September 8, 2020 | Blog
Pointerra is a company that Track Record News reported on 1 April 2020 called “entrepreneurs who built a successful USD1bn geospatial technology company, join a new geospatial software venture.”
Since reporting the company’s share price has gone up from 2.4c to as high as 50c, a 2,000% return (20x) investors.
Pointerra is a Software-as-a-Service (SaaS) company, which is listed on the Australian Stock Exchange (ASX) under the ticker 3DP (ASX:3DP).
This article shows investors how to perform data-driven business analysis on a SaaS company.
Please note that the analysis below was completed in late June (using data and estimations from the quarterly update at 31 March 2020). This was before the company received investment from Bevan Slattery (Australian tech billionaire) and recent company financial and operational updates.
The purpose of this article is to demonstrate the early work done in June, following the article in early April, validates my method for identifying top tier B2B SaaS companies based on their operational metrics and unit economics.
Pointerra is a great early example of how successful industry entrepreneurs leverage their existing experience to help guide and build sustainable, high growth businesses with the potential to produce large free cash flows in the future.
Below I will provide a detailed break-down of Pointerra using the most important operational metrics to compare its trajectory to other comparable Software-as-a-Service (SaaS) companies.
I have chosen to use this analysis and not update it because it shows what investment worthy B2B SaaS companies look like before they potentially take off. Also, we know how well 3DP performed 6 months later.
Lastly, I have provided graphs that benchmark 3DP’s most important B2B SaaS operational metrics using my own proprietary data that I use to assess companies and make investment decisions.
Because it is rare to find a SaaS company at such an early stage with top tier operational metrics to be trading on a stock exchange.
Pointerra currently has a number of operational metrics in the 90th to 75th percentile of global venture backed SaaS companies.
This is the reason that I have chosen to use Pointerra to demonstrate how, using only publicly available information, an investor can perform Venture Capital (VC) like analysis without even speaking to the company’s management team. The internet is an endless library, which means all the data that VCs use to compare companies is available to you too! (I will provide links to all of the relevant tools and data sources as we progress.)
Please note that much of this analysis relies on assumptions drawn from publicly available information. The point is to demonstrate how anyone can assess SaaS companies in the same way the best professional investors do.
Ok, so what are the pertinent (most important) operational metrics and unit economics?
There are too many. Literally every day you can find a new metric that can be used. However, like everything, the Pareto principle applies. The Pareto Principle is the 80/20 rule, 80 percent of the output comes from 20% of the input.
So, if you follow this logic, 20% of the metrics make up 80% of the analysis. This is why I only focus on 5 metrics when analysing an early stage B2B SaaS company (it’s too often too early for unit economics and there’s limited data). I believe there is a serious diminishing rate of return on analysis, which often leads to paralysis.
The 5 metrics are:
There are a number of additional metrics that I tend to look at, however, only if the company is mature enough to have the appropriate data. For example:
Lastly, once I am happy with the 5 metrics, then I’ll undertake qualitative analysis (e.g. transparent superiority, network effects, competitors, Net Promoter Scores (NPS), Go-To-Market (GTM) strategy – bottoms up, top-down or both, etc).
Most investors start with the qualitative aspects of a SaaS company, but from experience (very costly), using operational data first allows an investor to take a more objective position before using qualitative information to ‘colour’ an otherwise black and white picture they may have about the company. Therefore, I strongly advise investors to start with quantitative data first.
Gross Profit Margin (GPM)
Gross Profit Margin (GPM) is a commonly misunderstood concept when it comes to technology companies. Software companies enjoy very high margins, usually above 70%.
Unfortunately, Pointerra’s GPM have never been publicly disclosed, so we will have to guess.
I believe Pointerra’s GPM is above 85% because they do not have any professional services, they only generate recurring revenues.
Also, they have a bottoms-up and top-down GTM strategy, resulting in a more cost effective customer acquisition strategy. This complements their top-down (enterprise) sales team. This hybrid acquisition model is the optimal strategy and one that the likes of Atlassian have pioneered.
