Enterprise Software Sales Metrics for Startups

In my last post, I talked about how to create your enterprise sales playbook. In this post, I am going to go through the metrics you can use to validate your execution, and also set both your targets and expectations.

Enterprise Sales and Early Stage Funding

I sometimes see founders looking for Seed or Series A funding with a Go To Market (GTM) strategy that includes, or is composed of entirely, enterprise sales. You have chosen a difficult GTM strategy to execute upon based on your current resources.

Why? Because the challenge for you at those early stages, and key to obtaining future funding, is to demonstrate Product Market Fit (PMF). You can probably tell me all about your product. You are going to describe your market, probably using acronyms like TAM, SAM, and SOM. You are going to say, “I showed you the market, and I showed you the product, and I understand them both — voilà, Product Market Fit!”. Perhaps you have a customer, perhaps you even have a signed POC. That’s great!

But you didn’t demonstrate PMF. It is Product Market Fit, not Product Company Fit, and I need more than one company to show me you have achieved PMF. More than two. Think hundreds, thousands, … now you’ve got it.

Remember, most VCs fund very few companies and you are being compared with your peers who are also seeking funding. Maybe you are going after enterprise, and let’s say you get five enterprise customers at $200k each per year. That’s $1M ARR. Your competitor, also looking for funding, has 100,000 customers for $10 each. That’s also $1M ARR. Who do I choose? Well, let’s imaging you both lose five customers. Company A just went bankrupt. Company B didn’t even notice. Also, who is likely to get five more customers? Company A needs to double their customers and enterprise sales is costly, Company B doesn’t.

To be fair, if you came to me with five enterprise customers already, you are genuinely way ahead of the game. Most don’t. What I usually see is “customer pipeline”, which when you quantify the probable future revenue, is not fantastic. The problem is that “in the pipeline” doesn’t equate guaranteed revenue, and that is the crux of the problem — it takes years to establish believable recurring revenues with large customers. Enterprise sales take a long time and the cost of customer acquisition is very high compared to other sales strategies. If your product requires enterprise sales to be sold and you are seeking early stage funding, you are in a tough position.

When to Start Thinking About Enterprise Sales

When should you go after Enterprise Sales? Do it when it makes sense. You need a mature product. You need a solid support infrastructure. You need revenue. You need to have worked out all of your deployment kinks. You need to be ready to support a hard-to-get, hard-to-keep, and very needy customer.

Going to do it anyway? OK, let’s get started.

Key Performance Indicators (KPIs) to Demonstrate Product Market Fit (PMF)

Investors are very concerned about your PMF. In the last few years, the savvy investor has adopted a consistent set of metrics that indicate a good PMF. If you are not familiar with these metrics, go read this post from David Skok at forentrepreneurs.com. That is your executive MBA right there as far as I am concerned. Seriously, go read it now.

Welcome back. Here are the KPIs that are going to show robust PMF:

• Negative Customer and Revenue Churn (Not only do customers not leave, they sign up for more!)
• The product sells itself (Positive customer growth with minimal or declining spend on outbound marketing)
• Your Customer Acquisition Cost (CAC) approaches $0
• Your Lifetime Value (LTV) : CAC ratio is very high (>> 3 expected by David Skok)
• Your Months to Recover CAC (MtRC) is measured in ones of months (12 months expected according to David Skok)
• Your conversion rate across your pipelines is fairly close to 100%, again with minimal spend

Let’s take each of the above KPIs in turn, using this example, and see what we can learn.

Churn

Churn tells you how many customers you are going to have next month, given how many customers you have this month. Here’s an equation:

F(Customers, Churn) = Floor ((1-Churn) * Customers)

These are generally integers. Let’s try a couple of values of churn.

F(1, 0)    = 1  //  0% churn
F(1, 0.01) = 0  //  1% churn
F(1, 0.99) = 0  // 99% churn

You can see the problem — any churn is anathema to your revenue if enterprise customers are your only customers, and you only have one or two of them (which is very typical). Thus basic metrics require that you must maintain a churn rate of 0% if your early adopter is an enterprise customer. That is a risky proposition, because if they leave, you‘re finished.

What’s that you ask? I shouldn’t treat them as a single customer, but instead as 10,000 seats? Quite right, except that is not how it works when you are just starting out. Enterprise customers are likely to underbuy at first, in order to keep investment minimal while they see if you truly deliver on your promises, plus they need to figure out how to incorporate your software into their internal processes. So, if there is any churn, it tends to be very bad news for you.

So, what to do? You can mitigate churn in a couple of ways, but one way to do so is by maintaining a big positive growth velocity (or positive net churn). However, enterprise customers take a massive effort to acquire and retain (see my previous post on the enterprise sales playbook), so while you are chasing the one large customer, make sure you are also acquiring thousands of non-enterprise customers you need as well.

