SaaS | 10 MIN READ

What is the SaaS Magic Number?

SaaS Magic Number is a great metric used to measure how efficient your Sales is. Read on the blog to know how to calculate the formula, varied benefits and more.

Rohan Sheth
Jun 25, 2020

SaaS-Magic-Number

SaaS Magic Number

Are you a SaaS start-up looking to grow big and get some significant funding? If the answer is yes, you would want to ace your SaaS Magic Number.

Saas is a unique animal. So, is SaaS marketing. And you and your potential investors know that. Although many businesses can sustain on single, one-time purchases.
But not SaaS!

It depends on month-on-month or year-on-year continued subscriptions. That means you not only have to acquire new customers but also, retain them! Of course, the product has to find its sweet spot. But once that’s done, selling and marketing are what keeps the ledgers in green – notwithstanding continued research and development, or new market entries. Hence sales and marketing tend to become more critical to SaaS businesses.

No wonder, we see SaaS CEOs taking a personal interest in everything that the Marketing and Sales teams do. And that includes cost per lead, content marketing, and customer retention strategies. Sometimes, we even see them hunched over promotional creatives, reviewing fine copy and graphics.

Yes, SaaS marketing and sales budgets are always under great scrutiny. And SaaS CMOs like to keep a tab on every penny. So how do you judge if all is going well? And if your efforts are in the right direction? That is when SaaS Magic Number comes into the picture. Here is what we shall be delving into today:

Table of Contents

  • What is a SaaS Magic Number?
  • Why is SaaS magic number important?
  • How to Calculate your SaaS Magic Number 
  • What is your SaaS Magic Number telling you? 
  • What Metrics Are Related to the Magic Number?
  • Why is it important to keep your SaaS Magic Number benchmarks at one or above? 
  •  What to do if your SaaS Magic Number lies between 0 and 1? 
  • Common pitfalls to avoid when working with your SaaS magic number 

What is a SaaS Magic Number?

It is a measure of growth in revenue with respect to the cost spent on sales and marketing. Through this, you can measure how competent a business is in terms of generating recurring revenue at the cost of its marketing spent.

It is one of the most useful SaaS metrics for investors to know the health of a business. It serves as a litmus test of sorts. To help you gauge whether your sales and marketing variables need any tweaking. And, in which direction!

Why is SaaS magic number important?

As a SaaS business owner, you would want as much control over your business as possible. By using different metrics, you would want to keep the health of your business under check. If a metric allows you to know what areas of the business you must improve, then it becomes indispensable. Through this magic number, you can have the following benefits:

Precise measurement

Through this magic number, you can identify different strategies needed to improve your sales and marketing efforts. Different readings suggest different areas to work on. We will learn about that in the below sections.

Cost Reduction by measuring ROI

When you start investing with the right ratio on your customer acquisition cost and measure the ROI, you would know the exact amount to spend for further growth. This metric will show you when to stop investing further in CAC and rather work on improving its efficiency.

Create better team

This magic number tells you when you need to stop investing more in sales and marketing. And rather invest in process efficiency. This helps you upgrade the skills and competency of your sales team or buying a higher-end sales tool. This is a useful step towards enhancing the overall performance of your sales department.

Redisigning Sales

Further, this number can help you in ascertaining the specific areas that you need to work on. Once you ultimately figure out when and where the discrepancies take place, you can then target and revamp them.

Staff Training and Education

The better you know about the health of a function in each stage, the easier it becomes for you to train and educate your sales reps with data-driven DNA. And, well-trained staff lead to more profits, benefits, and revenue too.

Recalibration

It is a given that a Marketing team will need recalculations and adjustments. Perusing your SaaS magic number calibrates your work toward better sales, revenue, and marketing solutions.

How to Calculate your SaaS Magic Number 

To find this metric, you need the following data points. 

  1. Recurring revenue from your last quarter  (A)
  2. Recurring revenue from the quarter before your last quarter (B)
  3. Sales and marketing costs from the quarter before your last quarter (C)

Once you have the above figures with you, you can use the below SaaS magic number formula to get this metric: 

SaaS Magic Number = [(A – B) *4] / C 

It is your ‘annualized’ incremental recurring revenue as a percentage of your sales and marketing expenses.  

So, what does it denote? Read on! 

What is your SaaS Magic Number telling you? 

Source

The Magic Number Formula tells you how efficient your sales and marketing activities are, in hitting the gong. A SaaS magic number below 1 means that you may not be able to recover a quarter’s worth of sales and marketing cost even after a year, considering all other factors stay constant over the next three quarters.

Similarly, when it is above 1 means you will be able to recover the same in less than a year.  It stands on the idea that, on average, it could take a year for a SaaS startup to recover its sales and marketing expenses. 

