Recently, I’ve had a few conversations with people regarding my version of the Customer Acquisition Cost (CAC) ratio. As a reminder, my version of the CAC ratio is: [($Total Sales + $Total Marketing)/$First Year Contract Value]. The objective is to make the CAC ratio less than 1 which implies a customer acquisition payback of a year or less. This is the ratio I recommend companies use to measure their sales/marketing effectiveness. I discussed this a year or so ago in this blog in a post titled “The Capital Needed to Create a SaaS Company”.

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Will Price when he was with Hummer Winblad and Phillipe Botteri at Bessemer Ventures suggest slightly different approaches and put the Sales and Marketing costs in the denominator with FCV on top of the equation. This makes sense if you’re looking at a company from an investor’s view but I come at things more from an operational perspective and developed my approach in 2004 when I was running Siebel’s CRMOnDemand division. I found that my approach allowed me to easily determine whether or not my Sales and Marketing teams were paying back our customer acquisition costs within 1 year and to track the trend. With the other mathematical approaches, in my opinion, it’s a little harder for the operational executive to determine what’s going on. All approaches are mathematically sound; it’s just a matter of preference.

One of the common issues I’ve been debating is why not use Total Contract Value v only First Year Contract Value so that Sales and Marketing get complete credit for multi-year deals.

Here is how I like to think about the issue.

With early stage companies that use a SaaS business model, companies should be primarily concerned with the preservation of cash not necessarily revenue.  The CAC ratio as I have proposed it focuses on actual Sales and Marketing expenses – which takes real cash – and the First Year Contract Value which represents actual first year cash inflows.

For early stage companies, I feel this is the most appropriate way to look at the CAC ratio because it measures ‘real’ cash inflows v ‘potential’ cash inflows. As the company matures and revenue becomes increasingly more important and cash less so you may want to adjust this ratio to give at least partial credit for multi-year deals.

I want to also comment a little further on the “$Total Marketing” in the CAC ratio. To really maximize effectiveness here, companies must hold the marketing function accountable for accurately creating and predicting future revenue for the company. Rather than just being responsible for managing corporate brand, marketing must be transformed and own the lead generation function and held accountable for accurately predicting out of period, future revenue.

Asking the sales organization to predict future revenue is like asking a sprinter to run a marathon. Sales is incented to predict and close in period revenue. They are terrible at predicting out of period revenue – just take a look at the garbage your CRM system contains in terms of future pipeline coverage. And, many companies make guidance statements based upon this highly subjective data – no wonder so many companies miss their forecasts.

As the former head of marketing for a multi-billion dollar software company, I am all too familiar with the pressure of delivering leads and generating statistically relevant data for Wall Street predictions. Consequently, I firmly believe the marketing function as we have known it must be transformed. Instead of just a brand organization, Marketing must become accountable for accurately predicting  Q+1…Q+N revenue by building a lead generation and lead nurturing function that monitors, tracks and predicts lead conversions and conversion rates.

That’s why I am a big believer and an investor in Marketo. They are building applications for Marketing and Sales that enable those groups to minimize CAC costs and accurately predict and maximize future revenue. And, whether you choose to use Marketo or another similar application, your company must transform its marketing function and hold it accountable for creating and accurately predicting future revenue: only then can you expect to truly minimize your CAC ratio. ]]> http://www.interwest.com/software-as-a-service/brand/minimizing-the-customer-acquistion-cost-cac-ratio/feed/ 3 http://www.interwest.com/software-as-a-service/brand/forecasting-the-winners-in-the-cloud-computingsaas-market/ http://www.interwest.com/software-as-a-service/brand/forecasting-the-winners-in-the-cloud-computingsaas-market/#comments Mon, 24 Aug 2009 23:22:45 +0000 Bruce Cleveland http://www.interwest.com/software-as-a-service/?p=256 Trying to determine which companies will emerge to be the future leaders in the cloud computing market is still fairly difficult. A poll taken by Saugatech last year revealed that 51% of the respondents  “didn’t know or weren’t sure which company would be the next ‘master brand’”.

While at the application level, it’s easy to view Salesforce.com as the star of that sector, it gets a little murky as you move to other functional areas of the front and back office as well as down the overall cloud ’stack’. As with most nascent markets,  the market is highly fragmented: CoLo/Managed Services (e.g. Rackspace, OpSource, many others),  Infrastructure/Platform (e.g. Amazon, Salesforce.com, VMWare, many others), Tools (e.g. Salesforce.com, Corent, Serena, SAP/Coghead, many others), and some a mixture of 2 or more areas (e.g. Salesforce.com).

To make some sense of the trends, I attended a presentation last year by Bill McNee who is an industry analyst with Saugatech. I thought he did a particularly good job breaking the market down into sectors, segments and strategies. Here were some of his observations and predictions he shared with respect to the growth of cloud computing and SaaS at that time:

1. Core systems of record (e.g. Finance, HR and BI/EPM) are growing rapidly – both SMB & Enterprise are adopting.
2. International is beginning to grow.
3. Standalone applications is Wave 1, International is Wave 2, Workflow/Collaboration is Wave 3 and Measured/Monitored/Managed business processes are Wave 4.
4. Platforms are beginning to proliferate.
5. M&A will accelerate.
6. Customer satisfaction is generally quite high with high annual renewal rates.

Bill went on to say that their data showed that 70% of the companies with >100 employees would deploy at least 1 SaaS-based application by 2012. And, he believed that one of the biggest market opportunities would be SaaS-based BI/CPM which in 2008 represented about 17.3% market share and would grow to 40.7% by the end of 2010.

