The ICONIQ Growth Enterprise Five
Key Performance Indicators of SaaS Companies in 2023
By Vivian Guo | September 12, 2023
In recent months, we have seen many predictions about what will happen next in the macroeconomic environment—recovery, recession, rebound, retrenchment, and so on. While it can be tempting to accept opinions of certainty and stability in volatile markets, we have found it best to put our trust in data.
Our team has developed a set of metrics that can serve as goalposts for individual SaaS businesses, as well as guideposts indicating where we are in the cycle: The ICONIQ Growth Enterprise Five. Looking at these five figures—ARR Growth, Net $ Retention, Rule of 40, Net Magic Number, and ARR per FTE—can help you determine the health of your business. We often see startups include these metrics in board decks and pitches as a way of signaling growth prospects, while also using this information to support strategic planning decisions around everything from GTM strategy to team size.
Looking at these figures in aggregate, a story about the market emerges: The data shows us we are still in a period of slower growth* . Business leaders have been saying for some time that they aim to do more with less. What we’re seeing now is that they are also doing less with less.
About the 2023 Growth & Efficiency Research
ICONIQ Growth is proud to have partnered with 100+ SaaS companies to date. Working closely with these exceptional leaders has given us a deep understanding of all stages of company growth—from the first million dollars in revenue to IPO and beyond.
Based on financial and operating metrics from certain of ICONIQ Growth’s SaaS partnerships and select public companies*, we analyze the drivers of success behind effectively scaling SaaS companies each year.
Through this research, we’ve identified five key metrics we believe are highly representative of a SaaS company’s overall growth and efficiency. While our quantitative evaluation of software businesses is always tailored to the nuances of a company’s industry, product, sales motion, and more, we’ve found the “ICONIQ Growth Enterprise Five” to be consistently strong indicators of a company’s long-term success.
Download our 2023 Topline Growth & Operational Efficiency report.
For insight into how these—and other SaaS metrics—should be calculated, including nuances of cost classifications, revenue recognition, unit economics, and more, we invite you to explore our SaaS Glossary.
This scorecard provides performance benchmarks against the ICONIQ Growth Enterprise Five as B2B SaaS companies scale, and below we explore insights across these metrics from our research. In particular, we dive into how these metrics have changed over the last few quarters amidst macroeconomic turbulence and deterioration in operating performance for many SaaS businesses.
YoY ARR Growth
YoY ARR Growth = (EOP ARR – Prior Year EOP ARR) / Prior Year EOP ARR
YoY ARR growth reveals how quickly and consistently a company is growing and has historically been one of the top two metrics most correlated with SaaS valuations.
2022 and 2023 have had a significant impact on SaaS performance, with companies seeing lower YoY growth in the first half of 2023 than any other period in the last five years. Whereas top-quartile SaaS companies can usually grow 2.0x-2.5x year-over-year until $100M ARR, the rate of ARR growth decreased to ~1.5x for companies scaling past $50M in 2022-2023.
The composition of this growth has also changed. Companies are now prioritizing expansion earlier in the company lifecycle, with expansion exceeding 50% of gross new revenue as early as the $100M range. As we see more companies powered by product-led growth or leverage bottom-up sales motions, we predict that expansion will continue to become a larger, and likely the most significant, portion of new ARR going forward.
Net Dollar Retention
Net Dollar Retention = (BOP ARR + Expansion ARR - Gross Churn ARR) / BOP ARR
Net Dollar retention (NDR) signals the efficiency of a company’s revenue generation by measuring its ability to retain and expand existing customers. This makes it one of the most important gauges of business health, as it can be used to measure everything from product market fit to customer health. We’ve found NDR to be one of the strongest indicators of long-term success for B2B SaaS companies.
Between $1-$10M ARR, top-quartile companies achieve 130-150% NDR and maintain 120-130% NDR as they scale toward IPO. Strong net retention is driven both by customer expansion (upsell and cross-sell of existing customers) and customer retention; top-quartile companies maintain a churn rate of <10% regardless of scale, leading to >90% gross dollar retention. However, today’s challenging climate has also impacted median net dollar retention, falling from peak levels of 130+% in 2017 to under 100% as of Q1 2023.
Rule of 40
Rule of 40 = YoY ARR Growth + FCF Margin
Rule of 40 measures growth and profitability in tandem. The general rule of thumb is that a SaaS company’s combined YoY growth and free cash flow (FCF) margin (measure of profitability) should meet or exceed 40%. Though Rule of 40 tends to decline as SaaS companies scale and growth slows, although top-quartile companies exceed 40% regardless of scale and typically achieve profitability within one-to-two years after IPO.
The past couple years have brought the path to profitability back into focus in the public markets, with correlation between growth and profitability with SaaS valuations surpassing the correlation between growth alone. While this renewed focus on efficiency and a path to profitability have started to move the needle on both gross and FCF margins, the pace and scale of spend reductions have not matched the speed at which growth has slowed. This has resulted in efficiency metrics such as Rule of 40 dropping in the first half of this year.
However, we predict that the advent of AI may bring about significant operational efficiencies to organizations and the potential to unlock new growth vectors. We are already starting to see organizations accomplishing tasks that would have normally taken weeks in a matter of days, spanning projects such as writing marketing copy to customer support and code review. We would not be surprised to see the Rule of 40 becoming the Rule of 60 in the coming years.
