A comprehensive guide for any Software-as-a-Service company on the journey to scale its business.
In the technology industry, there isn’t a loud voice for the bootstrapping community. Too much emphasis is placed on funding rounds and growth at all costs.
This blog post focuses on the road less travelled (or more travelled but less talked about)—growing your SaaS company with customer cash. It discusses ways entrepreneurs can build strategies to finance their startup with paying customers, especially in the early days.
We researched and interviewed a host of founders who have seen tremendous success building their SaaS businesses by reinvesting revenue from paying customers. This helped them to grow sustainably, build processes from the ground up, and—most importantly—keep equity in their business and retain control of their own destinies.
This guide outlines some key methods used by these organizations to achieve incredible growth with little or no angel or venture capital investment.
- Focus on product-market fit and value creation
- Let growth strategy drive the financing requirements
- Start measuring
- Build your team
- Take a cost-effective path to success
It’s such a simple idea—funding your business by reinvesting money from paying customers.
Aside from the heady rush that you get from pulling up your sleeves, making mistakes, and learning at one hundred miles-per-hour, bootstrapping helps you add runway so you can make good decisions for your business without unnecessary pressure from investors.
Unfortunately, there isn’t a loud voice for the bootstrapping community. Too much emphasis is placed on funding rounds and the triple, triple, double, double, double (T2D3).
Funding hype drives the apparent creation of enterprise value but ultimately, these companies—that may have had lots of potential in the beginning—can’t go public because they aren’t producing cash and they can’t be acquired because they’re overvalued. They also face increasing pressure from investors who expect a return, whatever the cost.
Grow quickly and fail fast is the mantra of the venture capital world. But who does that benefit really? In the world of venture capital, compounding returns makes time your enemy. However, when it comes to compounding revenue growth through a deliberate, sustainable growth strategy, time is actually on your side. So you can focus on the important stuff—delivering value to customers and finding more customers in a cost-effective way.
This eBook focuses on the seemingly less glamorous route to startup success: bootstrapping. Build your SaaS with Customer Cash means just that. Funding sustainable growth with annual recurring revenue from paying customers.
The ebook examines common challenges faced by founders of startups like Qualtrics, Shopify, and Grasshopper and provides actionable advice on how to overcome them based on interviews with companies like yours: Jane Software, Wagepoint, Predictable Revenue, and more.
“In the software space, all you hear about is funding and exits. There isn’t a Techcrunch for the bootstrapping community. You’re constantly battling this internal cognitive dissonance where you’re building a bootstrapped company and all the advice you hear is geared towards venture backed companies.” — Collin Stewart, Co-founder, Predictable Revenue
Focus on Product-Market Fit and Value Creation
This guide is not about the Lean Startup movement. The Lean Startup’s main focus is on building a solid business and, while this is helpful for new entrepreneurs, it doesn’t put the focus on capital efficiency.
Many of the examples used in the Lean Startup book are of venture-backed firms and don’t speak to the bootstrapping community.
That being said, the Lean Startup’s focus on product-market fit is incredibly important. Customers will only pay for the value that you create for them. According to a recent study from CB Insights, the most common reason startups fail is that they don’t meet a market need.
This is a profound phenomenon. Entrepreneurs often find themselves tackling problems that are interesting to solve rather than those that serve a market need. One participant in the study said:
“Startups fail when they are not solving a market problem. We were not solving a large enough problem that we could universally serve with a scalable solution. We had great technology, great data on shopping behavior, great reputation as a thought leader, great expertise, great advisors, etc. What we didn’t have was technology or business model that solved a pain point in a scalable way.”
To avoid this pitfall, entrepreneurs should select a value proposition thesis or identify a market need and then seek to prove that the need exists and is compelling enough for customers to take action and spend money.
Founders should be mindful that evaluating product-market fit should be a repeatable exercise—not just one that takes place in the early days prior to product development. It should be built into the culture of the organization so that the business continuously asks itself, “Is my software delivering value to customers and how can I provide more value…and charge for that additional value?”
Ongoing testing and iteration
As outlined in the Predictable Revenue example (on the following page), product-market fit should be an iterative process. After analyzing the customer feedback in step 6, you should loop back to an earlier step in the process, iterate, retest, and repeat.
