Companies of all shapes and sizes depend on detailed financial models, but these tools are uniquely valuable for SaaS organizations and their leadership.
Many SaaS business models revolve around subscription-based services. Rather than recording one-time sales, SaaS companies must develop financial models to capture cash flow generated from a variety of payment structures associated with short- and long-term contracts.
The added complexity emphasizes why SaaS organizations must develop tailored financial models that give leaders the insights they need to drive sustained growth. Review this 5-step guide for recommendations as you improve your organization’s SaaS financial model.
G-Squared Partners has supported hundreds of SaaS clients as they develop more impactful financial models, offering wide-ranging financial services from CFO consulting to outsourced accounting. Schedule a call today to learn how our financial solutions can best fit your organization's needs.
What is a SaaS Financial Model?
A SaaS financial model is a strategic financial forecast that organizations use to predict revenue, allocate resources, analyze business scenarios, and measure profitability. Leadership teams rely on these models to track key performance indicators (KPIs) related to growth and performance benchmarks.
Considering that 4 out of 5 startups and small businesses fail due to poor cash flow visibility and management, the need for a reliable financial model can not be overstated.
Important metrics captured through a SaaS financial model include:
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- Monthly Recurring Revenue
- Average Revenue Per User
- Churn Rate
- Customer Acquisition Cost
- Customer Retention
- Customer Long-Term Value
- Total Active User Base
SaaS organizations benefit most when leadership proactively uses the data found in their financial model to anticipate the future state of their business. These insights allow SaaS companies to expand their business with a sustainable, long-term approach.
How to Build a Better SaaS Financial Model
Agree on a shared format before your team starts developing a SaaS financial model. The starting point for most SaaS organizations is the three-statement model. This format combines the income statement, balance sheet, and cash-flow statement into a single, dynamic tool that clearly describes the company’s financial health.
Once the format has been settled on, prepare to start building your organization’s financial model. Follow the steps outlined below to help your team work through the process:
1. Assemble Relevant Business Data
Historical business data is an extremely important asset for building out a SaaS financial model. Once this financial data has been assembled, use it to fill out income statements, balance sheets, and cash-flow statements.
Most companies have access to substantial historical data. It’s another question, however, if that data is in a format that can be readily transformed into financial statements.
Financial statements can’t help your organization if they’re reporting inaccurate data.
Organizations must develop a solution to transform their data for building financial statements or reach out to an outsourced expert service for help turning their unstructured data into a valuable asset.
2. Decide Assumptions
To successfully forecast future performance, your team must make some assumptions about how they expect the business to perform across key metrics like revenue growth, churn rate, and customer acquisition costs.
Existing financial data serves as a starting point, but the value of the model increases when the assumptions behind it are anchored in more nuanced expectations for the business’s future performance.
Here are a few examples of conversations your team can have to crystalize the financial model’s assumptions further:
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- How predictable is new revenue? - Using historical data, organizations can determine how quickly and how often sales teams close new deals. This average can be used to improve assumptions around annual growth.
- What is the true cost of organizational change? - This is especially true for early-stage SaaS companies that invest greater amounts of resources into building out their sales and engineering teams. Organizations of all sizes, however, must account for how onboarding new talent will affect business performance in their financial models.
- Have all discretionary expenses been captured? - Inaccurate financial models lead to missed goals and uncomfortable conversations with investors. Honest conversations about discretionary expenses like marketing, branding, business development, and paid advertising must be held ahead of deciding assumptions for the forecast.
- How predictable is new revenue? - Using historical data, organizations can determine how quickly and how often sales teams close new deals. This average can be used to improve assumptions around annual growth.
This healthy mix of data-backed inferences and realistic expectations is key to developing assumptions that inform an effective SaaS financial model.
3. Start Forecast Calculations
Once assumptions have been determined, use the financial model to forecast revenue and other key performance indicators for multiple scenarios.
Forecast your best- and worst-case scenarios. Test several scenarios in between. Your goal is to discover the exact performance thresholds that will keep your business moving in the right direction. That way your team won’t be caught off-guard by excessively rosy projections.
Based on your discussions and analysis during this stage of the process, your company might find opportunities to make your earlier assumptions more grounded.
4. Determine the Final Layout
Once the first iteration of a SaaS financial model is completed, the next step is to determine how to communicate the information it contains most effectively. Developing layouts for each potential audience may be more effective than presenting the entire model to each stakeholder.
For potential investors, for example, the layout should emphasize the three main financial statements including the P&L, balance sheet, and statements of cash. For an executive, the focus may instead be on presenting insights that might be useful to assess the efficiency of the resources that are planned to be deployed.
Regardless of the audience, incorporate a financial dashboard into the layout that makes it easy for any audience to follow key business metrics and assess the organization’s overall performance.
5. Fine-Tune with Feedback
SaaS financial models are at their best when the assumptions behind them are both aspirational and achievable. Arriving at this point may require some trial and error.
Once the model is built, share it with business leadership for input. Be sure that each stakeholder agrees that the historical information and forecast accurately reflect the business.
There is also substantial value in determining whether the assumptions behind the original forecasts were based in reality. Were projected margins too high? Were sales goals too conservative? Was the average contract value inaccurate?
Rather than waiting an entire year to check your work, begin the process of fine-tuning the model as soon as enough data is available. SaaS financial models are living, breathing documents. As more information becomes available, the data and underlying assumptions of the model must be updated.
Improve your SaaS Financial Model with G-Squared Partners
Between recurring revenues and relatively high margins, SaaS remains an attractive business model for many. But it’s a business model that’s often distinct from more traditional businesses, and a business’s financial model must account for that.
Detailed financial models provide SaaS companies with a better understanding of business performance and the confidence in their finances needed to build strong relationships with investors.
Working with a proven financial expert like G-Squared Partners can help your organization build a more informative SaaS financial model. Our professionals have significant expertise in helping hundreds of SaaS companies manage their finances. Start building a better financial model today by reaching out to our team.