Net Magic Number
Net Magic Number = Current Q Net New ARR / Prior Q S&M OpEx
Net Magic Number (NMN) measures revenue generation for every sales and marketing dollar spent, while accounting for the lag of a typical sales cycle. This makes it a robust measure of go-to-market efficiency, and perhaps the most critical driver of overall efficiency.
Early-stage SaaS sales are often highly efficient on this front, with top-performers achieving 1.3x+ NMN until ~$50M ARR. As these companies continue to scale, go-to-market efficiency generally trends down due to competitive dynamics and shrinking headroom and NMN stabilizes around 1.0x-1.2x. Driven primarily by lower sales and marketing spend, companies with product-led growth tend to have higher go-to-market efficiency with top-quartile companies’ NMNs between 2.0- 4.0x. Sales efficiency has also declined in the past year as selling SaaS tools and platforms has become much more challenging in the current macro environment.
ARR per FTE
ARR per FTE = EOP ARR / EOP FTEs
An average 60%-75% of SaaS operating costs are people-related, making headcount productivity (ARR per full-time employee) and headcount efficiency (spend per full-time employee) two of the most robust measures of overall growth and efficiency.
As SaaS companies scale they are able to meaningfully increase ARR per FTE while steadily decreasing spend per FTE, leading to improved headcount productivity and efficiency. ARR per FTE tends to surpass spend per FTE when companies reach $100M-$150M ARR. As companies have implemented both hiring slowdowns and reductions in force, ARR per FTE has improved over the last few quarters. However, we expect some of this to be temporary and to dip down as the impact of these changes normalize.
We invite you to dive into each of these metrics and other drivers of growth and efficiency for scaling SaaS companies in our latest research here. In times of volatility, we also recognize that the Enterprise Five is not a comprehensive framework of health for companies who often need to move quickly and understand which business levers to prioritize vs deprioritize. In addition to the Enterprise Five, we also recommend companies track five additional metrics which together comprise what we call The Resiliency Rubric.
In a year marked by macroeconomic turbulence and shifting operating landscapes, we hope that our research brings you valuable insights into SaaS performance over recent quarters. While we recognize the challenges facing numerous SaaS companies today, we are equally optimistic about a future where transformative technologies such as AI have the potential to redefine these Enterprise Five metrics, introducing novel avenues for growth.
Sources:
*This research summarizes quarterly operating and financial data from 96 B2B SaaS companies. An overview of our methodology and data sources, including a list of the companies included in the dataset, can be found on page 8 of the Topline Growth and Efficiency report here. All ICONIQ Growth portfolio companies were included where data was available. The dataset also includes 13 public companies that are not (and have not previously been) ICONIQ Growth portfolio companies. All data was collected from public filings information. Top IPO performers are top quartile in two or more of the following:
1. Indication of Success of IPO: Forward Revenue Multiple at IPO
2. Indication of Success Post-IPO: Current Forward Revenue Multiple
3. Indication of Value Creation: Ratio of Change in Stock Price Since Day 1 Close vs. Market (S&P)
For a full list of ICONIQ Growth companies, please visit our website here.
The views expressed in this presentation are those of ICONIQ Growth ("ICONIQ" or the "firm"), are the result of proprietary research, may be subjective, and may not be relied upon in making an investment decision. This presentation is for educational purposes only and does not constitute investment advice or an offer to sell or a solicitation of an offer to buy any securities which will only be made pursuant to definitive offering documents and subscription agreements, including, without limitation, any investment fund or investment product referenced herein. Any reproduction or distribution of this presentation in whole or in part, or the disclosure of any of its contents, without the prior consent of ICONIQ, is prohibited. This presentation may contain forward-looking statements based on current plans, estimates and projections. The recipient of this presentation ("you") are cautioned that a number of important factors could cause actual results or outcomes to differ materially from those expressed in, or implied by, the forward-looking statements. The numbers, figures and case studies included in this presentation have been included for purposes of illustration only, and no assurance can be given that the actual results of ICONIQ or any of its partners and affiliates will correspond with the results contemplated in the presentation. No information is contained herein with respect to conflicts of interest, which may be significant. The portfolio companies and other parties mentioned herein may reflect a selective list of the prior investments made by ICONIQ. Certain of the economic and market information contained herein may have been obtained from published sources and/or prepared by other parties. While such sources are believed to be reliable, none of ICONIQ or any of its affiliates and partners, employees and representatives assume any responsibility for the accuracy of such information. All of the information in the presentation is presented as of the date made available to you (except as otherwise specified), and is subject to change without notice, and may not be current or may have changed (possibly materially) between the date made available to you and the date actually received or reviewed by you. ICONIQ assumes no obligation to update or otherwise revise any information, projections, forecasts or estimates contained in the presentation, including any revisions to reflect changes in economic or market conditions or other circumstances arising after the date the items were made available to you or to reflect the occurrence of unanticipated events. For avoidance of doubt, ICONIQ is not acting as an adviser or fiduciary in any respect in connection with providing this presentation and no relationship shall arise between you and ICONIQ as a result of this presentation being made available to you. ICONIQ is a diversified financial services firm and has direct client relationships with persons that may become limited partners of ICONIQ funds. Notwithstanding that a person may be referred to herein as a "client" of the firm, no limited partner of any fund will, in its capacity as such, be a client of ICONIQ. There can be no assurance that the investments made by any ICONIQ fund will be profitable or will equal the performance of prior investments made by persons described in this presentation. Certain of the companies included in this report also provide services to ICONIQ Capital on an arm’s length basis.