This means Pointerra’s GPM are in the 90th Percentile of SaaS companies at its current stage (sub 5m ARR).
Please note that the square on each candle in the graph below denotes the 50th and 75th percentile range, and the top and bottom of the stick denotes the 90th and 25th percentiles respectively (90th percentile being the best, 25th percentile being the worst).
GPMs are one of the most important factors of a SaaS company because the higher the margin the larger the free cash flows it will generate in the future, which amount to EBITDA that can be re-invested to continue to grow or paid out in dividends (the latter will not happen for a really long time though!).
The higher the Gross Profit Margin the better the quality of revenue, which often attracts higher multiples on revenue.
Recurring Revenue Growth Rate
Pointerra has been reporting Annual Contract Value (ACV) for 6 quarters. It started reporting recurring revenues, total ACVs, at around AUD1m and within 12 months had tripled to almost AUD3m.
As you can see from the graph below, Pointerra is between the 75th and 90th percentile of SaaS companies globally for companies with revenues between AUD2.5m and AUD5m.
However, we have no idea if it will continue on the 90th percentile trajectory or trend downwards.
Thankfully there is a rule of thumb that can help us if we have the data (which we do!). This rule of thumb is called ‘Growth Persistence’, which stipulates that next year’s growth rate is likely to be 85% of what this year’s was. If we use a more conservative rate, approximately 70%, we can see that Pointerra’s growth rate decays from 200% to around 50% over 4 years (refer to graph below).
It’s important to remember that this could be much lower or slightly higher, but there are too many variables and randomness to really know. The purpose of this exercise is to get a feeling for roughly what could happen based on comparable data so we can make more informed decisions as an investor.
Naturally, the next question is what this growth decay means for Pointerra’s recurring revenues. I have modelled this in the graph below.
As you can see, despite the growth decay, Pointerra’s recurring revenues reach approximately AUD25m.
Again, this is just a model that helps understand what we need to consider for such growth to occur. There are so many variables to consider.
However, what we do know is that to achieve this type of growth Pointerra needs to have a business model and distribution engine (sales and marketing) that is efficient and productive.
Fortunately, there are a few operational metrics we can use to get a feel for the growth efficiency of a SaaS company. The 3 that I use are:
SaaS Quick Ratio
The SaaS Quick Ratio was made famous by Venture capitalist, Mamoon Hamid, who created it as a simple way to evaluate the growth efficiency of early-stage SaaS startups.
This is the formula you use to work out the SaaS Quick Ratio:
New ACV + Expansion ACV
Lost ACV + Contracted ACV
So, what’s a good ratio?
Based on Mamood’s experience investing in early-stage SaaS companies, he came up with a rule of thumb that high-growth companies should shoot for a Quick Ratio of 4. This means that for every dollar they lose in a month they add 4.
“That’s super important — to have efficiency early on. Get the product market fit right. It’s really good hygiene. Then that quick ratio thing, maintain a quick ratio of greater than four, aspirational.” – www.saastr.com
Over the last 5 quarters, I have estimated that Pointerra has an average SaaS Quick Ratio of 7.4, which means for every dollar of ACV they lose each quarter they make AUD7.4.
This puts Pointerra in the 90th Percentile for Quick Ratio performance with a ratio above 5, which can be seen from the graph below.
What is Pointerra’s estimated SaaS Quick Ratio over the next few years?
Using the growth persistence and sales and marketing efficiency estimates, I modelled what might happen when Pointerra scales in the graph below.
Why is this ratio so important?
Because it shows the health and viability of the business. As it scales, the Quick Ratio will drop further and stabilise (which you can see in the graph above as Pointerra scales).
Further, the InsightSquared diagram below demonstrates the trajectory of a Monthly Recurring Revenue (MRR) growth SaaS company with 3% monthly revenue churn and a Quick Ratio of 4.
Sales and Marketing Efficiency (Magic Number)
The SaaS Magic Number is a widely used formula to measure sales and marketing (S&M) efficiency. It measures the output of a year’s worth of revenue growth for every dollar spent on sales and marketing.
