What does it take to achieve extraordinary SaaS B2B valuation multiples? A big market and performance indicators showing that the company can acquire customers at a fast pace. In addition, it is valuable to show that your company can support/maintain customers with a low cost of revenue. Even better when your metrics show gains in all the right directions over time. Getting to the point where you can deliver that kind of performance requires critical focus on all the levers across the business: from lead generation through customer success and renewal to product development.
Zscaler Example
Cloud security vendor Zscaler is a great example of getting the metrics right. As a result, investors dramatically increased Zscaler’s valuation since it debuted in public markets last March at a valuation of 11 times revenues. The company has grown its market capitalization to an extraordinary 27 times revenues just a year later. Market cap as of April 30, 2019, end of its 3rdquarter for the FY year was $8.5B on almost $80M revenue for the quarter and analysts expect the company to achieve about $400M in revenues for the year. Zscaler is the sixth start-up founded by CEO Jay Choudhry and the company is hitting all the high notes for investors. Why are investors valuing this B-2-B SaaS security company so highly?
Source: OPEXEngine EdgarEngineIt doesn’t hurt to be a cloud company in a hot market like security going up against proven players like Cisco and Symantec. Plenty of companies in big markets aren’t pushing the envelope with extraordinary valuations like Zscaler and a few others, though.Zscaler’s extraordinary valuation is tied to revenue growth rates of 60%, plus a strong gross margin of 80%. The company invests 60% of revenue in Sales and Marketing to keep acquiring customers. S&M has fallen gradually from 71% two years before IPO to bring total operating expenses just in line with revenues, and they've reduced cost of revenues from 25% to 20% in 2018.
Strong Gross Margins
Strong gross margins are a simple equation: reduce cost of revenues and increase revenue. This tells investors that for all the customers acquired, the company can continue to retain and support them on a consistently profitable basis. Cost of revenues for B-2-B SaaS companies typically includes: all cloud hosting expense of the service, maintenance of the product, professional services expense, and, customer success.Zscaler is among the top gross margin performers in B-2-B SaaS peers by revenue size.
Zscaler’s low cost of revenue is coupled with very strong deferred revenues of almost 75% of recognized revenue in 2018. Large numbers on the deferred revenue side, together with continued investment in Sales & Marketing supports the prediction of continued healthy revenue growth that Zscaler has been delivering.
Manage the Operating Drivers of Your Leading SaaS Indicators to Achieve High Valuations
Investors bank on results with underlying positive leading indicators. SaaS leading indicators are metrics such as:
- Retention Rates
- Customer Acquisition Costs (CAC)
- Customer Lifetime Value (CLV)
- Cost of Revenue
Successful performance in each of these leading indicators is driven by a variety of processes in Sales, Marketing, Customer Success and Product. Leading companies track and benchmark these processes religiously. OPEXEngine’s SaaS and Software benchmarking and SaaS Finance Community is focused on helping companies define, track and benchmark these critical operating processes leading to strong valuations. Working with a community of peers becomes even more important when dealing with non-GAAP operating metrics because best practices and definitions are continuing to evolve in the cloud economy. Hundreds of B-2-B vendors use OPEXEngine’s benchmarking to guide planning and resource allocations, communicate and improve performance.
