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The SaaS Growth Q&A: February 2017

By Ryan Law on Fri, Feb 24, 2017

Each month, we're tackling the hardest questions SaaS founders can throw at us.

In February's round-up, we're helping you avoid bad hires, analysing the 80% Gross Margin, and sharing our experiences of founding a business for the first time.

Want to ask us a question? Get in touch!


Q: How do you avoid hiring the wrong people for your startup?

Emily answers:

Great question - this is one of the biggest challenges startup founders have to deal with, particularly in the early stages when every new person drastically changes the company culture & environment.

Short answer: understanding what you want vs what you need, and making culture fit a priority.

Longer answer: The ‘wrong people’ for your startup can take a couple of different forms:

  • Not having the skills or the level of experience you need
  • Not being a good fit with your existing team

In the first instance, you think you know what gaps you’ve got in your startup, or where the bottlenecks are in your workload, so you hire to address those. But at a startup everything changes so quickly that the pain you’re feeling in your current workload has already been addressed, and your needs have actually shifted already.

In the second instance… you end up hiring assholes. OK, that’s a bit harsh. But essentially, someone can be technically awesome at their job, but if it’s really difficult to work with them, that’s going to make things difficult for the rest of your team.

To avoid these mistakes, you need a good hiring process in place: identify exactly what gaps in terms of knowledge and skills you need to hire for, assess the practical skills first, and then focus the in-person interview on working out what the candidate will be like to work with.

If you’d like more information on this, I’ve written an in-depth guide to hiring the right people for your startup team. Hope this helps!

The Ultimate Startup Hiring Guide.png


Q: Why do SaaS profit margins have to be around 80% or higher?

Ryan answers:

The circa 80% Gross Margin is an inherent part of the software-as-a-service business model.

The Gross Margin refers to the percentage of your revenue left over after the cost of servicing that revenue (i.e. the costs of delivering the service that generated the revenue) is taken into account.

Those costs of service are referred as as COGS - Costs of Goods Sold - and are broadly similar for all SaaS businesses, typically:

  • Application hosting fees
  • Third-party web fees (like CDNs or licensing for embedded products)
  • Customer support costs

The SaaS model has very low COGS compared to other business models. There’s no inventory to account for, no raw materials, and very few employees required to deliver the service.

So whereas different business models will have wildly variable Gross Margins, a software-as-a-service business, by its very nature, should have a Gross Margin in the region of 80%.

In practice, this might look as follows:

If a company generated $50,000 of revenue over a particular period, and had to spend $7,000 on hosting and $3,000 on customer support over that same period, their Gross Margin on that revenue would be 80%, or $40,000.

 

To quote John Greathouse:

…it is hard for me to imagine a well run SaaS business with a GM below 80%.

If you are in the 30% - 40% range, you are likely not running a pure SaaS model. To drive the margin that low, you would have to be including a tremendous amount of labor.

If you’d like to learn more about Gross Margin and COGS, please feel free to check out my detailed guide to the 50 most important SaaS metrics.

The Ultimate SaaS Metrics Guide to Smarter, Faster Growth.png


Q: What do you wish someone told you before starting your first company?

Will answers:

That it’ll take much, much, much longer than you think to get where you want to go.

I remember hearing it, but not really believing it.

“That applies to other people, it won’t happen to us because of X, Y, or Z.”

Most founders are pretty smart, but that means they also tend to be able to come up with a rational-sounding reason for (more or less) anything, given time.

Well nope, turns out this company building stuff takes time, especially the first time. No matter how much you think you know before starting your first company, you have a hell of a lot to learn, and it will take years.

So be ready for that.


Have a question you'd like answered?

Can't tell your accelerators from your incubators? Looking for new ways to grow your customer base? Struggling to work out if you've hit Product/Market Fit?

If you have a burning SaaS growth question you'd like answered, get in touch, and we'll include it in our next SaaS Growth Q&A.

 

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