Understand how your metrics affect the bottom line. Determine what you should improve immediately and what can wait. This is the follow up post to our previous post 5 KPI's You Need for Your SaaS Business and How to Calculate Them.
Ok, now you’re measuring these metrics and it seems that you are doing well especially if, say, MRR is rising. But how well are you doing? What should be your goals? Is it ok to have 10% churn?
Today we’ll teach you how to answer these questions using the 5 metrics you are already measuring.
You’ll learn a simple, yet effective way to evaluate your startup performance – with a spreadsheet.
What you’ll need
We’re going to see how a change in each metric affects your profit. What you’ll need:
- Your current ARPPU (or simply the MRR and the number of customers)
- Your current number of new signups
- The signup to customer conversion rate
- Costs per acquisition (CPA)
- Churn rate
- GoGS in percent (Optional. In SaaS this typically includes servers, bandwidth and customer service)
Here is a Google Spreadsheet Template you can use. It will help you see if you your product has any chance of surviving or if you simply need to make more sales
Let’s dig in!
The idea inside is super simple. To survive, your Costs per acquisition have to be lower than your earnings for your users. The overall formula is the following:
Profit = Signups * (LTV * conversion to paying customer rate - CPA)
Note, if you are a startup and you don’t have enough data to estimate LTV, you can simply take the ARPPU. This will turn the above formula to:
Profit = Signups * (ARPPU * conversion to paying customer rate - CPA), where ARPPU * conversion to paying customer rate = ARPU
So, your (- CPA + ARPU) is profit per signup. By multiplying this by number of total users you will get the total Profit. Using ARPPU instead of LTV is more restrictive since you don’t include future revenue from an acquired customer.
Let’s look at your real numbers.
Step 1. What is your current situation?
We’ll start with your current numbers. Don’t just put in the numbers from last month; try to use at least 3 months worth of data, if you have it.
Now you have a rough estimation of your performance if you don’t change anything. Our example business will not survive unless something changes because it spends more than earns.
Step 2. Hold experiments and see how changes will affect your profit
The next step is to come up with experiments that would improve the situation. Just think of the opportunities that you could take and imagine how they would change your numbers. For instance, what if we could convert more new signups and have a 3% conversion rate?
Our example startup would do much better! However, can you really achieve that? It can take lots of time and effort to find the way how to increase the conversion rate.
You don’t have to change only one metric at a time either. What if our example startup issues a new plan or upsells to increase the ARPPU? They could get $250 per each customer and reduce churn too.
This model allows you to experiment. Change metrics and see how this will influence your profit. Note that in real life, you’ll eventually run into diminishing returns with each metric. Each dollar you spend on improving one metric will produce less returns than the previous one. Allocate your time and funds wisely so that you always get the most from each dollar you spend.
The trick is to find the bottlenecks where you can grow and improve your performance. These bottlenecks are your key metrics you have to work on. To find them, use our spreadsheet to calculate how conversion rate, ARPPU, acquired users influence the profit.
A Rule of Thumb
Tired with making guesses? We can help with at least one metric:). Here is the way to estimate how much money you can spend on user acquisition in order to keep the economics of your startup viable (only works if you know your churn rate).
The rule of thumb is that LTV must be no more that ⅓ of CAC (Customer acquisition costs). Knowing the churn rate, you can calculate the LT and, finally the LTV. Divide the LTV by 3 to get the amount you can spend on each paying customer. Then, simply multiply this by your signup-to-paying conversion rate and that’s it! You'll get the maximum amount you can spend per signup (CPA). You can go ahead and multiply this by your visitor-to-signup conversion rate to learn how much you can spend per visitor.
So, if can’t change much, just keep the economics consistent by not spending more that you can afford.
- The more users you can acquire and the lower the acquisition cost, the higher your profit.
- Play with spreadsheet and find the key metrics to improve. For example, you can’t increase prices but you can reduce churn.
- Spend wisely
- Think of the costs (time and money) before you start to realize your plans. Ask yourself, is it worth it?
So if you didn’t download the spreadsheet yet, here’s the link again. Enjoy!
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