Business model innovation
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18-Sep-2014 -
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Transcript of Business model innovation
Agenda
Business Model Innovation CAC and LTV
The SaaS/Recurring revenue business model
Reducing CAC (Cost to Acquire a Customer) The new rules of Customer Acquisition
Increasing LTV (Lifetime Value of a Customer)
Conclusion: Lessons Learned
Anatomy of a Startup
Unmet Need New Technology
The Old Model
The New Model
Unmet Need New Technology
EntertainmentNew Business
Models
Consumer Technology leads the Enterprise
Business Model Innovation:The Major Change Agents
The Internet
Web 2.0
Social Networks
Mobile Web
GoogleSEO/SEM
Enableslow-costcustomeracquisition
B2C Breakthrough Companies
The Fastest Growing Companies ever: Zynga Groupon Gilt
All use Social and Viral techniques for customer acquisition
The Key Elements behind “Business Model”
Web-based companies make this abundantly clear:Spend some money to drive traffic to your web site
Come up with a Monetization strategy Transactions Subscriptions Ads Virtual Goods Etc.
The Key Elements behind “Business Model”
Cost to Acquire the Customer (CAC)
Profit from that Customer For subscription revenue businesses = the value of that
customer over their lifetime (LTV) This number takes into account the COGS or cost to
serve
Startup Killer There is a common problem:
An out of balance Business Model
MonetizationMonetization(LTV)(LTV)
Cost toCost toAcquire aAcquire aCustomerCustomer
(CAC)(CAC)
Entrepreneurs are over-optimisticEntrepreneurs are over-optimistic
CAC for a Web driven business
Input VariablesTotal Web Visitors 10,000 SEM cost per click 0.50$ Conversion to Trial % 5%Trial conversion % 10%No of Sales & Marketing Staff 3Cost per employee per month 16,500$
Flow Qty. Conversion %Total Paid Web Vistors 10,000 Trials 500 5%Customers 50 10%
SEM Marketing Spend 5,000$ Total Headcount Costs 49,500$
Cost of Customer AcquisitionWithout headcount costs 100.00$ With headcount costs 1,090.00$
CAC for a Direct Salesforce
Sales Sales Eng Inside SalesTeam composition 1 1 0.5On target earnings 230,000$ 140,000$ 90,000$ Salary Cost 230,000$ 140,000$ 45,000$ Salary + Overhead 310,500$ 189,000$ 60,750$
Total Team Cost 560,250$ Avg. team Failure Rate 25%Adjusted Team Cost 747,000$
No. of Marketing people 0.5 Average cost per person 200,000$ Marketing Programs Spend 150,000$ Total Marketing Costs 350,000$
Total Sales & Marketing spend 1,097,000$ No of deals per team per year 10Cost of Customer Acquisition 109,700$
Annualnumbers
What we are looking for
MonetizationMonetization(LTV)(LTV)
Cost toCost toAcquire aAcquire aCustomerCustomer
(CAC)(CAC)
A well balanced business modelA well balanced business model
The Balancing Act
MonetizationMonetization(LTV)(LTV)
Cost to Acquire Cost to Acquire a Customer a Customer
CAC)CAC)
• Viral effects• Inbound Marketing• Free or Freemium• Open Source• Free Trials• Touchless conversion• Inside Sales• Channels• Strategic partnerships
• Field Sales• Outbound Marketing
• Recurring Revenue• Scalable Pricing• Cross Sell/Upsell• Product line expansion• Lead Gen for 3rd
parties
• High Churn Rates• Low customer
satisfaction
Business Model Disruption in B2B
Open Source Use Free Software to acquire customers cheaply
When done right, free creates viral spread Monetize a portion of the free customer base
Business Model Disruption in B2B
SaaS Rent software to customers monthly Remove complexity (no IT) Lower buying barriers
No big $ purchase decision Easy to cancel if not working No IT means that the business buyer can purchase
Business Model Disruption in B2B
The Low Cost Sales Model
The Touch-less Conversion
Freemium
Recurring Revenue
One Salesperson Selling 5 Customers a month @ $1000 per month each Means an additional $5,000 in new additive revenue
every month
Turbocharger: Adding Salespeople increases monthly
new bookings
Churn
Churn Rate plays a huge role in success
1% to 2.5% churn per month is acceptable
Higher than that, you are filling a leaky bucket Need to understand why you have low customer
satisfaction and address the problem
How Churn affects LTV
Customer lifetime in months = 1 / Monthly Churn Churn of 1% = 100 months lifetime Churn of 2% = 50 months lifetime Churn of 5% = 20 months lifetime
Impact on LTV for $1,000 average subscription Churn of 1% = $100,000 LTV Churn of 2% = $50,000 LTV Churn of 5% = $20,000 LTV
The Big Issue with SaaS
Investments to acquire customers are all upfront
Revenue from each customer comes in slowly
Creates a cash flow problem in the early days
But once through the valley of death, cash flow is amazing
My rules for CAC/LTV balance in a SaaS model
LTV CAC> 3x
Months to
recover CAC
< 12 months
Required for Capital Efficiency
Another key SaaS benefit
Rapid development Only one version of your code base at all customers
Rapid customer feedback on new features
Immediate deployment of new features to all customers
Other Recurring Revenue Benefits
Predictability Highly valued by Wall St
Future revenue and cash flow for an acquirer
Buying Behavior has Changed
“Please understand that I get dozens of these types of messages a week. I simply do not have time to read them, dig into them, follow-up on them, or reply to them. The most effective solution to this problem is for me to ignore the messages, which is what I usually do. …
… Finally, a small comment. As a customer, I find this type of approach to sales to be largely annoying to me and unproductive for you. We learn far more about what we want to purchase by searching the web, looking for customer references in blogs and forums, word of mouth, and by finding white papers on your site that concretely describe solutions to problems we are having.”