Following this process should give you a high degree of confidence that your product remains relevant in the market. Once you have happy customers, you can scale your business sustainably based on your desired and fundable growth rate.
Initial product-market fit
The Lean Startup
- Determine your target customer
- Identify underserved customer needs
- Define your value proposition
- Specify your Minimum Viable Product (MVP) feature set
- Create your MVP prototype
- Test your MVP with customers
Predictable Revenue: A lesson in product-market fit
When Collin Stewart and his partners founded their startup, it was based on a big idea. They wanted to build a CRM system that was tailored to how sales people actually work—and they did.
During their first 18 months in business they learned some valuable lessons about the importance of validating customer pain points. They discovered that the CRM system wasn’t resonating and identified another, more painful customer challenge to validate instead. Collin read Predictable Revenue, by Aaron Ross and Jason Lemkin, and a light went on about how he could change his business model and deliver real value to customers.
They took the difficult but wise decision to walk away from the solution they had built and invested 18 months in so they could focus on delivering real value to their customers.
“People don’t buy ideas. Building a startup is not about your idea. It’s about helping customers. Today, we have over $450,000 in MRR and we still don’t take product-market fit for granted. For us, customer validation and product-market fit is an ever evolving quest.” — Collin Stewart, Co-founder, Predictable Revenue
Let growth strategy drive the financing requirements
There are many who believe it’s impossible to build a SaaS company in 2019 without significant funding.
There are many examples of companies who are growing at a deliberate, reasonable pace of 30-50 percent year over year—and they’re doing it without any outside capital whatsoever.
This model of sustainable growth requires a start up to have excellent metrics (specifically, good gross margin percentages and good customer acquisition metrics), relative predictability, and to be capital efficient.
Capital efficiency requires discipline, work, and practice. If a company can bootstrap through critical growth phases, it will be well positioned for capital efficiency if it decides to take capital later on—whatever form of capital that may be.
Hierarchy of growth capital
Growing your SaaS with customer cash is entirely possible. Once you have your metrics and predictability, you can grow your business at a sustainable pace and follow the hierarchy of growth capital when you need to take on some more capital to fuel your predictable growth.
Get as much recurring monthly or annual revenue as you can up front and ensure you’ve maximized your startup grants from government sources start where the cost of capital is the lowest. Speak to your bank and try to access lines of credit. Once you’ve tapped out the bank credit, research other non-dilutive sources of capital such as revenue-based financing. Keep revisiting non-dilutive options any time you’re considering additional financing down the road.
Taking upfront payments
While this blog post encourages startups to fund their growth with revenue from paying customers, it’s important to hone in on upfront costs and their long-term impact on the business.
SaaS customers are wonderful because they bring recurring revenue, especially if they become happy, loyal users. On the other hand, the cost to acquire a customer (CAC) for most SaaS products is substantial, requiring significant investment in sales and marketing. To make your CAC palatable, the lifetime value (LTV) of the customer must be substantial—this means they must remain customers long enough to return your CAC plus a profit.
It’s perfectly acceptable—in fact, it’s encouraged—to ask customers to pay their annual bill upfront, as opposed to month-to-month to avoid a cash flow trough scenario. However, startups should be wary about discounting products for one-, two-, or three- year upfront payments.
Ensure you strike a balance between giving up the discount and continuing to collect month-to-month—is a 20% discount worth having that cash in hand? For example, if a SaaS company offers a 20% discount on an upfront payment of a two-year contract, is this beneficial in the long run. If the company spends all the money upfront, they can’t bill this customer again for two years. This equates to taking out a loan with a 20% interest repayment. Is that really a good deal for the company? Furthermore, it’s difficult to regain your value proposition once start discounting.
You need to raise capital
Wagepoint: A lesson in capital efficiency
Shrad Rao, Founder and CEO of Wagepoint, has been doubling his volume every year since his first cohort of 500 customers in 2014.
Before he even had a SaaS solution, Shrad secured revenue from paying customers. How did he do it? By sheer ingenuity, grit, and customer obsession. He saw a gap in the market whereby incumbent payroll solutions couldn’t serve the small business market effectively. His team built a landing page and spoke to around 300 customers to identify their pain points and come up with a solution.
As a result of their jerry-rigged solution, the team had paying customers from the outset to build their SaaS company. Although they took on some angel investment to drive development, their capital efficiency mindset is still evident today.
