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ZT20 #004: Healthy vs Unhealthy Growth in SaaS

#gtmdebt saas sales startups venture capital Dec 15, 2022

Growth comes in all shapes and sizes, especially in SaaS, but what does healthy growth look like, and what does unhealthy growth look like?

As an investor, a CRO and an AE I’ve always looked to data to give me the real picture of the health of a startup, not only does it take the emotion out of it, it gives me an unbiased picture of reality.

Top-line revenue growth is typically the primary arbiter, and it’s also where I find most sales folk stop, which is a massive mistake because top-line revenue can mask some major underlying symptoms of a struggling company.

In this extended article, I illustrate how I dig beneath the surface of revenue data to uncover the true health of SaaS startups.

If you’re a founder, investor, a C-suite exec or you work in GTM, this guide should prove valuable for you.


Revenue components:

A key way I like to uncover the health of the revenue of a startup is to break down the recurring revenue of a SaaS startup into distinct revenue components, and from there track those components over time and then graph them in order to see trends.


Here are the definitions of the components I like to track:


Retained MRR:

Revenue from existing clients that you successfully renewed.


New MRR:

Revenue from net new customer acquisition.


Resurrected MRR:

Revenue from clients that had a gap from one billing period to another. I typically class as “resurrected” if the gap between one billing period and another is 3 months or less. This can vary depending on the type of business.


Expansion MRR:

Net new revenue from existing clients, typically reported as upsell by sales.


Contraction MRR:

The net loss of revenue from an existing customer, typically seen as a reduction in seats, services or a product category change. A downgrade in services.


Churned MRR:

Lost revenue from existing customers, typically reported as a lost client by sales.



The mirage of top-line revenue:

Let’s take a look at 3 different SaaS companies, all 18 months old, starting with a view of  their top-line revenue:


Company 1:

Top line MRR = $151,000 ($1,812,000 run rate)


Company 2:

Top line MRR = $163,000 ($1,956,000 run rate)


Company 3:

Top line MRR = $211,000 ($2,532,000 run rate)



Company 1 has marginally lower top-line revenues than Company 2, but Company 3 is the standout winner here having grown top-line revenue 25% faster than Company 2 in the same time period.

As I’ve already said, this is the number most founders use to pitch their company to investors and to new hires. But you must dig deeper, failing to do so exposes you to major risk.

Let’s see what happens when we look at the growth rate.



Compound Annual Growth Rate (CAGR)


Company 1

Month 1 MRR: $20,500 (Beginning Balance)

Month 12 MRR: $151,000 (Ending Balance)

Last 12 months CAGR: 636% [EB (151)/ BB (20.5) -1]


Company 2

Month 1 Run Rate: $55,000 (BB)

Month 12 Run Rate: $163,000 (EB)

Last 12 months CAGR: 196.36% [EB (163)/ BB (55) -1]


Company 3

Month 1 Run Rate: $48,500 (BB)

Month 12 Run Rate: $211,000 (EB)

Last 12 months CAGR: 335.05% [EB (211)/ BB (48.5) -1]



So, all companies are growing very fast by any standard, but now Company 1, the one with the lowest revenue is beginning to look special, with the classic rocket ship growth rate, but Company 3 also still looks very strong.

Now, what happens when we calculate their ability to retain and grow the revenue they’re all so good at acquiring?



Net Revenue Retention (NRR)

A quick note on NRR before we get rolling. NRR measures the ability of SaaS startups to retain and ideally grow the revenue they have acquired.

NRR is a critical metric because most SaaS companies work on the thesis that they are prepared to spend big to acquire customers, because they believe they can grow their revenue exponentially once the technology is given time to bed in, and this hypothesis has historically heavily influenced the valuation of SaaS startups.

Furthermore, given the cost to acquire a customer is large, one’s ability to retain that revenue offers a direct insight into the capital efficiency of the firm.


The NRR calculation:

{(MRR at the beginning of the period + Business expansion revenue – churned MRR – Contracted MRR) / MRR at the beginning of the period} * 100


Company 1

MRR at the beginning (12 months ago): $20,500

Expansion: $77,000

Churn: -$3,500

Contraction: -$6,000

Total: $88,000

NRR: [Total/MRR at the beginning]: 88/20.5 = 429%


Company 2

MRR at the beginning (12 months ago): $55,000

Expansion: $35,000

Churn: -$14,000

Contraction: -$9,000

Total: $67,000

NRR: [Total/MRR at the beginning]: 67/55 = 122%


Company 3

MRR at the beginning (12 months ago): $48,500

Expansion: $7,000

Churn: $-44,500

Contraction: $-2,500

Total: $8,500

NRR: [Total/MRR at the beginning]: 8.5/48,500 = 17.53%


Now the picture looks VERY different!



Commentary & Graphs


Company 3:

We can see that by measuring NRR we have blown open the reality of Company 3. Given the thesis that SaaS companies are built on their ability to retain and grow acquired customers, Company 3 categorically fails this test. Company 3 is great at acquiring customers, something sales leaders and AEs might solely focus on in their decision to join a company, but that would be a mistake.

There are lots of assumptions you can make about Company 3 from this data, but the bottom line is, they have a churn problem and that needs to be their #1 priority. Fail to fix that, they’ll die.


Just by glancing at the graph, you can clearly see their growth is driven by net new MRR, and churn is a constant thorn in their side. I would be very wary of investing in this company or joining them as a sales leader or AE, despite the fast growth. They have to fix their foundational issues first.



Company 2:

Company 2 is in a very solid position. They are able to retain customers, and they are beginning to see some consistency in expansion, whilst also maintaining a healthy net new pipeline. One red flag would be the recent churn they have begun to experience somewhat consistently in the last 4 months of this data.


You can clearly see the solid mix of revenue components for Company 2 with a strong up-to-the-right movement. I’d want to dig a bit deeper into the recent churn issues, but overall I’d be fairly bullish about investing or joining a firm with these characteristics.



Company 1:

Company 1 would be last on the list of most salespeople because they saw the top-line revenue and growth and made their decision right there. Error.

In fact, Company 1 is the dream! Fast growth, minimal churn and consistent and growing expansion revenue. There’s very little not to like about this startup.


When you see their data graphed it clearly highlights both the rapid rate of growth and the consistency of expansion of the client base almost from day 1. If you were going to pick holes, you would zero in on the recent contraction and churn data.

There is no question, out of the 3 companies, this one, with the lowest top-line revenue, is the firm you would invest in first, and should prioritise in your job search. Company 1 is in a league of its own.



To Sum Up:


Headline figures, such as top-line revenue, often mask the reality of the situation just as I have illustrated in this article.

Whether you’re a founder, investor, C-suite exec or an AE it’s on you to get to the bottom of the health of the business, and data is your friend.

It’s critical that you use data to inform your strategic, investment and career decision-making.

And if the data’s not available, ask for it. If it’s not forthcoming you’re flying blind.

Maybe you’re into flying blind? But given you’ve read this far, I doubt that very much.

Thanks for reading, good luck out there folks 👊🏼



#saas #sales #startups #venturecapital



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