June 17, 2012

Can a Growing Company Grow Faster While Spending Less? (Part 1)

A lot of growing businesses face a common issue as they advance past the early stages of their development:

How can they accelerate growth while concurrently improving
distribution efficiencies? In other words, how can they build a business
with capital efficiency? Or, better yet, what kinds of things does an
expanding company need to do to grow profitably?

I bring up this issue because one of the portfolio companies I work
with is undergoing that evolution right now. It’s an exciting time for
the business, and the CEO has proven exceptionally skilled at focusing
his senior management team around driving higher growth, while also
improving distribution economics.

That can be a tricky balance to strike, which is why I thought it
might be helpful to walk you through this company’s experience,
highlighting a few of the key decisions that its CEO has made to better
align with that goal.

Let’s start with some background information.

This company (we’ll call it ACME, Inc.) sells a SaaS solution to
enterprises that addresses a fairly common pain point within a target
market. But the product also requires its customers to change the way
their employees work in order to best use its features.

The target market is defined as departments within medium to large
enterprises, and the sales model is direct, primarily through inside
sales (with some field sales sprinkled in). Marketing is primarily
delivered through SEM/SEO, email, and other forms of outbound
prospecting. The product is delivered as a service and requires anywhere
from two to 10 days of professional services to onboard and train
customers to implement and use it.

OK, now that we have that out of the way, here are some operational metrics to provide additional context:

  1. The company has grown at about 30 percent year-over-year and is aiming for 50 percent.
  2. Licensing drives recurring revenue, with an average sale price of $10,000.
  3. It takes $15,000 in sales and marketing to acquire a new customer.
  4. First year booking is invoiced and paid upfront.
  5. Renewals are running at 70 percent; with upselling that number goes up to 80 percent.
  6. Expenses are greater than first year bookings by 6 percent (which is an indication of negative cash flow).
  7. Professional services account for 25 percent of revenue, with a 20 percent gross margin.

So what’s the problem, you ask?

Well, here’s a question for you: Should ACME be raising more money,
allowing it to direct a larger amount toward sales and marketing and
growing the company faster? That might seem like a simple question to
answer, but it’s actually pretty complex.

Yes, ACME is showing decent growth for a B2B recurring revenue
business, especially considering its revenues exceed a $30 million run
rate. But that growth isn’t spectacular. In fact, a 50 percent
growth rate is certainly achievable given the company’s differentiated
solution in a big market. The issue, however, is that higher growth
almost always requires more money. Unless, of course, ACME focused instead on improving operating efficiencies to fund that higher growth… 

That’s exactly what it’s done. Today, the company is working hard to
improve distribution economics and fend off the symptoms of poor

One of those symptoms involves relatively simple math: If it takes
more than a dollar to generate a dollar in new customer bookings (for
ACME, that’s $15,000 to generate $10,000), that’s not a good sign. Why?
Because it means that new customer acquisition is expensive and that
growth can’t be funded organically.

In ACME’s case, the good news is that customers pay the first year
booking upfront, rather than through monthly subscriptions like other
SaaS companies. So, all ACME needs to do is focus on things that will
help bridge its $5,000 customer acquisition cost (CAC) gap.

How can growing companies do that? 

Here are some ideas for improving CAC ratio:

1. Focus your acquisition efforts on a more specific and targeted customer segment. The
sharper you are at identifying a specific pain point, the easier it is
to market your solution. In other words, the more defined your target
prospect is, the more efficient your targeting will be.

In the case of ACME, it historically sold to several segments within
the broader enterprise market. This year, it has chosen two specific
market segments (one is an industry segment, the other is a functional
segment), making it easier for ACME to target those segments and lower
CAC (for more on segmentation, click here).

2. Become a thought leader through online content marketing. This
will allow you to generate leads without having to spend money on
traditional marketing channels like email and events (Note: We’ve
covered content marketing pretty extensively on our OpenView Labs site. Click here for more).

3. Break up your sales team into specialized units. Specialization
creates focus and increased expertise. In most cases, growing companies
need to build an inbound lead qualification team, an outbound
opportunity generation team, an inside sales team, a field sales team,
and an account management team (for upselling into existing accounts).
In the case of ACME, the company made those hires and then divided its
teams among specific segments and target customer groups.

4. Invest in better product marketing. Develop
collateral and training that is specific to each target segment. Train
and retrain the sales team about their specific targeting
responsibilities. Move more lead qualification responsibilities to
marketing (which will help you avoid sending unqualified leads to the
sales team) and move opportunity qualification away from the sales team
and into the website (giving visitors more relevant information before
they engage with a sales rep).

5. Invest in better product management and user experience design. Focus
your product development and design on the needs or pains of the
specific one or two segments you’re targeting. Remember, its not about
what your software can do, it’s about how customers use it.

6. Leverage your best customers as evangelists. Have
an annual customer meeting where customers can share their best
practice use of your product with prospects. Market videos where
customers share their experiences and leverage social networks to give
your evangelists more exposure.

The bottom line is that unless your CAC ratio is positive, spending
more money to acquire more customers won’t make you more profitable. In
fact, counterintuitive as it may sound, spending less (by improving
distribution economics and efficiencies) sometimes leads to faster,
better growth.

In my next post, I’ll maintain this theme, but focus on renewals and
upsells, sharing some advice for how to improve their efficiencies.

Firas Raouf is a Venture Partner with OpenView Venture Partners.  You may find this post, as well as additional content on OpenView's blog located here.  You can also follow Firas on Twitter (@fraouf) by clicking here