Do they teach this in business school? I wouldn’t know. I’ve learned it all from startups.

Everyone who joins a startup, in the back of their mind, in that tiny little crevasse all the way tucked behind all the cortices and lobes, dreams of their bank account flooded with cash after an acquisition or IPO (and, of course, many years of hard work.)

But we all know most startups fail. Starting a company is hard work. Creating sustainable growth is nearly impossible. A lot of it is market timing. You can have a great product and fail. You can have a shitty product and get pretty far. There are so many variables no matter what company you join, no matter what stage, it’s a risk, and far from a surefire path to riches. If you want to fill your coffers there are more efficient and less risky ways.

While the reason to join a startup should never be to get rich, it certainly is one of those ideas that executive teams plant in the minds of those who have less privileges in terms of  stock (thus less opportunities to do well for themselves even in the case of a successful exit.) But being part of a startup is an exciting and educational experience. If you ever want to start your own company, the knowledge picked up along the way is priceless.

To date, I’ve been part of two startups with very distinct business models. Well, startup A didn’t seem to have a business model beyond getting a lot of users, while startup B followed a standard SaaS (Software-as-a-Service) model. I’ve learned a lot more in company B than company A as at least there is some model in which to base success on. Startup A could have become a runaway hit with millions of users and been purchased by a company like Facebook or Google, but the product was never really user-friendly and we struggled to acquire and retain users. It still isn’t clear to me what the business plan was from the co-founders but it appeared that this wasn’t very clear to them either. The company was acquired for talent eventually, and given they didn’t raise that much capital everyone actually made some money. The founding team made quite a bit, even on a failed product. (Sometimes it seems founders play a different game where they can get rich by failing. It’s an interesting trend I’ve noticed.) Anyway…

SaaS models are an entirely different ballgame. You have some meat to sink your teeth into regarding the health of the business. SaaS is basically enterprise software that lives in “the cloud” versus on premise, so enterprise software companies sell their products for annual licenses versus a larger one-time purchase fee to buy a version. SaaS companies also frequently update their products, and customers don’t have to wait to buy the next version to experience these upgrades. It amazes me that many businesses still use on-premise software, but apparently so many have this software entrenched in their business practices that it’s hard to pull out and move to the not-so-nebulous cloud.

What’s great about SaaS models is that you have a very clear view into the health of the company at any given time, for better or worse. First of all, you have sales, which are measured in ARR (annual recurring revenue.) Just like traditional software businesses, SaaS companies need strong sales teams to push their product and close deals. Once the customer is acquired, it’s up to the Customer Success team to secure renewals and upsells. That’s pretty much it. Valuations for these businesses (i.e. what another company would theoretically pay to purchase the business, or in the case of an IPO) can range from 5x this years ARR to 8x (these are called valuation multiples.) Really hot companies can fetch even more than this. So a company making $50M per year in ARR could be purchased for $250M or $400M. That is, if this company can maintain their growth and show that they will continue to grow at an exponential rate.

What’s not so good about SaaS models is that they require you to really nail the product out of the gate and grow really, really fast. I’ve heard from others in the industry that unless you have a truly fearless leader at the helm you end up with a lot of employees too scared to admit their piece of the train has been derailed. It’s a huge challenge because you have an executive team and CEO reporting to a board that just put a lot of money into this company. All the CEO is responsible for is showing the board that their investment is moving along swimmingly. Any signs of trouble and the board could go so far as to replace the CEO.

This fear swims at Olympic-speed downstream. VPs seem to have the job of magical number crunching and PPT presenting so their representative portion of the business appears healthy. Managers are afraid to rock the boat. Everyone is pulling to hit the numbers and any problems can get swept under the rug. It’s unfortunate, but it happens. By the time the issues are brought to light it can be too late to fix, or at the least just a lot more expensive and harmful to the business to fix than they would have been if they were resolved early on. This happens at big companies too (middle managers wanting to keep their jobs and not admit to problems) but it’s not usually so fatal.

I’ve been reading a bit of Sean Ellis’s writing on startup marketing. The first marketer at Dropbox among other tech industry success stories, he coined the term “growth hacker,” and focuses on what type of marketing/marketing person is required to help a business grow from 0. He writes, “startups live and die by their ability to drive customer acquisition growth.  Of course many startups are doomed to failure and can’t grow because they never reach product/market fit.  But even with product/market fit, traction is tough. Startups are under extreme resource constraints and need to figure out how to break through the noise to let their target customers know they have a superior solution for a critical problem.”

