SaaS companies still struggling with growth, but conditions continue to improve

At August’s 25th annual KBCM Technology Leadership Forum in Colorado, Scott Peterson, Managing Director, Institutional Banking at KBCM, shared some takeaways from the latest survey of private SaaS companies. Each year, the KeyBanc Capital Markets (KBCM) Technology Group conducts the survey to get a snapshot of key metrics and expectations for the coming year. The KBCM Private SaaS Survey is widely used as a budgeting and forecasting tool, with the 2023 edition downloaded by more than 3,800 industry leaders.

This 15th edition, Peterson pointed out, was expanded to comprise 50 questions, providing a broader and more complex view of the private SaaS landscape. KBCM once again partnered with Sapphire Ventures for the most recent survey, to broaden the sampling base and delve deeper with new questions.

Peterson began his presentation by looking at the valuation lag between public and private SaaS companies.

Playing catch-up to public SaaS companies

In the public markets, revenue growth for SaaS companies remains subdued at 10% to 15%, while the primary focus is on achieving and maintaining profitability. At the moment, ~33% of public SaaS companies are meeting or exceeding the coveted Rule of 40 benchmark (growth rate and profit margin should add up to 40% or more). That hasn’t trickled down to the private markets, however. For most private SaaS companies, they are typically achieving a similar growth rate of 10% to 15% but are struggling to achieve meaningful profitability compared to their public counterparts, resulting in very few companies meeting or exceeding the Rule of 40 benchmark. This has had a direct impact on private market valuations.

“This is the longest period of time that we’ve seen this lag between public and private markets,” explained Peterson, “and this lag is causing a lot of deals to not close, because you’ve got a gap between what sellers want to sell at and what buyers want to buy at. We’re seeing a lot of folks just prolonging exiting.”

Over the past couple of years, Peterson explained, companies have made a dramatic shift toward profitability. As the private SaaS market grows healthier, however, valuations are favoring organizations that are positioned for growth. Three years ago, he noted, companies on median were achieving 30% to 35% growth. Now, a similar range of companies is doing 20% to 25%, a 33% decline in growth rate.

“Today, both profitability and growth are valued, but growth is still being valued higher,” said Peterson. “The problem is that growth is still challenging. Rule of 40 is still a bit out of reach, so Rule of 30 is what you’re shooting for. But the outlook for this year is higher than where it was last year.”

A downturn in net revenue retention

Another key challenge private SaaS companies are facing is a sustained downturn in net revenue retention. Gross retention for most companies appears stable this year. However, Peterson explained that net retention, which also looks at things like price increases, upgrades, downgrades, or other types of transactions, has declined steeply since the peak of 2021.

“The bottom quartile gross retention is 80%, while the top quartile is 95%, a gap of 15 points,” Peterson said. “It’s a pretty even mix between churn and downsells that people are experiencing. Both expansion and new logo growth is just harder now as companies are trying to do more with less.”
 

Productivity targets may be unrealistic

Peterson sees a potential risk in account executive productivity, pointing out that their revenue quota targets have significantly increased since 2021. Organizations have also increased their quota attainment expectations this year to ~75% compared to the ~70% quota achievement rates in 2023, a 5-point increase.

“It will be interesting to see if that actually plays out because that directly impacts the growth projections and expectations in 2024,” added Peterson. “If salespeople aren’t able to actually hit those quotas, we could be looking at many private SaaS companies posting less than 15% growth rates this year.”
 

Headcount pressure

Another potential hindrance to growth is uncertainty around headcount. Organizations are trying to be leaner and more efficient, and have cut sales staff as part of that initiative. Peterson noted that he does not expect many of those people to be rehired. However, he does believe there may be cases of some SaaS companies overcutting, leaving some ill-prepared to capitalize on healthier market conditions.

“Sales teams were cut significantly last year. There's a concern that, when the market starts to return, the salesforce will not be mature enough to actually go after opportunities that present themselves,” Peterson said.

The artificial intelligence wildcard

In the private SaaS space, the impact of artificial intelligence (AI) implementation is going to be uneven and unpredictable. For some companies, AI may be the secret ingredient they’ve been searching for to further differentiate their product offerings. For others, AI may make their product offerings less attractive, or even render them obsolete.

“Some of the valuation issues are related to the uncertainty around AI,” said Peterson. “There are companies you look at now and wonder, ‘Do they really have a sustainable business model given the capabilities of AI?,’ and that's unclear.”

Peterson believes that providers that deliver AI enablement to organizations will be in a good position going forward.

“Their customers are not going to figure out how to use AI and build their own solutions,” Peterson added. “But those providers can deploy solutions that may take away the need for a lot of software applications.”

While KBCM’s Private Company SaaS Surveys over the past couple of years have reflected an industry riding out a storm, the 2024 edition shows organizations embracing a more optimistic attitude and preparing for bluer skies ahead. Revenue growth remains a challenge, but this should accelerate as capital investments and spending start flowing again. As the market loosens up over the coming months, the big question stakeholders will be grappling with is how to seize the opportunities — and avoid the risks — of AI as it continues to be adopted by SaaS companies and their customers.
 

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