How Can SaaS Companies Weather The Impending Tech Downturn? by Forbes – Entrepreneurs

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Stormy weather could be ahead of the tech industry, but smart software companies will find a way to prosper

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With a headline like that, I had better start by explaining why I think we are close to seeing a downturn in the tech sector. I can only speak from my own experience, but in the decade I’ve been working in tech, and fundraising for six or seven of those, it has become easier and easier to raise money.

This is not just because my own competence has increased (which is debatable anyway), but because there is more money looking for a home today than there has been in the past 10 years. Crunchbase News’ annual report showed that last year, the most amount of money was invested in the most private tech firm funding events on record. What is more, 2018 saw the biggest VC deals in history.

Another factor is that there are more companies. In software, it is increasingly easier and less capital-intensive to start, with Amazon Web Services and the like making the cost of getting from nothing to something orders of magnitude lower than it ever has been. An abundance of capital and young companies seeking capital has led to a spray and pray attitude. Accelerator cohorts are swelling, as is the amount of cash given to participants.

Public markets are telling a similar story. The Nasdaq Composite, which is heavily weighted towards tech and internet stocks, has risen by 99 percent over the past five years. For companies themselves, the expectations around going public are significantly higher than they once were.

Look at Zoom stocks, which had more than doubled a month after the firm’s April IPO, trading at more than 400 times projected earnings, according to Bloomberg data. Why? Because the company is profitable, and Wall Street rewards that – disproportionately. CEO Eric Yuan said the price was too high – an unhelpful dynamic for a company trying, first and foremost, to ensure its customers are happy. Trying to grow faster and faster, outpacing your valuation and filling shoes that are too big feels precarious.

In private markets, valuation multiples are much higher than they ever have been. SaaS businesses used to see multiples at about 6-7x run rate. Currently, if you are a SaaS founder raising Series A or B, getting less than 10x would be seen as anomalous – the target range is 10-20x. This is resulting in companies raising more money (between $20 and $50m) because they can, because there is more to be invested at higher valuations. And this keeps companies off public markets because VCs (who are clamouring to be involved) are willing to support businesses for longer, even if they are taking increasingly higher risks to do so.

But this world does provide some upside for SaaS companies. In the event of a tech downturn, the best companies are still going to be able to raise money. It isn’t just an abundance of cash that is floating around at present – there is also a significant amount of goodwill in our industry. The approach you see in early-stage investing – “they haven’t got this all figured out yet, but I believe in this person and/or team to make it work” – is manifesting itself later, too. I am a recipient of this: raising more money at a higher valuation without having all the answers. Not having to be subjected to the same requirements for short-term results can give a business the time to catch up with the company – i.e. bring hiring, culture and systems up to speed with their own growth.

If any of us want to weather tougher times – and I do think they are close now – we need to do two things: one, raise now, while doing so is a luxury rather than a necessity. At the close of his recent Series B, the CEO of Pleo, the employee payments firm that automates expenses, told Sifted that he had kicked off the round before even starting to dip into the money from the previous one. Slack famously did this back in 2015 when it raised $160m on top of an untouched $120m. (Its latest August 2019 Series H saw it raise $427m.) Get capital while you can, and spend it wisely.

And two, remember the importance of revenue. Google’s Eric Schmidt famously declared “revenue solves all problems”. In the past five years or so, SaaS companies have arguably focused too heavily on acquiring lots of customers but in an unsustainable manner – the unit economics have been subordinated in favour of headline growth. We all must make sure, especially alongside very fast growth, that we are building sustainably, winning customers and keeping ahold of them.

Schmidt’s is the easiest piece of advice to follow, but so easy to forget. Picking a metric of success that suits the path you’re on is simple. But it is revenue – especially when times are tough – that counts for everything.

June 6, 2019 at 10:21AM
https://www.forbes.com/sites/christianowens/2019/06/06/how-can-saas-companies-weather-the-impending-tech-downturn/
Forbes – Entrepreneurs
http://www.forbes.com/entrepreneurs/
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