It’s fair to say we are living in bananaland right now. The overall US economy seems like it’s plowing ahead, oblivious to interest rates on fleek and a growing pile of tech layoffs. Consumer goods companies like Walmart are reporting strong earnings, and overall unemployment rates stubbornly low. And to round out the tornado of weirdness, we have crypto making a comeback.
Bitcoin
When you’re in the thick of operating, it can be hard to see the forest through the trees and accurately call if you are living in a recession.
It’s very common to deny you are in a downturn - I’d estimate it takes one quarter for a company to admit it internally, and two quarters to verbally confirm to their board and investors that they are indeed experiencing softness in some segments.
In other words, it can take up to six months before the scissors come out and the operating plan gets a haircut. And in retrospect, 90% of the time you’ll say you waited too long (in fact, I’ve never heard of a CEO or CFO saying “we acted too soon.”)
In order to expedite that crucial “come to SaaS Jesus” moment, here’s my scorecard to snuff out degradation before you’re in a real hole.
Note: None of these trends in isolation necessarily mean you are up against a nasty rip tide, but experiencing a collection of them certainly means you should seriously consider battening down the hatches.
TL;DR:
New hire salaries are changing faster than pipeline growth
Multi Product Attach is plateauing (or even dropping)
Customers are downgrading to cheaper plans
The velocity of early renewals is slowing
Customers are no longer buying multi year deals that ramp
Registration volume is dropping (Paid readers only below)
(Former) Slam dunk deals are hitting the deal desk for discounting
Rep call volume per deal is increasing
Effective commission rates are climbing
Contribution margin by segment is falling
CAC Payback Period by segment is increasing
Customers are paying you slower
New hire salaries are changing faster than pipeline growth
When times are good, it’s a candidate’s market. And companies are happy to lean in if it means they can land top talent.
When times are bad, people suck it up and stay in the same roles they are in longer, and are also less demanding about comp packages when they do make a jump.
But shifts in the labor market always lag company performance - one has to come before the other.
There’s usually this awkward in-between period where you start to notice you’re hiring people at $10K, $15K, $20K more than you budgeted, and it doesn’t feel comfortable anymore, given the day to day conversations you’re having about the business.
Call it a vibe, call it a premonition, but when this happens you have to measure the rate of change in average salary by department and compare that to the rate of change in pipeline growth rates.
Mostly advice: Each quarter you should check how many salaries came in over budget to plan. Either you have a budgeting problem, or there’s a runaway labor market.
Multi Product Attach is plateauing (or even dropping)
Shrink is Churn’s somewhat less ugly cousin
If multi product expansion is a big driver to your net retention rate, you’re in for a rude awakening when customers not only don’t buy additional modules, but rationalize one of your products for another
Let’s be honest - like most families, every company has a favorite sibling product. And when customers like you, but can no longer afford the same wallet share, the step brother who got loved up in good times has to go
DataDog is legendary for their multi product attach. They’ve successfully ramped customers from one to two to three …. to six or more products over time.
DataDog 2023 Investor Day Presentation
But when macro clouds arrive, you’ll see certain customers drop a product, and the bars get cut down
Mostly advice: This isn’t something to shrug off - as it’s usually a leading indicator for total churn (and a confession that one of your engines for future growth wasn’t as strong as you thought it really was)
Customers are downgrading to cheaper plans
Not all features are as economically resistant
When times are good, customers may not blink an eye to take the higher priced, bells and whistles - “Premium” plans sell better in good times, “Starter” plans sell better in recessions
But when the tide starts to roll out, the “ability to [xyz] in 10 seconds vs 20 seconds” feels like overkill
Downgrading in plans is another form of Churn, more specifically Shrink, which we discussed above
The velocity of early renewals is slowing
Early renewals are usually brought about by one of two compelling events:
Customers want to buy an additional product and it just makes sense to co term all their products together
The customer is growing faster than they anticipated and needs more licenses / usage
If customers aren’t knocking on your door to renew their products three or four months ahead of time anymore, there’s a good chance your expansion pipeline will suffer, or potentially worse you are sitting on a bunch of churned eggs that haven’t hatched yet
Mostly advice: The worst thing you can do is force customers into early renewals by overly discounting. That is mortgaging tomorrow’s future to pull forward cash. It’s not worth the long term trade off… You should only discount the renewal if it’s the actual renewal time and you think they will churn entirely for a competitor.
Customers are no longer buying multi year deals that ramp in size
When customers feel less certain about their futures will stop committing long term and embedding estimated growth for a slightly better deal
This is because:
a.) These deals usually require up front payment at the start of each calendar year, and companies are now more conscious about their cash balances
b.) They don’t think they will hire as many people as they originally might have thought, and therefore don’t need to pre-purchase licenses that will sit on the shelf
Mostly advice: Compare the weighted average contract length in your install base (e.g., 25 months) vs the most recent quarter’s weighted average contract length (e.g., 19 months) to sniff out a trend. Also keep track of the growth in your remaining performance obligation over time.
For all those unfamiliar with this space man term, RPO is allunrecognized contracted revenue.
Deferred revenue goes out at most 12 months, so RPO was created to extend even further to capture all of a multi year commitment. It includes both Deferred Revenue and any unbilled portion of a multi year contract.
For a 3 year contract you’d have 12 months in deferred revenue and 36 months in RPO. Of the 36 months, 12 months would be current RPO and 24 months would be non-current RPO.
RPO is not a GAAP number and, therefore, does not appear on the balance sheet. Instead, companies report it in the “Revenue from Contracts with Customers” section of their public filings to make sure they get “credit”.
It’s really popular for consumption based businesses where customers pre-pay, or commit, to lots of usage.