What Metrics Are Related to the Magic Number?

It could be possible that your SaaS Magic Number might need not be propelled and is great, however, the game does not end then. Ensure that you reevaluate your Marketing and Sales spend with these metrics before you go on:

  1. Churn Rate: With stellar Marketing and Sales expenses, you may take up the ARR (Annual Revenue Rate) to another level. But is it enough to retain a customer from switching? You need to check on that.
  2. Gross Margins: Higher Cost of Goods Sold will lead to lesser gross margins, which will take the marketing and sales expenditure payback period a little longer than usual. Now, note that even though your SaaS magic number is greater than 1, it should not entitle you to elevate spending on acquiring clients until and unless you figure how long will it take to pay back the cost of the newer ones.
  3. Cash Flow: Do not just go about breaking your wallet just because you are totally proficient at getting new customers. Let’s face it, unexpected events can happen which may put you at a monetary loss. That is why ensure that your cash flow is well-modeled and stacked. Without the right balance, you may never be able to render service to your new clients.

Why is it important to keep your SaaS Magic Number benchmarks at one or above? 

 It is among the top SaaS business metrics that matter to the C-suite, the investors, and the shareholders. 

It helps them gauge how fast and efficient the business model is in growing its revenue compared to the capital pumped in. 

Naturally, this number is critical to make or break investor confidence in your SaaS subscription business. 

What to do if your SaaS Magic Number lies between 0 and 1? 

 If it is below 1, it could indicate poor sales or marketing efficiency. If it is one or more, it could suggest a strong sales and marketing framework – based on which you can confidently pursue further growth. 

Below are the common prescriptions offered in each scenario: 

If the SaaS magic number lies Prescription to the business 
Between 0 and 0.5 Improve sales efficiency 
Between 0.5 and 1 Improve capital efficiency 
Above 1 Invest more 

Having a SaaS magic number below one means there’s scope for recalibrating your customer acquisition efforts and strategies to make them more dollar efficient.  

To improve your sales efficiency:  

Do you think your sales strategy struggles to acquire and retain customers? You could look at gaps in your sales recruitment and enablement process, salesforce automation, sales and marketing collaboration, or even issues with your ideal customer profile. 

To improve your capital efficiency:  

When we say capital efficiency, we mean the marketing spends you have committed to growing your customer base and market presence. Your SaaS number may indicate gaps in your marketing strategy.  

If that’s the case, you could look at your acquisition cost per lead, the acquisition cost per customer, content marketing ROI, channels used for reaching your ideal customer profile, and the positioning changes to better appeal to your chosen market segment. 

Common pitfalls to avoid when working with your SaaS magic number 

Like every other metric, it is essential to look at this metric in combination with other associated parameters, and not in isolation, lest you end up missing the obvious. Sometimes, a SaaS magic number above 1, which looks perfect on its own, might reveal customer acquisition weaknesses when we look at the sources of revenue. 

In subscription businesses, revenue growth can come from: 

  1. Existing customers renewing their subscriptions, or 
  2. New customers added 

Your periodic revenue growth must be well-distributed between both new and existing SaaS subscriptions. Leaning too heavily on just one of them could expose the business to potential risks and raise questions on its sustainability. 

Similarly, a magic number above one may not necessarily mean that all is well with your business. For it doesn’t take into account your customer service costs and costs of delivery and operations. You may have to wait much longer than a year to recover them all. Hence, depending on the stage of your startup, at some point, you will have to move beyond just the SaaS magic number and start looking at your gross margins. 

That’s a Wrap

If there’s one quick metric that helps you check the pulse rate of your SaaS subscription business, it is the SaaS magic number. Further, the thing about metrics is that they need to operate together. If your SaaS magic number is greater than 1, it is well and good but, on that note, so ensure that you calculate the churn rate, gross margin, LTV/CAC and the payback period before it is too late. Else, in no time you could run into a metric-debt if you zero in on all your focus on just one metric. For best results, you must calculate and evaluate it consistently, quarter after quarter, and year after year. This way, you can monitor the improvements and view the big picture trends going beyond temporary fluctuations.

You might also like:

  • What is SaaS –  A comprehensive explanation with secrets for SaaS success
  • To understand how SmartKarrot helps SaaS companies keep and grow loyal customers, Request a Demo.

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Originally Published June 25th, 2020, Updated February 17th, 2021

Rohan Sheth

Rohan has over 11 years of experience in client services, marketing and hospitality field. Previously, he was head of digital marketing for a hi-tech mobile application. Rohan is driven by new challenges and the possibility of making an impact on individuals and businesses.

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