“Our monthly burn rate hasn’t changed in the last 5 years, we just keep growing our business. We keep an eye on the metrics and make decisions about new hires carefully. We usually share the burden of additional work across the team until we’re completely satisfied that we have the MRR to fund another headcount without increasing burn.”
Wagepoint could break even if they stopped investing but know they have a few more growth years, delivering value and doubling their customer volume before they do that.
The key takeaway from Wagepoint is that, even if you do take on some investment capital, remember those bootstrapped days and operate as if the capital isn’t there.
“We began to close business and serve the customers manually so we could fully appreciate what the customers needed from how they understood it—not from what we thought they needed.” —Shrad Rao, Founder and CEO, Wagepoint
The wonderful thing about SaaS companies is that there is an endless set of metrics you can use to monitor the health of your business.
However, metrics can be complicated—and often misleading—particularly for people with no finance background. It’s prudent to hire a CFO early but if budget can’t stretch to that, commision a financial consultant to help build the basics for you.
When it comes to SaaS, everyone talks about average contract value (ACV), lifetime value (LTV), and the cost of acquiring customers (CAC). These metrics are really important later on so it’s important to start collecting the data early to build trendlines.
However, in the early days of startup growth you might consider these metrics to be more important:
- Revenue growth
- Cash burn
- Sales efficiency
- Return on human capital
- Payback period
- Cash conversion cycle
Almost everything that matters about the financial performance of a young SaaS business is captured in these metrics. There are lots of existing resources online that demonstrate how to calculate these metrics.
1. Revenue growth
Growth rates for startups vary widely by industry, country, and stage of development. The average company forecasts a growth rate of 120% in revenue in their first year, 83% in the second, and 60% in the third.
Others focus on compounding revenue growth. In this scenario, you’re taking a more sustainable, long-term view to growth. By compounding revenue growth over 2, 5, or even 10 years, you can build a healthy and very lucrative business.
2. Cash burn
Cash burn is good for startup growth—provided it’s disciplined burn. It must come hand-in-hand with capital efficiency. Early stage startups should monitor income statement cash burn (ISCB), the net income +/- non-cash items in the income statement, to ensure it stays as low as possible. This sounds complicated but if you take the time to understand it, it’s actually pretty straightforward. Common reasons for high ISCB% rates include low gross margin percentage, high customer acquisition costs relative to your customer lifetime value, high onboarding costs, product development is behind schedule relative to sales, high general and administrative costs.
3. Sales efficiency
Sales efficiency in Saas usually follows the rule of 40%. This takes into consideration two of the most important metrics for in SaaS: growth and profit and basically means that your growth rate plus your profit should add up to 40%.
However, The rule of 40% doesn’t apply in the early years. Early stage companies are better served by doing detailed analyses of their unit economics: customer acquisition cost (by customer type and/or channel), gross margin adjusted Lifetime Value (LTV), churn rate, and net renewal rate. These metrics tell you how much to invest in growth and the go-to-market strategy.
4. Return on Human Capital (ROHC)
Once the startup takes off, leaders from each team begin to ask for more resources. When it’s outside the budget, it’s difficult to assess the overall efficiency of hiring another headcount. One of the best metrics to track efficiency is return on human capital (ROHC). ROHC shows the trends in your investment in human capital (which is usually the most important asset in a software company).
5. Payback period
Calculate Months Payback on a contract by contract basis — how much did any given contract cost to acquire, and how many months of gross margin dollars (revenue * gross margin percent) does it take to recover those acquisition costs. This eliminates the need for churn percent but still requires revenue per customer, gross margin percent, and a sales and marketing cost per customer. Again, smoothing can be used to eliminate month to month variability at the cost of month to month granularity.
Calculating the stickiness of a business via its churn percent can be challenging and often misleading, especially during periods of significant growth. It’s important to get a handle on the underlying customer contract structure. When did the churning customers originally sign up? Last year or last month? The construction of the churn percent formula should mirror the source of the churn in the most recent months.
Calculating churn as a function of both customer numbers and revenue dollars provides important insight into the evolution of the customer base of the company. Be sure to dig deeper than just the customer count. Identify the personas of these churned customers as well as the industries or anything else unique that can help shed some light on why they failed to renew. It is prudent to discuss this information across departments, including sales, marketing, and customer success.
