Every investment involves risk and SaaS acquisitions are no different.
Skip due diligence and you expose your flanks – you might as well toss a coin and hope for the best.
Do your research, however, and you’ll know what to acquire and when. Instead of pouring money down the drain, you’ll be planting the seeds of phenomenal growth.
So here are the three main areas to focus on before making an offer. Read them carefully and next time you’re ready to buy, you can cherrypick from the best in the market.
Churn (and other important metrics)
Churn is often measured as a percentage of lost revenue. While this can be the result of a net customer loss, it might also be because customers are downsizing or canceling add-ons and so on. Churn is a useful yardstick for measuring customer loyalty as well as the quality of the product, so low churn is the first sign a business is worth acquiring.
While all businesses aspire to a negative churn rate (a net increase in customers), size and other factors impact results. To assess churn, you need a reference, so compare your prospect with similar-sized businesses in the same segment. Also, consider churn over time. If your prospect beats the competition, you could be on to a winner.
Two other important numbers are LTV (Lifetime Value of Customer) and CAC (Customer Acquisition Cost). LTV indicates the total possible income from one customer, including subscriptions, upselling, cross-selling, and other revenue streams. A high LTV can offset revenue losses as well as identify which buyers to target for the best ROI.
Unless the LTV is particularly high, CAC should always be low. It’s easy to overspend on marketing (if Adidas can, you can) in the hope it’ll equal growth, and a high CAC alongside a low LTV and/or high churn rate should ring alarm bells. Always review churn, LTC, and CAC together so you can assess underlying problems with the business.
Code: who wrote it, who owns it, and is it any good?
The next area for review is the software. Unless you’re an engineer, you’ll probably need to hire one or ask a friend to help out here. Even without being a coder, you should, at the very least, understand how the product works on a high level. A modern, well-organized, and well-designed codebase is easy to spot, and is the first indication the development team is strong.
Speaking of the development team, you also need to understand who owns the IP. It might be the existing team but maybe contractors and other vendors have a stake in it, too. While multiple parties owning portions of the IP isn’t necessarily bad, it does complicate things a bit. Ensure contracts exist to back up everyone’s claims to avoid problems once the business scales and life-changing money is at stake.
Customers: the ultimate litmus test
The right attitude towards customers can cover a multitude of sins. If the product is little more than an MVP, 24-7 customer support can both reassure and delight customers while they await improvements. For more established businesses, great customer experiences both reduce churn and encourage referrals and positive reviews which in turn reduces the CAC.
But that’s not all. Finding out what customers say about the business often reveals problems that aren’t listed on a spec or balance sheet. There might be issues even the founders aren’t aware of. If there’s a backlog of support tickets, for example, or a breakdown in communication, there’s a good possibility you’ll be buying a business on the verge of customer collapse.
To avoid that, read every review, every testimonial, reach out to customers, and try the product yourself. See how customer service reps have handled problems in the past. Find out what people are saying on social media. If all you’re reading is good news, or at the very least, positive outcomes to challenging situations, you know your prospect has put customers first.
Whether you’re a first-time buyer or a serial entrepreneur, SaaS is ripe for flipping. But if you don’t know what to look for, or focus on the wrong things, you could be throwing good money after bad. So take my advice – do your homework on the three areas above and you can be confident your next acquisition will be a profitable one.