CIO of Large Pharma Co.
Buying Behavior has Changed
Outbound Marketing: Annoying to your customers Expensive Increasingly less effective
What is the new process? Google Search Web Site Reviews Blogs & Social Media
Influencers Trials or Free software / services Avoid sales people
Requires Inbound Marketing thought processes
HubSpot: Inbound Marketing
Remarkable Content
Write a Blog
Create content that is REMARKable Educational Humorous Controversial
Optimize that content for Search Keywords used by your buyers
Use social media (Twitter, Facebook, etc) to build a following If the content is good it will spread virally
A Crucial Insight
Never sell or promote your product in your blog
Instead Educate and Entertain Focus on the areas of greatest interest to your buyers
The Power of Free
Wired Magazine: Free! Why $0.00 Is the Future of Business Free is dramatically different to even $1 If done right can lead to viral spread
Examples: Open Source software (JBoss, Asterisk) HubSpot’s WebSiteGrader
Monetize some portion of your free customer base Use of a free product/service develops a level of trusted
relationship Makes it easier to sell something to them
Using Engineering for Marketing
Freemium
Dropbox Example Get you hooked for free Storage slowly increases to the point where you need to
pay But by then they have established trust
And it is hard to move your data that is shared with others
Virality
Often hoped for, rarely achieved
The best businesses: Virality plus Monetization
Examples:– Google– Gilt.com– Zynga
Entire Blog post devoted to this topic: www.forentrepreneurs.com/lessons-learnt-viral-marketing/
Old World evolving to a New World
Charge foreverything(includingon-site trials)
Free Trials
Free ProductMonetize a Fraction of Custs
Old World evolving to a New World
New World Give things away to optimize spread Large Footprint of customers = Great brand value Price low to get fast decisions
Old world Optimize pricing to extract the most “But the customer is quite happy to pay that much”
Key realization CAC is one of the highest P&L expense items Optimal Pricing limits spread Optimal Pricing damages CAC
The Low Cost Sales Model
Web & Inbound Marketing Free product, or Free Trial
Insides Sales
Examples SolarWinds Constant Contact LogMeIn JBoss HubSpot
The Touchless Conversion
ZenDesk
Common Funnel Metrics: 10% of visitors do a trial 20% of trials convert to paid
Extraordinarily scalable
Extremely low cost
Free Trials require different Product Thinking
The product is your salesperson
Extreme focus on: Ease of installation Ease of use Clear instructions on how to test (short videos, etc.) Fast proof that it works
Enables you to reach the SMB market
Not economically feasible in the past
Now opens up a vast new market
In many ways a better business than Enterprise Software
Need to Build a Sales & Marketing Machine
Automated Top of the Funnel Middle of the Funnel (lead nurturing) CRM
Scalable
Instrumented
Clear understanding of Costs and Returns
Visitors
Trials
Campaigns to drive traffic
Closed Deals
Conversion %
Conversion %
Overall Conversion %
Metrics are crucial for success
(by lead source)
Experimentation and A/B Testing
Constant Experimentation New Lead Sources New Messaging New Pricing New Product Features
A/B Testing immediately reveals what is working
Sales Complexity
How I assumed the two would relate
A rough estimate of CAC versus Sales Complexity
Rough Estimates of Cost of Customer Acquisition (CAC)
The relationship is roughly exponential
Clearly adding Human Touch dramatically
increases costs
Sales Complexity
CAC (logarithmic)
10x
10x
10x
High CAC requires higher pricing
Higher pricing unfortunately leads to greater approval complexity
To get deals through requires high scores: Product value Customer Pain Urgency to get something done
Sales Complexity
Value / Pain / Urgency = LTV (logarithmic)
High CAC, requires high scores for: Value, Pain, Urgency
Sales Complexity
Value / Pain / Urgency = LTV (logarithmic)
Unprofitable:LTV < CAC
Blue Zone 1Blue
Zone 2
Sales Complexity
Value / Pain / Urgency = LTV (logarithmic)
Red Zone 1Red
Zone 2
AmberZone 2
Amber Zone 1
Sales Complexity
Value / Pain / Urgency = LTV (logarithmic)
Green Zone 1
Green Zone 2
Green Zone 3
Sales Complexity
Value / Pain / Urgency = LTV (logarithmic)
Sales Complexity
Value / Pain / Urgency = LTV (logarithmic)
How SaaS changes Sales Complexity
Levers you can use to move from Red to Green
Make it easy for customers to sell themselves
Make the first decision to work with your product easy Simple product Free versions, Free Trials, Open Source
Remove Complexity from closing the Sale Remove IT (SaaS) Eliminate committee decision making
Make the first financial commitment easy $10,000 or below for enterprise sales $250 per month for very small business SaaS
Sales Complexity
Value/Pain/Urgency
Able to leverage the Internet revolution
Human Costs dominate:Old world business model
What can happen when you get this right
SolarWinds 2009 Revenues: $116 million EBITDA: $60 million
Others: JBoss, LogMeIn, Constant Contact, Salesforce.com, etc.
