ratio is justโ€”whenever I eyeball a companyโ€™s net new MRR chart, but eyes just kind of go straight to this bar that has whatโ€™s above the line and whatโ€™s below the line. And itโ€™s just like a simple heuristic to figure out โ€œHey this is working, or itโ€™s not working.โ€ And because itโ€™s such a quick thing to do, I call it the quick ratio, and it really is more relevant to companies that have, again, a below the line thatโ€™s significant because theyโ€™re having real customer churn or theyโ€™re seeing customers contract more so than expand. So it become more relevant in you 2+ and beyond really.

Nick: And is it a true ratio? Is the additional MRR over the less MRR or?

Mamoon: Itโ€™s a true number. Essentially, you take whatโ€™s the new logo MRR and the expansion of that existing customer MRR, so thatโ€™s abode the line. And you divide that by whatโ€™s below the line, that contraction MRR from existing customers. And you had to the churned customers who completely cancelled. So letโ€™s just say in a given month, a Series A company got a 15k of new customers, and then you had existing customers, add 5k, thatโ€™s a totally of 20k above the line. And existing customers lose 2k, and then you had come existing customers who completely cancelledโ€”letโ€™s say thatโ€™s another 3k. So below the line youโ€™re got 5k and above the line youโ€™ve got 20k. So the quick ration on that is twenty divided by five, so four. And thatโ€™s actually a completely okay quick ratio.

Nick: Got it. So itโ€™sโ€”itโ€™s kind of similar to the original new expansion MRR, itโ€™s just framed as that ratio?

Mamoon: Yes, exactly. Itโ€™sโ€”that one chart, like I said, it kind of says a lot of stuff. And one of the outgrowths of that chart is the quick ratio.

Nick: Awesome. I love when you can boil down all these competing metrics and various ways to capture the true value and attempt to put those into something that makes sense in a singular metric. Coolโ€”okay, what advice would you have for founders of SAS companies regarding the way they should structure and present their material to a venture capitalist?

Mamoon: Given that thereโ€™s so much data now on SAS companies, including their own, and thereโ€™s so much public data on public companies now, itโ€™s pretty important to be up on the numbers. Like you want to track every number, you want to present every number. If it makes sense to your business-whatever like, you know, you have to contextualize it to your company. If youโ€™re selling to large enterprise, you may want to include how much time it takes to close a deal because you may not have a lot of sales data and the number of customers may not be that high but the ACVโ€™s relevant, and the ACV growth over time may be relevant because your first like five deals may have been sweetheart deals, and their sixth, seventh, and eighth deal actually may be more representative. It all varies based on your business butโ€”itโ€™s incumbent on you to figure out what to present, but all the basic metrics of a SAS company, thatโ€™s like table sticks. And even if itโ€™s not presented in the main deck of a company, it should be part of an appendix in case someone cares.

Nick: At the very early stage when companies are either at idea or maybe theyโ€™re got some traction, how do you make sense on these metrics and how do you advise them on making sense of the metrics when you donโ€™t really have a whole lot of historical data to work from?

Mamoon: Yeah, I mean, if you have like five customers, itโ€™s pretty hard to draw any conclusion from even ACV or price per seat. Itโ€™s just gonna be all over the map. And thatโ€™s why when weโ€™re looking at a seed stage company, weโ€™re really making a bet on the team in the market, and we donโ€™t do any of those but when we do, itโ€™s because of that. At the Series A, weโ€™re expecting to see dozens of customers if not hundreds of customers and MRR thatโ€™s approaching 100k of MRR, so thereโ€”letโ€™s say your month per customer is a thousand dollars thatโ€™s a hundred customer. Thatโ€™s a lot of customers to actually see what their adoption is like of your product, how many users are actually inside using your product on a daily basis. Thereโ€™s a lot of things you can eke out from a hundred customers, and thatโ€™s again on the entrepreneurs to tell usโ€”paint the best picture why, or the realistic picture why their product is so great and why people love it so much is because itโ€™s used.
And so itโ€™s important again to go back to what you think is the right metrics to present as opposed to usโ€”weโ€™ll ask the same questionsโ€”โ€œWhatโ€™s your MRR? Whatโ€™s your gross churn, net churn, ACV, price per seat?โ€ and you might just like โ€œWell itโ€™s kind of all over the place right now because weโ€™re just figuring out our pricing plantโ€ or โ€œThe best comp to us is Box or Zendesk, and thatโ€™s how weโ€™re gonna price it and weโ€™re modeling ourselves afterโ€ a comp that already exists out there.

Nick: Mamoon, Iโ€™ve heard about this Social+Capital Partnership as this partnership of philanthropists, technologists, venture capitalistsโ€”can you talk a little bit about the firm and what youโ€™re focused on?

Mamoon: Yeah, weโ€™ve got a core focus as a firm on addressing multitrillion dollar industries that havenโ€™t been transformed by technology. We do a lot of investing throughout healthcare, education, and financial services, because we think that technology plays a huge role in all of these, and thatโ€™s our core focus. So those three area. And then also enterprise, which is where I spend a lot of my time, as you know. And between those, these are all very deepโ€”like weโ€™re fishing in really deep waters, solving big problems. Therese are companies that can be multibillion dollarโ€”ten, twenty, thirty, if not hundred billion dollarโ€”companies, especially some of the companies that we back in the financial services and the healthcare space, like in diabetes for example, can be massive massive companies. So we feel good about investing in companies that truly transform society, and that sort of is kind of embodied in our name a little bit, with the social capital. And we think that the most capital value, enterprise value, can be generated by touching the most humans possible. And so thatโ€™s the social part of it, touching lots of people in society. And thatโ€™s sort of our mission.

Nick: If thereโ€™s any topic in venture that you would like to hear addressed, what would that topic be and who would you like to hear speak about it?

Mamoon: Wowโ€ฆthatโ€™s a good questionโ€”letโ€™s seeโ€ฆ I think you got me on that one. Iโ€™ve heard from a lot of peopleโ€”Iโ€™m a student of the venture businessโ€”actually, you know, itโ€™d be great to hear from someone who are operating in the venture business in the โ€˜70s and โ€˜80s. Like Don Valentine or Peter Lamont. Like howโ€™s it different from back them? I think actually Peter Lamont is pretty active still. Itโ€™d be great to have Peter Lamont tell us about how things are different.

Nick: Alright, Mamoon, whatโ€™s the best way for listeners to connect with you?

Mamoon: Twitter, email.

Nick: We will link up Mamoonโ€™s Twitter and email in the show notesโ€”Mamoon, thanks so much for joining us. I feel like Iโ€™ve learned more today than I have in months. So appreciate the time and al your insights.

Mamoon: Thanks, Nick!