Mergers and acquisitions are hot.
The number of M&As exploded in the second half of 2020, with the fourth quarter seeing nearly a 50% boost in activity over the same quarter the previous year, according to a report by the legal firm White & Case. That’s the highest it’s been in five years, the report found. Leaders at SaaS companies may weigh whether this exit strategy is an option.
Maybe it’s time to cash out on all of the hard work you put into your business. Perhaps you’ve started to receive inquiries about selling, or maybe you need a strategic partner and funding to help you achieve a larger, bigger vision.
Whatever the reason, sales metrics play a key part in getting a deal inked. Due diligence around metrics with your revenue operations team helps you position your business in the best possible light for private equity firms and other acquiring entities, signaling that your business will be a good investment.
Any potential buyer will want to know every aspect of their revenue and sales forecast process to understand the potential value your company offers.
Tracking key sales data after an acquisition is equally as important, as doing so ensures the turnover goes smoothly and benefits everyone. Failing to do so risks creating a rocky relationship that can spark a negative domino effect. You risk losing the opportunity to course-correct early. Your new partner and investment source may feel the business wasn’t a good investment, which could lead to a fire sale, or even dismantling, and vanishing returns.
While private equity firms bring additional expertise to their portfolio companies, being part of a private equity portfolio often necessitates streamlined programs and consistent processes that yield the best return on their investment. Portfolio companies are often heavily scrutinized and, as a result, pressure is high to attain predictable revenue.
In this two-part series, we cover some of the crucial data points you’ll need to monitor before an acquisition takes place to demonstrate your ability to predictably execute, as well as some of the critical metrics you’ll want to track after.
Defining an Acquisition
While we often hear about big, multinational corporations acquiring other large companies, the reality is that mergers and acquisitions (M&A) regularly occur between small- and medium-sized businesses. That includes startups, especially SaaS businesses.
According to Investopedia, an acquisition is when one company purchases most or all of another company's shares to gain control of that company.
If the company purchases more than 50% of the target firm’s stock or other assets, the acquiring company can make decisions about the business without the approval of the company’s other shareholders.
If done right, an acquisition has the potential to launch the acquired company into the stratosphere in terms of sales and growth. By joining forces with the acquiring firm, the bought company will have access to additional financial resources, networks, client bases, systems, and other tools and information.
Metrics to Track Pre-Acquisition
Relevant revenue metrics are critical during the acquisition process in demonstrating the health of your business.
These data points represent examples of key performance indicators that have been elevated to the level of strategic growth initiatives. While everyone seems to use KPIs as benchmarks today, KPIs can be more than measurement for measurement’s sake.
They’re representative of strategic output and can be leveraged as a secret weapon. They exist in service of organizational-level strategic growth initiatives, also known as SGIs, that can help confirm assumptions about an organization’s strategy or illuminate where adjustments are needed.
1. Annual Recurring Revenue
Understanding what your total revenue is and how that revenue grows is imperative, says Gary Sahota, senior manager of analytics at Clari. That’s usually referred to as ARR, or annual recurring revenue — the total amount of contracted revenue that your company brings in each year.
SaaS businesses rely on customer subscriptions for revenue, but these contracts can vary in length and dollar amount. ARR is therefore a key performance indicator (KPI) for SaaS businesses, because it averages the subscription factors and gives SaaS companies an idea of how much money they can expect from their customers in a given fiscal year.
For acquisition, the Cass Business School of London ranked growth, as represented by ARR, as the number one financial metric that makes a company an attractive target.
When tracked over time, ARR can show a company’s growth, which is particularly of interest to private equity firms trying to determine whether a business is strengthening and therefore a good investment. By showing revenue trends over time, ARR can also give companies a leg up on their long-term sales forecast.
ARR can show which segments of the customer base are consistent or growing, offering the business an opportunity to better target these segments. It can also help predict future revenue, which allows the company to make personnel, investment, research and development, and other important business decisions.
Clari uses activity analytics and AI-based opportunity scoring to show how your renewals are tracking so you can more accurately forecast retained revenue.
2. Historical conversion rates
Conversation rate refers to the percentage of deals that successfully transition from prospect to closed-won. A company’s historical conversion rate helps a private equity firm to assess whether your company seems like a promising investment.
For example, let’s say you have a 10% historical conversion rate for your total pipeline every quarter. Assume that rate has remained consistent for the past two years. Say you earned $5 million in revenue this quarter, with $100 million in the pipeline for the next quarter. You might expect an additional $10 million in revenue next quarter, which means you’re trending upwards in terms of quarterly revenue. Acquiring companies might weigh the pipeline versus the conversation rate and offer a premium “because there's a lot of upside coming down the pipe,” Sahota says.
Clari’s Trend view can serve as a critical tool for tracking historical conversion rates. Leveraging past performance and conversion rates, Trend provides a detailed projection of where sales teams will end the quarter. This data-driven prediction allows sales executives to pressure-test their team’s call and provide better coaching, automatically boosting forecast accuracy.
3. Average profit margin
The average profit margin is calculated by dividing your net sales by your net income. This number shows how much money a company makes relative to how much it spends. Reviewing the average profit margin over time shows not only how profitable a business is now, but also the profitability as the business grows. It’s therefore one of the top five sales metrics to track, according to Inc.
“Many companies burn more cash than they make,” Sahota says. “But how is that trending over time? Is that profit margin going from, say, -50 to -40 to -30 over time? Or is it going from -50 to -150? Are you burning more over time and becoming less profitable, or are closing in on breaking even or becoming profitable? ”
Understanding the average profit margin allows a company to forecast better for the next few years. If you’re looking to acquire a business, you’ll want to understand their profit margins and growth to have a full understanding of the entire revenue operations process and forecast expectations.
To learn more about strategic revenue KPIs, SGIs, and how they tie into the broader revenue operations playbook, read our whitepaper, “Strategic KPIs to Fuel Growth Initiatives,” published in conjunction with Clari’s Revenue Operations Council, which brings together top revenue operations leaders from companies like Zoom and Okta to share their knowledge with the marketplace.
Read Part II of our series, “After Acquisition: The Revenue Metrics to Watch.”
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