7. Cash Conversion Cycle (CCC)
The cash conversion cycle (CCC) is a key metric for startups, but one that often isn’t talked about until a business hires a CFO. It expresses the time (measured in days) it takes for a company to convert its investments in resources into cash flows from sales. Also called the Net Operating Cycle or simply Cash Cycle, CCC attempts to measure how long each net input dollar is tied up in the production and sales process before it gets converted into cash received. The cash conversion cycle is a key metric of a company’s cash efficiency.
Grasshopper: A lesson in measurement
According to Don Schiavone, the former COO of fast-growing startup, Grasshopper, scaling is about growing your business without having to increase the cost of delivering your product or service at an equal rate. Grasshopper grew to $30 million in annual recurring revenue with no capital.
It makes sense—startups that can grow revenue faster than the cost of growing that revenue will increase profits.
Revenue per employee is a great metric to measure how efficiently you are growing your company. A good SaaS business should be in the $300,000 to $400,000 revenue per employee range once they get scaled. At its peak, Grasshopper was over $800,000 in revenue per employee.
Source: CEO Coaching International
“We really optimized our cost of goods sold to make sure we could play in the micro-business market. It’s really about how much flexibility your market gives you, your cost of goods sold, your markups, and how efficient you can be with the use of technology.” — Don Schiavone, former COO, Grasshopper
Build your team
When you’re bootstrapping a company, you often start off wearing lots of different hats—even if none of them fit that well!
It’s hard to be an expert in every area of the business but, generally, founders don’t have the money to buy that experience immediately. For example, you can’t justify a $200,000 spend on a VP of Sales before you’re selling that much. Instead, you must build a team of entry level sales people and put the time and energy into training and motivating them.
Growth from entry-level
The lesson here is to sweat your talent. Make it work for you. Double down on what you’re good at—as long as it’s working—and fill in the gaps when you can afford to.
Building the 5 key functions of your SaaS business
It’s rare that a founder has strengths in all five areas of their business—They’re usually strong in one or two areas but require help with the others. The eventual goal is to end up wearing none of the five hats!
- Value delivery
The product team is all about value creation—discovering what people need or want, then creating it. This circles back to the product-market fit section of this guide. This is usually the first area of focus for founders, and generally the area that founders are best at.
When the time comes to build out the team, it is important to be creative and nimble about how you achieve that team growth. Don’t view a growing team as a success. Always ask yourself the question: “If we don’t hire for X position, will we see an unsustainable drop in team satisfaction, customer satisfaction, or lost sales?”
marketing steps in to attract attention and build demand for your product. Customer acquisition is first priority for all SaaS startups. Keeping acquisition costs low is second. Startups generally look to the 19 Traction Channels—mapped out by Gabriel Weinberg and Justin Mares—to help build their audience.
It takes a combination of trial and error to see what works for your audience. There are several tools you can employ to automate a lot of your marketing efforts, once you have the basic messaging and positioning in place. It’s important to continually optimize and test all marketing channels to ensure you’re spending effectively.
Outbound is often referred to as “old marketing”—teams pushing product to a big group of targets (offline advertising, trade shows, etc.). This type of marketing is expensive and difficult to measure. Inbound marketing is a set of strategies—built around content—that help targets find you.
Similarly, sales can come inbound, outbound, or through referral from existing customers or partners. The most cost-effective way is referral—your customers sell for you. Inbound relies on lock-step alignment with marketing, and outbound is expensive feet-on-the-street (or on the phone) sales calls.
One additional thing to consider is sales pricing—underpricing your product is a common mistake startups make. Startups should charge for value.
4. Value delivery
Customer success is key in SaaS businesses. Unlike any other industry, your success is dependent on recurring revenue and returning customers. Investing in the success of your customers will ensure customer retention and even help encourage those valuable referrals. Get constant feedback from users, test your value proposition continuously, and keep adding value that you can charge for.
Finance ensures you’re bringing in enough money to keep going and make your effort worthwhile. Start revenue recognition early. Set up proper SaaS accounting and metrics dashboards. If you don’t know how to do that, hire someone or bring in a consultant to help. Never measure on cash in the early days.
Jane Software: A lesson in building efficient teams
The founders of Jane Software, a health and wellness practice management platform, focussed on building a great product and delivering value to their customers. They never sought outside capital, they just reinvested revenue from paying customers back into the business to grow their business from $0-11M in ARR.