Ellis’s argument is sound. Before you start marketing a company and generating buzz, you need to solidify market fit. He asks customers what they would do if they had to lose your product. If it’s not a must have for the majority of them, you keep iterating until it is. Then you grow. He calls this your MustHaveScore. I like it. In the end, it doesn’t matter how hot your category is or how many reporters want to cover your startup. All that matters in the SaaS world is – does this product serve a real business need and has it become vital to standard business process?

Of course, there are outliers which are so innovative they can’t necessarily be addressed by this equation. But for the most part such innovation is best left suited for B2C companies like Uber, disrupting an industry, or cleantech where companies are building the next clean vehicle or a ship to take tourists to the moon. Business process — and business software — is so broken that there’s TONS of room for improvement. The trick is finding a market opportunity where there’s a clear buyer — who has a business problem tied to spending/cost — and then to show them how your fancy new software can help them reduce this cost. They pay you $100,000 a year, you save them $300,000. Win win.

What I’m learning now is that the best way to measure the potential success of a SaaS startup is not by how sexy it is — but by the above questions. Is there a clear buyer? Do they have access to business funds? Do they have a problem that costs a lot of money to solve that this product can help them solve more cheaply or efficiently? Does this product actually work (or have the realistic potential to solve that problem)? If yes, as an early-stage marketer I’ll gladly come in and spend way too many hours of my life making sure that every potential buyer knows about that product and its benefits. It is much harder to market a product where the cost savings isn’t clear or is more indirect. It is equally hard to drive renewals in this case. While a business with such challenges can be successful, eventually it is becoming to work for a startup that has reasonable odds for success.

While I don’t have an MBA, I now have a pretty clear understanding of a SaaS business model, as well as what to look for in an executive team in a startup. I once heard a founder push his early sales team to secure two-year contracts, which at the time seemed like a good idea, but I know see as a sign of weakness. I spoke to another founder recently who explained his strategy to only accept three MONTH contracts early on, in order to keep his product and engineering teams on their toes and to fight for the remainder of the year renewal. What I love about this strategy is that core product problems are dealt with as they arise, likely smoothing over issues before your company faces hundreds of thousands of dollars in churn.

One thing I know for sure, for a SaaS startup to succeed, it’s extremely important for all the teams — marketing, sales, services, engineering, product, etc, to work closely together, and not be fighting for metrics that ultimately just sweep problems from one area to the next until there’s a big pile of dirt and no one wants to claim it. That takes a ton of bravery from the leadership, and the finesse to admit to not having the right answers all the time, but the cultural tenacity and teamwork to solve problems as they arise. That’s one of the most fun parts of being in a startup – figuring out how to make the crazy puzzle work. Not plugging the holes with makeshift pieces that don’t actually fit.

 

 

 

 

 

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2 comments

  1. anon says:

    Your description is so so true. I recently was at a start-up. The CEO had been brought in to grow the company. But he was a more laid-back kind of guy, rarely went out to visit customers, expected the sales team to push growth. And he was not knowledgeable in operations and development. So he left it to others.

    So there was the situation you describe. All the VPs displayed charts and slides how great their fiefdoms were. But it did not hold together well. There were pushbacks about which direction to take the company. And the product itself was not very stable.

    And there was a concerted effort by a manager in engineering to hide all problems from upper management. On top of this, that manager got promoted from director of engineering to vp of engineering.

    There were other issues. Finance over and over made mistakes in payroll, paid vendors late, etc. You had the feeling they were trying to hoard money.

    To make a long story short, they will muddle along, pry more money out the major investor, people will get paid, but it wont take off really. I left when I got tired of being criticized for not being able to read people’s minds.

  2. Nalani Sheils says:

    I think the other thing behind it is scalability, less so on the software side, but the service side. Sometimes your idea is great, making it easier for people to get their mail, do their laundry, etc, but if this means you’re running around to someone’s house and then back, etc, it might work in SFO or NYC, but scaling that from your beta users is going to be impossible without jacking up prices, which is why people went with the service in the first place. Great commentary. I love startups. I love the culture, the constant change and holding onto your hat. I’ve worked for a couple remotely and it’s been a great time. It’s definitely a rollercoaster!

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