He also predicted that SaaS-enablement would lead to cloud development — which indeed is occurring. Salesforce.com’s announcement of Force.com last year and its latest quarter’s growth from that business is proving this out. In addition,  with acquisitions by companies such as SAP with Coghead last year and VMWare with SpringSource this quarter, we are now beginning to gain a sense for how this may play out.

For traditional software companies in the fight for ‘cloud’ leadership, the overriding issue that remains is the hostile business model that SaaS/cloud computing presents. Wall Street measures these companies by in-quarter revenue growth and margins. Deferred revenue and in-quarter expense are antithetical to those models. With Salesforce.com, they have been successful in selling to the Line of Business and primarily SMB’s (that’s where 90%+ of their business still resides). Selling a Platform/Tools to IT and larger companies is a big departure from that success. However, they recently hired some big sales hitters from Siebel Systems to help address that issue.

Here is some other data Bill shared with us based upon their market research polls:

1. 40% of large enterprises will seriously consider SaaS-based ERP, HR, order management, and procurement solutions.
2. 30% will choose a new next gen SaaS solution provider
3. By 2012, only 20%-40% of software will be sold under traditional perpetual license model

In support of this data, I  think we are beginning to see SaaS break into the back office — initially in SMB — just as Salesforce.com did with its CRM applications. Companies such as Host Analytics, SmartTurn, and Adaptive Planning are beginning to make  progress in an area that has traditionally gone unserved by the large enterprise ERP suppliers such as SAP, Oracle and Manhattan Associates.

However, even though we are beginning to see where companies are picking their spots to compete in the cloud/SaaS space, identifying the future master brand(s) out of this fragmented market is challenging. I would say, though, that the comments I made in a blog I wrote early last year titled “Global Market Leadership” are still germane to becoming the next ‘master brand’.  It may be one of the existing competitors we know about today or, in fact, it may come from a new entrant we have not yet seen.

That’s what makes this market so exciting.

I have listened to hundreds of presentations from entrepreneurs looking for funding since I joined InterWest Partners. They all have one thing in common: the majority of the presentation is spent on the product they are building and the market they are targeting.

Similarly, when a venture firm does its due diligence, it spends a significant amount of time and effort speaking with current or prospective customers and analysts to gauge their level of interest, the importance to the business, ROI, usage rates, etc.

This is all very laudable.

However, if you were to perform autopsies of technology start-ups that have failed, I think you would find that most were able to build the products they said they would—and that the customers who purchased them received more than marginal utility from them.

So, if these companies were able to build their products and were able to find customers who used and liked them, why did they ultimately fail?

I believe that one of the primary reasons has nothing to do with products or markets. Instead, most of these companies went under due to their failure to create a recognized and differentiated global brand– a brand that linked their company and the use of their products with their customers’ success.

Global brands must be engineered – they seldom just happen on their own. It takes a management team that understands the value of building a brand and one that knows how to do it and is willing to invest a significant amount of effort.

When I think of great high tech brands, I think of those built by IBM, Microsoft, Oracle, SAP, or more recently Salesforce.com. Each of these companies invested heavily in their brands and their “brand promise.” When you think “SAP,” you think “runs my business.” If you think “Salesforce.com,” you think “No More Software.” Oracle invested heavily in PR and advertising for many years – and still does today – to build its brand as a leading provider of database and information technology.

So, if creating a global brand is important, what can you do if you’re a small technology start-up with very little cash to create a global brand?

Well, consider the example of Salesforce.com’s Marc Benioff. Marc created controversy by taking on the CRM Goliath at the time — Siebel Systems – even when his product was substantially inferior and he wasn’t focused on the enterprise market. He created conflict and drama through the use of his “No More Software” campaign and got the media to write about him at virtually no cost in order to achieve an unfair share of voice in the market.

It’s a good strategy. Technology journalists are weary of writing about speeds and feeds. If you can give them juicy content about your company’s plans to upset the status quo–with some credible evidence to back up your statements–you will get “free” press all day long.

As I wrote earlier, you must engineer your brand — and your brand objectives — into your day-to-day operations from the very beginning. You must measure yourself against these objectives weekly if you are serious about achieving these goals.
Here are some questions to ask yourself and your team to gauge your progress:

1. How many keynote speeches at major industry conferences were you and/or your key executives personally invited to deliver last year? Not panels, keynotes. You should be giving at least one keynote every quarter, perhaps more often, or you really aren’t relevant. If not, why isn’t your PR agency getting these for you?

2. Do the leading industry analysts regularly follow your space and are you in the furthest upper right hand corner of their charts? If not, what are you going to do about it? Achieving this position takes a dedicated effort by the CEO and key product and marketing executives. It won’t just happen because you build a great product.

3. Does your Web site support a community of your end users and partners with content, ratings and a way for the community to suggest new product ideas? Hosting a “User Week” is fine, but it’s only once a year. Today, you can receive customer feedback on your products and funnel it to your organization daily.

4. If you did a random survey of influential CEOs in your industry, would they know you personally and would they recognize your company’s name and products? If not, what are you going to do about it?

5. If you took a random sampling of your employees, customers and partners, would each of them use the same words to describe what your company does and its value proposition? Does every employee in your company know the corporate mission statement? Have you tested every customer facing employee to ensure they deliver the corporate messages identically? A global brand starts with consistency.

These are five things you and your team can do to start separating yourself from the rest of the pack. From my experience, the great companies never neglect their brands.

And if you’re still looking for funding, a good place to start paying attention to your brand is during your presentations to venture capital firms.