Efficient Growth and Making Hard Decisions Fast
Reflecting back on Uber’s abrupt shift on May 9 ( CNBC-Uber Report ), is this email to employees going to amount to this cycle’s RIP Good Times presentation? (The prescient PowerPoint famously circulated in 2008 by Sequoia to its portfolio companies.)?
Hopefully, managers and boards are paying close attention and acting fast. The last few years have been so frothy in pursuit of growth at any cost that the required changes to get a business healthy will need to be dramatic in many cases.?For the Unicorns the fall and required changes will be severe.?For more disciplined companies that have a playbook ready to go and are well-capitalized, the shift will be less dramatic and the medium-term opportunities will be significant (think Dara K’s shift at Uber).?For younger management teams who have not been through a recession, this will be a very difficult transition and they will need a lot of help.?And finally, to the luminaries who saw this coming, and actually did something about it, bravo.?
A quick call out to Box CEO Aaron Levie:?BOX has been an underperformer since it went public in 2015, trading at single-digit revenue multiples as compared to Cloud peers who, in some cases and until very recently, were valued at 40x and 50x revenues (OKTA).?Box is not a company that you hear about much, but they have been methodically working away this entire time, improving and expanding their offerings, now nearing $1bln in revenues.?Perhaps most importantly, they have been applying financial discipline to their operations in order to achieve mid to high teens growth and strong cash flow on their road to Rule of 40 [Annual Rev Growth Rate % + Profit Margin (can be OpIncome %, EBIT %)].?Since March 1 the company’s stock is up 3-4% while its peer group of Cloud companies is down 30-50% (SNOW is down ~50% since March 1 and ~70% from its recent high of $401.9; OKTA is down 50-70% over the same periods).?There is a great interview here of Aaron Levie ( McKinsey - Aaron Levie ) retelling Box’s journey.?Solid execution.?(I do not own any stock! Just a fanboy of strong execution.)
Sid Tandon, one of the McKinsey partners that interviewed Aaron, recently wrote an article on valuations pointing out examples of companies getting rewarded for “efficient growth” (e.g. Rule of 40) vs. just growth; see here:?McKinsey on Efficient Growth.?(Again - fanboy.) What does efficient growth look like??In contrast, what it does NOT look like is a company with 50-60% Sales & Marketing spend (% of revenue) growing at 40% whereas NRR is already at 125%.?Chasing an incremental 15% growth by spending 50-60% on S&M (less the portion of S&M being spent to get the renewal and upsell).?Those metrics are clearly inefficient, but this has been a typical playbook the last few years in terms of chasing growth at any cost.?Those times are over.?A rule of thumb for efficient sales spend for SaaS companies is to recover new customer acquisition costs (sales and marketing) in under 18 months (and assuming >100% net retention ongoing) vs. what in the above case is likely a multiple of that in terms of the recovery period.
Board rooms across tech are asking themselves, should we pull back on spending and realize a lower growth rate in order to get the business “right-sized” for efficient growth? The answer is decided – Yes, and with urgency.??
Finally, this is really hard stuff in practice as it impacts companies, employees' livelihood, and more.?In my experience, very few hard decisions in life get better with time. Once you know you've got to make a hard change, take it head-on and move fast. Lean on your board, your advisors, and your team; get all the inputs you need. But move fast.