Insight: SaaS (6) Calculate the sales team’s gross margin.

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The previous article: ‘Insight: SaaS (5) Find PMF before the scale’ discussed the PMF benchmark in the SaaS field and how to improve it. Let’s talk about the bottom line that the SaaS enterprise-scale needs to achieve first, which is a positive gross profit of sales, in this article. Expanding aggressively before reaching a positive gross profit of sales will hasten the company’s demise, and the larger the sales organization, the more difficult it is to optimize and adjust. Before the team expands, you must maintain a positive gross profit margin. The sales team’s positive gross margin is the foundation for the entire company to break even.

New ARR gross margin definition:

Convert CAC into a monthly CAC equivalent if your company charges MRR. At the very least, the NEW ARR GROSS MARGIN must be greater than 20%. Because SaaS businesses rely on recurring revenue to stay afloat, they can’t afford to lose money on new customers. Before scaling up, the CEO must understand the difference between new customer ARR and CAC and ensure that ARR> CAC. The cost of sales and the cost of the market are the two components of CAC. Salary bonuses and sales expenses for salespeople are included in the cost of sales. Content costs, lead fees, and marketing department salaries are all included in market costs. The customer acquisition resources that must be invested in marketing campaigns, such as Facebook advertising and Google advertising, are known as content cost and lead cost.

Let’s compare and contrast the various components of CAC and ARR.

Case A: ARR> SALES. The revenue received by the new customer at this time only covers the cost of the sales input, not the cost of leads. Even after acquiring a new group of customers, the company is still unable to make ends meet, which is a harsh situation.

Case B: ARR> SALES + CONTENT & LEADS. At this point, the new customer’s income is sufficient to cover sales and market leads. Every marketing campaign generates a positive cash flow. This is a temporary situation, and continued optimization and reinvestment can lead to continued sales improvement.

Case C: ARR> SALES + CONTENT & LEADS + MARKETING. The ARR of new customers in the first year can already cover CAC. This is a fantastic situation. This is something that brilliant SaaS companies can do. If customers pay for more than three years, this can be expressed using a simple formula. LTV> 3CAC.

If it’s an annual sales contract or charges annual subscription fees, the gross profit margin in the first year must be at least 20%, which means each new customer is a positive cash flow for the business. CACPP requires less than 12 months. When Case C is reached, the SaaS company’s overall situation is very decent at this time. Seeing as their indicator involves all customers (New & Existing), SaaS companies’ gross margin is over 80%. CRC is much smaller than CAC for retained customers, so the gross margin of renewed customers is much higher than that of new customers.

Fail to achieve ARR > CAC will result in the following adverse repercussions:

1. You will lose money every time you place an order if you can’t achieve a positive cash flow in Sales & Marketing. You forfeit more the more you do. It is unrealistic to expect the CSM department to achieve the company’s overall profitability by renewing existing customers. Since sales are so challenging, relying on renewals can be a bit of whimsy. The company is likely to go bankrupt if the renewal status is unsatisfactory and there are too many cash reserves.
2. If you expand blindly, it will affect the team’s morale. It will be a devastating blow to the company’s atmosphere if sales cannot be completed for a long time. When you have a 100-person sales team, but 80 percent of them are unable to complete a transaction every month. Massive layoffs will occur, as well as long downturns in morale. Making quick adjustments is easy when you only have a small team of five people, but it is difficult when you have a large group.
3. New ARR customers who are unable to achieve positive cash flow will not be able to maintain the Sales & Marketing Spend. In a period of rapid growth, SaaS companies will invest the revenue generated by each new customer in marketing to speed up the development of flywheel. You won’t be able to grow and develop if you can’t make the first order to make money. Your entire investment must wait more than 12 months. Your growth rate must be slow in comparison to your competitors.

The inability of the sales team to achieve a positive gross margin is due to the following factors:

1. PMF is not solid enough. After the small-scale sales team has become accustomed to the market, it is discovered that the match between the customers and the product is low, and it is necessary to refocus on product polishing. Do not rush to expand the team at this time. The first order fails to generate a positive gross profit, indicating that the product is not competitive enough. Don’t hold your breath for renewal to save everything. It is very likely that the renewal will be impossible to achieve. Because if customers truly require your product, the CAC will not be very high. This problem can be caused by a low ARR or a high CAC, but they all point to the harsh reality that your product isn’t very appealing. PMF is not stable quite so.
2. CAC could reveal that the sales process is inefficient and that every link between customer acquisition and transaction needs to be improved. Every step of your sales chain must be planned and designed. If you haven’t already done so, you’ll need to figure out what your sales process is. If you already have a complete sales process in place, look for areas where conversion rates are low and try to improve them.
3. The price. The price is exorbitant. Your price may be high, but it is usually low. Low prices frequently fail to attract real corporate clients. Companies have no incentive to use your products unless they invest a certain amount of money. Maybe your product can really solve some of the company’s problems, but is it reliable? Is it conceivable that the product was poorly made and therefore sold for a low price? If your product solves the customer’s difficult problem, they don’t mind paying a higher price.

If your SaaS is unable to achieve a positive gross margin from sales and marketing, all you need to do is halt operations, analyze your sales process, product positioning, and pricing, and test again until the first ARR> CAC is achieved.

The next article ‘Insight: SaaS(7) Standardize the sales process’ is published. Simply send me some claps and feedback if you enjoyed my article.