An important SaaS metric that many operators overlook is the SaaS “Magic Number”, sales efficiency. This number will help you know how sustainable and capital-efficiency your sales and marketing is. Here’s how to calculate it.
Transcript: Hi, I’m Anna Talerico with Married2Growth and in this video
Now, a lot of entrepreneurs and business operators don’t know or understand the SaaS sales efficiency metric, but investors and the financial community will almost always look at this number when analyzing a SaaS business so it’s important to track and understand it.
Sales efficiency can be calculated by taking current quarter new revenue annualized, divided by prior quarter sales & marketing expenses. For example, if you spend $2 on sales & marketing in Q3 and generate $2 of ARR in Q4, your ratio is 1. If you spend that same $2 in Q3 but generate only $1 in ARR in Q4, your ratio is 0.5. In this scenario, it will take you two years to recover your sales and marketing investment.
Now, what makes a good SaaS Magic Number depends on who you ask but there are some general rules of thumb. A ratio between 0-0.5 usually indicates the company doesn’t have a sustainable, investable growth model and better sales efficiency is needed. In the early stage of a company an investor may not care, but as the company matures, a magic number less than .5 is going to be of concern—it’s just not really sustainable for a business.
A ratio between 0.5 to 1 is much better. While this isn’t necessarily capital efficient (which would make it a hard ratio for a bootstrapped company to maintain), it does indicate sales & marketing efficiency and many investors view this as acceptable. A ratio of 1 or greater indicates strong sales efficiency and a capital-efficient growth model.
But there is a caveat here. If it’s much higher than 1 you may under-investing in sales and marketing and leaving growth opportunities on the table. When you have good sales efficiency, it’s a great time to scale sales and marketing.
So, we think the sales efficiency metric is an important one for you to understand and track and that’s why we launched an easy calculator to help you find your number. A link to the calculator is at the end of this video so I hope you will jump over and use it. It’s going to ask you for just three things.
- Your current quarter revenue – the amount of recurring revenue earned in the current quarter.
- Your prior quarter revenue—the amount of recurring revenue earned in the previous quarter.
- And then your prior quarter sales & marketing expenses—fully loaded with
spend, wages, bonuses, commissions and other expenses for the previous quarter.
Once you enter these three things, it will calculate your magic number for you. Pretty simple. So that is it for now. I hope this was helpful. And thanks so much for watching.