“We’re so fortunate that we work in the SaaS industry,” said Alison Taylor, co-founder of Jane Software. “We can launch a product to market quickly and release fixes and improvements daily. In this way we can refine our product-market fit with real time feedback from our current community of users, and grow our business with our true customers’ needs in mind.”
Jane grows their team in a scalable way too. “Look at your projections and spend sensibly, filling the gaps and plugging the holes with the highest priority. Focus on providing amazing customer service efficiently—if you can delight your customers, they’ll become your best salespeople.”
Jane only hires new headcount when their MRR grows enough to justify that headcount. They’re pleased with how the organic growth is helping them not only build a great team sustainably but also help people grow into roles and progress in their career.
As Alison Taylor explains it, “We started out with what I thought were two-halves of a brain—I was all things customer and my co-founder, Trevor, was all things product. But we’ve since realized that we were actually only two-fifths of a brain. We haven’t filled the sales “lobe” out yet, but we’ve added leadership in marketing and finance to help round out our knowledge gaps. When you start with a small group of people, you get to focus on the things you do really well and that looks a little different for every start up.”
“It fosters an environment where leadership is based on expertise rather than hierarchy. This is the unique thing about a scaling company. Rather than fill job roles based on canned job descriptions, you get to craft roles that fit the people you actually have and always make the most of your current resources.” — Trevor Johnston, Co-Founder, Jane Software
Take a cost-effective path to success
Culture is FREE
Most startups know that culture is important, but they find it elusive, hard to define, and even harder to control. A company’s culture is an output of the people who work there. Culture is set by the leaders, starting with the founders. Your culture will reflect your founders’ and early employees’ personalities, so the founding team needs to think through how they can be careful to expose their attributes they want people to emulate and keep the ones they don’t under control.
Start early. Culture starts to develop the day the team starts working together. Build in attributes like customer obsession, quality product, and empathy — and lead by example.
Shopify: A lesson in culture
Long before venture capital or public listings, the Shopify founders worked on building their company culture with as much passion as they put in to building an incredible product. The put a conscious effort into five key areas:
- Hiring: They created a rigorous, multi-step hiring process to ensure new hires strengthen the office culture and don’t dilute it.
- Fun: They removed fear from the workplace and replace it with fun from the top down—it wasn’t uncommon to see executives playing foosball or joining the soccer league.
- Wellness: They implemented wellness initiatives in the belief that healthy workers are more productive. They offer to pay for gym memberships, contribute to the cost of a bike or yoga membership, and they provide free healthy food and offer standup desks to keep staff healthy.
- Feedback: They built tools like Unicorn to praise and give feedback continuously. This positive recognition resulted in a group of genuinely happy, incredibly loyal employees and very low attrition.
- Values: They aligned employees with the company’s core values which increased engagement and made employees want to make the company and the product better.
“We believe that wellness plays a huge part in doing a great job. When we offer breakfasts, lunches and snacks, it’s not just about the perk itself. It’s about making sure people stay healthy.” — Daniel Weinand, Founder, Shopify
Leverage partner ecosystems
The right partnerships can help startups build their products more efficiently by reducing development costs. They can also help fill product feature gaps, offer access to industry experts, and help startups build successful referral networks.
The most common partner ecosystems for SaaS startups are cloud-hosted platform partners like Salesforce.com’s AppExchange and Google Marketplace. Other examples include industry-specific ecosystems like Quickbooks in financial services and CareDox in healthcare and education.
Partner ecosystems provide access to new customers—whether other entrepreneurs, or small or large businesses—who can integrate partner apps into their own operations simply through the cloud.
Metazoa: A lesson in the power of partnerships
Salesforce has one of the largest partner ecosystems in the world. Many independent software vendors (ISVs) and developers have built successful businesses by creating useful AppExchange offerings for Salesforce customers.
Metazoa—a California-based software company—is one such business. Metazoa saw a gap in the market for a Salesforce org and release management solution and build an application using Salesforce developer tools. Today, Metazoa is used by 62 percent of Salesforce’s Fortune 500 customers and is a rising star among Salesforce’s thriving ecosystem.
Metazoa was recently selected to participate in Salesforce Accelerate—a virtual program designed to provide the insights, learning, and support that companies need to strategically align with Salesforce and accelerate their success with AppExchange.