Said differently, for every dollar in S&M spend, how many dollars of ARR do you create.
In my opinion this is the biggest mistake investors make when assessing SaaS companies. The first thing I do when someone asks me to look at a SaaS company is to head straight to the company’s S&M spend. Nearly every company I look at creates very little revenue from their S&M spend, but for some reason everyone seems to ignore it and then wonder why the company never lives up to the hype.
In the early stages of a SaaS company where it is focused on acquiring new customers (instead of focusing on growing existing as a priority), I believe the Bessemer Customer Acquisition Cost (CAC) Ratio is the best indicator of sales and marketing efficiency than the Magic Number.
The Bessemer CAC Ratio can be calculated using the following formula:
Current Quarter’s New ACV x Gross Profit Margin
Previous Quarter’s S&M Spend
Essentially, if the ratio is above 1 (>1) then the company should invest more into S&M, and conversely if the ratio is below 1 (<1) then the company should evaluate its GTM strategy.
Based on my analysis, 3DP had an quarterly annualised Magic Number of 2.5, which you can see from the graph below puts them in the 90th Percentile.
What might happen over time to their Magic Number ?
Pointerra is in a good and bad position, good because they are distributing efficiently, but bad because they are under investing in S&M. The reason this is bad is because if you under invest today, this slows down your growth in the future. Therefore, if Pointerra is to grow at 50% or above at AUD25m ACV in 2023, then it seems they need to continue to invest in S&M.
On the whole, it is better to be in this position than to have a ratio of less than 1, because you can spend more and manage the ratio. It stands to be seen whether or not Pointerra will put the foot down and drive their ratio closer to 1. They could do this by adding more than 3 sales personnel each year (which is the number and timeframe I used that is demonstrated in the graph below).
Sales Remuneration to ACV Ratio
The last thing I look at to determine growth efficiency is how much ACV a sales person brings in for every dollar they are paid.
The reason I use this metric is that if sales people are not hitting their quotas, then it tells you 2 things, 1 there is a marketing problem (lead generation) and 2 there might be a lack of fit for the product in the market.
This is a difficult metric to calculate, not mathematically, but from a data perspective. Rarely can this information be found, however, given the simple nature of Pointerra’s business model (namely that they only generate recurring revenue, no professional services/non-recurring revenue).
So to calculate this I used the following formula:
Current Quarter’s New ACV
Previous Quarter’s S&M Salary Spend
The graph below shows the quarterly Sales On Target Earnings (OTE) to new ACV ratio estimates based on quite conservative salaries and a very loose ramp up period.
So, in the September 2019 quarter I estimated that sales wages were AUD150k, and 12 months later in March 2020 the new ACV for the quarter was AUD480k, which gives a ratio of approximately 3 times. This means 3DP has a Sales Representative OTE to ACV ratio in the 7th Percentile.
I should have used previous 12 month S&M expenses instead of last quarter because Pointerra’s enterprise sales cycles would likely be around 12 months). However, I chose to use 6 months to be more conservative.
These conservative estimates are better than exaggerating and using inflated numbers because you are only misleading yourself.
If we use the ratios we have calculated and refer to the benchmark graph below, we see that Pointerra is in the lower percentile groups, which is fine because we have used overly conservative numbers.
It is important to remember that for such an early stage company what you want to see is that there are enough leads for sales to close. From this point the company can crank up their marketing efforts and hire more salespeople.
What happens overtime as Pointerra hires more salespeople (3 per year)?
The graph above tells us that using the overly conservative numbers, the ratio stabilises at 2.
However, this is rather meaningless at this stage. Forecasting with essentially made up numbers like these is just a directional guide.
What happened after June?
Pointerra has gone on to reach approximately AUD5.5m in ACV (recurring revenues) as at 31 August 2020.
This means it has actually re-accelerated from a growth perspective, which should not come as a surprise given its remarkable operational metrics and unit economics. It has also gone on to hire more sales staff to continue to grow, so we can expect further growth from here.
Disclaimer: At the time of publishing this article, I do not own shares in Pointerra (ASX:3DP).
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