52% operating margins
The Balancing Act
MonetizationMonetization(LTV)(LTV)
Cost to Acquire Cost to Acquire a Customer a Customer
CAC)CAC)
• Viral effects• Inbound Marketing• Free or Freemium• Open Source• Free Trials• Touchless conversion• Inside Sales• Channels• Strategic partnerships
• Field Sales• Outbound Marketing
• Recurring Revenue• Scalable Pricing• Cross Sell/Upsell• Product line expansion• Lead Gen for 3rd
parties
• High Churn Rates• Low customer
satisfaction
The Highlights
Breakthrough Business Model Open Source A great example of the power of Free 5 million downloads
The first challenge: How to monetize
The second challenge: Conversion While keeping CAC low Solution: Build a Sales & Marketing Machine
The Original Brainstorming Session
The First Blockage Point
5 million users had downloaded JBoss But none had given their names
The problem: email registration in front of download reduces
conversion rates significantly
The Solution Look for something that those developers really wanted
JBoss had been earning $27k per month for documentation Solution: give this away, in exchange for email address
JBoss - Sales & Marketing Machine
PhoneCall
LeadNurturing
InsideSales
WebLeads
WebScoring
EnterpriseEnterpriseRolloutsRolloutsEnterpriseEnterpriseRolloutsRolloutsSuspectsSuspectsSuspectsSuspects Closed DealsClosed DealsClosed DealsClosed Deals
Metrics: The End Goal
WebWebactivityactivityscoringscoring
Tele-Tele-marketingmarketing
Tele-Tele-salessales
Using the model to work backwards
To do $4m in the month: If Average Deal Size is $10k Need $4m divided by $10k deals to reach target = 400 deals Means 1,200 deals being worked in Inside sales (400x4)
Know that each rep can work 60 deals at a time, means 20 reps Means 3,600 telemarketing contacts (1,200x3) Means 14,400 Raw Leads (3,600x4)
WebWebactivityactivityscoringscoring
Tele-Tele-marketingmarketing
Inside-Inside-salessales
The next challenge: Increase LTV
Multi-pronged approach Add services to the subscription (beyond just support)
Key service was JBoss Operations Network Broaden the product line and upsell
JBoss Enteprise Middleware Suite (JEMS) Scalable Pricing
4 axes to drive pricing higher
Result Drove average deal size from $10k to $50k While maintaining the same pipeline flow and
conversion rates
The Results
Before venture financing 2003 $2m
Early 2004 – venture round closes
Revenue Growth: 2004 $11m 2005 $26m 2006 on plan to do $65m
JBoss Summary
Business Model disruption Gave the product away entirely free Monetized support & management
Low CAC Leveraged free and virality to acquire non-paying customers
Sales & Marketing Machine Careful study of customer motivations Low cost Sales model Excellent Metrics
Scalable pricing model
Lessons Learned
Business Model Innovation The new trigger for startups
Understand the CAC / LTV balance Look for the breakthrough techniques for acquiring
customers Free products / services
– Use R&D as a marketing tool Free Trials Viral Social Etc.
Lessons Learned - (continued)
Understand the new buying behaviors Think Inbound versus Outbound
Build a Sales & Marketing Machine
Look for the breakthrough techniques
Look for the next evolution in the business model
This is all obvious
Vision is easy
Execution is the hard part
All comes down to hiring great teams
For More information
Visit my blog at www.forEntrepreneurs.com