The bottom line is any churn > 0 in enterprise sales for a startup is going to murder you when they are your only customer, and churn is always > 0. In order to succeed with a product that requires only enterprise sales, you have to keep churn at 0. This is a very hard proposition. Kudos to you if you can pull it off, but most can’t.

Customer Acquisition Rate

Needless to say, investors want to see traction in your product. Adoption by one large company does not demonstrate good PMF, especially given the disaster waiting to happen if you lose one customer because of churn. At every pitch I have been in on, investors have asked, “Even assuming you win the business with ACME Corp, what happens if it goes away?”. To which the answer is, “We’re awesome, they will never go away” or “We will do everything in our power to keep that from happening”.

And it is the latter response which leads to a related but important paradox: Your product cannot continue to be a great PMF from a feature perspective if you are focusing all of your energy making an enterprise customer happy because they comprise a majority of your net revenue!

A Realistic Example

The rest of these KPIs require an example to go through them. I put together a spreadsheet with realistic numbers, based on the team composition you likely need for success.

A Realistic Example

Keep in mind that I did not include overhead nor direct sales expenses (e.g. trade shows, management, etc.).

I took the opportunity to model a couple of scenarios out, and I highlighted the boxes to show you what changed. I will only be talking about the first column, but you can start to see how all of these metrics start to impact each other.

With this in place, let’s look at the rest of the KPIs we want to demonstrate good PMF.

Drive CAC to $0

Example: Enterprise Sales Customer Acquisition Cost (CAC)

Right off the bat, you see enterprise sales drives your CAC in the exact opposite direction from $0. This makes intuitive sense, as enterprise sales requires a sales team, sales teams are made of people, people require salaries, and enterprise sales generally means you have a few customers but high value contracts.

So, how do you drive your CAC to $0? Well, you have to get rid of the people doing the sales. But enterprise sales requires high touch, so you can’t. Thus, you see reducing CAC to $0 and enterprise sales teams are at odds with each other. You need to have non-enterprise sales in the mix, and a lot of them to demonstrate good PMF.

LTV:CAC Ratio > 3x

Example: Lifetime Value (LTV)

The example starts getting easier to understand. If your CAC is $232,500, and you want the LTV:CAC ratio to be three, then your LTV has to be (at least) $697,500.

Why does this matter? Well, let’s look at how much your software costs, and what the monthly revenue is. With the LTV above and a 24 month contract duration, the monthly contract value (MCV) is $29,062.50.

If your software costs $5/month, then you need to sell 5,813 seats. Wow — show me you can do that at more than one company! If your software costs $100/month, then you need to sell 291 seats. Doable, but now you are selling a $1,200 software package, and I’m starting to look at your competition.

So the question is, does your pricing strategy align with your enterprise sales strategy? Likely you need to be selling other services, not core product, and now you need to have that other infrastructure, process, and personnel in place to support that.

MtRC ≤ 12

Example: MtRC ≤12 as long as LTV:CAC ≥ 2

Finally, we look at months to recover CAC (MtRC). If you simplify the equations, you’ll find that

MtRC = (contract duration) / (LTV:CAC ratio)

This means if your contract is spread out over 24 months, and you achieved a LTV:CAC ration of 3, then you will recover your CAC in 24 / 3 = 8 months.

Therefore, you will achieve a MtRC < 12 as long as your LTV:CAC ratio is ≥ 2, for a 24 month contract. This is definitely doable with an enterprise sales model.

How To Win

Enterprise sales are tough for startups! So, how do you win, if you have to do enterprise sales to be successful?

This is the conundrum, and part of the reason I recommend waiting until it makes sense. Please, I implore you, consider that you have not yet found the right PMF if your GTM strategy requires enterprise sales right off the bat. You have to find a way to sell your product to a segment of the market that does not require enterprise sales. My advice, if your product is software, is to do the following, and eventually you will find that you stumble into your first enterprise sale without even trying:

• Architect your system smartly so that customers can deploy on-prem, in the cloud, or some hybrid model.
• Follow good, modern design patterns. Use REST APIs everywhere, even internally, and separate your services and data containers as much as possible so they are easily swappable.
• Deploy using containers and services. Build for scalability with a network-first approach.
• Eat your own dog food! Use your own APIs for internal projects, so that you can get fix bugs before your customers find them. And regardless if you eat dog food, implement rigorous automated testing and continuous integration throughout your dev cycle.

The first enterprise sale that occurs from organic growth is the best signal that you are now ready to engage with the enterprise.