Participation in the program includes access to business and technical resources, in-person strategy sessions, and go-to-market guidance to help ISVs and developers build successful businesses through their relationship with Salesforce.
“As part of Accelerate, we have a unique opportunity to collaborate with some of the best talent Salesforce has to offer in order to alleviate some major pain points for enterprises around corporate governance, regulatory compliance, complex org management and security concerns related to user permissions and data.” — Jennifer Mercer, CEO, Metazoa
Embrace remote and diversified workforce
Remote and diverse workforces help startups to capitalize on creativity, access skilled employees more efficiently, and build agile teams.
Talent is hard to find—especially when you’re constrained to a particular city or country. Almost 40% of hiring managers feel hiring is harder than ever. Many startups can’t compete with big tech companies when it comes to salaries. But they can make up for it in culture, perks, diversity, and workplace flexibility. Build a work-from-home culture to save on office costs or hire remote works to access skills from another location or timezone. Seek to reskill workers on the job—hire veterans, mothers returning to the workforce, students right out of college, or non-native english speakers to bring diversity to the workforce.
Business applications are (almost) free
The good thing about being a bootstrapped company is that you don’t have the luxury of going out and buying a tool to fix every problem, you have to figure things out yourself first. The biggest pains can be solved by process, experience, and knowledge.
There’s huge value in building the process and doing things manually in the beginning. When you get to the stage where you understand the problem, have processes in place, you can then research the right tool to help create efficiencies.
There are many low-cost tools to help with productivity (e.g. G-Suite, Trello), communications (e.g. Slack, Zoom), finance (e.g. Quickbooks, Wagepoint), marketing (e.g. Hubspot, Hootsuite) and business intelligence (e.g. Profitwell, Sisense)—you can read a comprehensive roundup here. Be thoughtful about your app strategy as businesses can get bogged down with app fatigue very quickly and sometimes, an app that solves one problem creates another.
Qualtrics: Bootstrapping is not just about equity
According to Qualtrics co-founder, Ryan Smith, every founder should bootstrap as it changes the way you run your business and it changes you as a leader.
While retaining control and leverage in the company are good reasons to bootstrap, there’s a much more compelling reason.There is no better way to develop the resourcefulness, resilience, and scrappiness, required for a founder to be able to grow with the company. That’s because growth is about making constant trade-offs. When you bootstrap, scaling becomes easier because it forces you to get good at making trade-offs early.
In 2012, 10 years after Qualtrics started, the founders had the opportunity to sell for $500 million but decided instead to take on some venture capital.
“Ultimately, choosing to take VC money was the right choice for us because we weren’t using it as a lifeline. We had already nailed our model. That money and the additional $150 million we later raised was used simply to scale a business we already knew how to run. We accepted the money on our terms and entered into a true partnership with our backers. Before term sheets were signed, there was already a mutual respect and implicit trust because my VC partners had seen that we had done very well on our own.”
“When you take VC funding too early, you skip those steps and don’t build those muscles because you didn’t learn how to make hard tradeoffs. Working with limited resources compels focus and fine-tunes problem solving.” — Ryan Smith, Co-Founder, Qualtrics
Entrepreneurs, by their very nature, challenge the status quo. They push boundaries, take risks, and seek the adrenaline rush that comes with carving their own path. However, when it comes to funding their ventures, entrepreneurs often get caught up in the hype that surrounds financing rounds and growth at all costs.
This blog post presents a new (old) paradigm—building a SaaS company by reinvesting money from paying customers. It’s the route taken by all the greats—Michael Dell, Bill Gates, and so on. Somewhere along the way, the route became overgrown but a steady bootstrapping movement is emerging again today.
Companies like Qualtrics, Jane Software, and Metazoa are holding on to their equity for as long as possible—building sustainable businesses in a thoughtful and pragmatic way. They use customer cash to grow their companies, striking a careful balance between capital efficiency and growth investment. They seek non-dilutive capital, only when absolutely required, and ensure their financing strategies are informed by their growth strategies.
Build your SaaS business with customer cash. And if you need a little help, TIMIA Capital is there to offer advice on non-dilutive capital should you need a cash injection.
Talk to us when you’re ready to accelerate the creation of SaaS magic!Back to top