This simple SaaS Business Model will help you prepare a two year forecast for your Software as a Service (SaaS) startup business.
This particular model suits a product or service business that offers a one month free trial period. A key characteristic of this business is that it has two main categories of users — those that use the service for free, and those that pay an ongoing monthly subscription fee.
The other key characteristic these businesses deal with is the ongoing loss of customers, commonly known as “churn”. Typically a percentage of paying subscribers opt out of the service each month. This is an important business indicator, and needs to be factored in to your SaaS business model.
We suggest that you follow the steps below to complete your model. These steps don’t have to be followed in the exact sequence laid out here, but all steps need to be completed before your model will make sense. Once all steps have been completed, we’ll look at the important modelling task of sensitivity or scenario analysis to get a better feel for which business drivers are most important and highest risk for your new venture.
To access the Simple SaaS Business Model” click on the big orange “CLICK TO DISPLAY MODEL” button above. The model will appear and you will notice two tabs: 1) SaaS_Scenarios; and 2) SaaS_Model. We’ll come back to the scenarios later, but first you’ll need to build your base model, so click now on the “SaaS_Model” tab.
We use the term “subscribers” in this model, but you may use another term such as users, customers, clients, etc. Regardless of the exact term you use, what we’re talking about here are the individuals or organisations that are using and then hopefully purchasing your product or service. This model assumes that initially these users don’t pay you for your service but get to use it for free for a period of time (free trial).
STEP 1a: How many new users are you going to attract each month?
Enter the number of new users into the yellow shaded cells in the Assumptions> New Trial Subscribers> Base Case row in the above model. The model has been setup to allow you to enter a number for each month of the forecast. The reason we have called this row Base Case is because later on we’ll want to vary our new subscriber acquisition assumptions up or down by a certain percentage to see what effect this has on the forecast. Don’t worry if this doesn’t make complete sense now; it will when you get to the Scenario Analysis section below.
STEP 1b: What variance from the Base Case new users assumption do you want to model?
This is a bit of red herring (for now) as we don’t want to model any variance from Base Case yet. So, put zero (or just leave blank) the cell at the intersection of the Params column and the Assumptions> Subscribers> Trial> New row.
STEP 2: What percentage of these new trial users will convert to paying subscribers once the 30-day free trial ends?
Enter this percentage in the yellow shaded cell in the Params column in the Converting row.
STEP 3: What percentage of your paying subscribers will you lose each month?
Enter this percentage in the yellow shaded cell in the Params column for the Assumptions> Subscribers> Paying> Lost row.
This is the dreaded churn percentage that all SaaS businesses need to deal with. In this model churn is expressed as a percentage of the opening subscribers that are lost on a monthly basis. For example a churn percentage of 5% means that in each month we’re assuming that 5% of the paying subscribers there at the start of the month are lost during the month.
Cost of Acquisition
The next important business driver is what’s called the Cost of Acquisition or COA. Essentially this is the average cost you need to spend to attract each trial subscriber to your product or service. It’s going to be hard to figure out this number until you start marketing your product to your desired audience via your chosen channels. Some channels will be more effective than others, and different channels have different cost profiles.
STEP 4: What is the weighted average cost to acquire each trial subscriber?
Enter this as a dollar figure into the Params column for the Assumptions> Cost of Acquisition> Cost Per Trial row.
STEP 5: Do you expect this COA assumption to change over the forecast period?
If you expect that the acquisition cost per trial user will change over time, you can increase or decrease this base assumption by plugging in an appropriate growth rate in any of the forecast months. Enter the required percentage change in the Assumptions> Cost of Acquisition> Change row.
Now you need to input your actual or expected subscription revenue per user per month. This is often referred to using the acronym ARPU (i.e. Average Revenue Per User). You may have different price points but to simplify things this model requires that you express this as a weighted average. Note that this revenue applies only to the paying users, not to total users.
STEP 6: What is the Average Revenue Per User (ARPU) per month for your product or service?
Enter this as a dollar figure into the Params column for the Assumptions> Subscription Revenue> Subs Revenue Per Paying row.
STEP 7: Do you expect this ARPU assumption to change over the forecast period?
If you expect that the subscription revenue per paying user will change over time, you can increase or decrease this base assumption by plugging in an appropriate growth rate in any of the forecast months. Enter the required percentage change in the Assumptions> Subscription Revenue> Change row.
Direct expenses consist of all the expenses, costs or outgoings that relate directly to acquiring or retaining subscribers (free and paying). Things like server costs (e.g. Amazon Web Services or Google App Engine) will relate somewhat directly to the level of user activity, and so these are considered Direct Expenses. In contrast things like rent and salaries are not directly related to the activity of acquiring, servicing or retaining subscribers, and so are classified as Indirect Expenses.
STEP 8: Other than costs of acquisition, what other expenses are directly related to servicing or retaining customers?
Enter a dollar figure per subscriber per month in the Income Statement> Direct Expenses> Other Per Subscriber row. This amount is multiplied by total subscribers (trial plus paying) to calculate the amounts for each month of the forecast.
In getting to a bottom line view of your Operating Profit (also referred to as Earnings Before Interest and Tax or EBIT) almost all other expenses are thrown under the heading Indirect Expenses. The exceptions are things like interest expense and income tax expense, which are considered non-operating items.
In most businesses the largest category of indirect costs are salaries and wages. To reflect this fact, this model presents Indirect Expenses in two categories — Salaries and Wages, and Other Indirect.
STEP 9: What salaries and wages and other employment expenses will your business incur?
Enter the salaries and wages amounts for each month for each employee or type of employee in the yellow shaded cells in the rows underneath Income Statement> Indirect Expenses> Salaries and Wages. Additional rows can be added here by clicking on any row and then clicking the insert row icon from the toolbar or from the drop down arrow that appears when you hover over any row label. Also, the existing employee roles listed can be changed simply by typing over the row labels that are there.
STEP 10: What other indirect expenses will your business incur?
Enter all other indirect costs and expenses for each month in the yellow shaded cells in the rows underneath Income Statement> Indirect Expenses> Other Indirect. As for the salaries and wages section, additional rows can be added here by clicking on any row and then clicking the insert row icon from the toolbar or from the drop down arrow that appears when you hover over any row label. And, the descriptions of the expense lines can be altered simply by typing over the labels that are there now.
Once your model has been built you’ll want to interrogate it and let it help you answer some key questions about your new venture. This is where modelling with a computer really kills the old paper napkin approach to forecasting your business!
To get going with this, first click on the “SaaS_Scenarios” tab.
What you’ll see now is a very simple matrix of 3 columns labelled A, B, and C, and a number of rows split under the headings Assumptions and Operating Profit. The columns represent alternative scenarios that are put through your model one at a time.
The inputs that can vary for each scenario are the business drivers listed underneath the Assumptions heading. In this case, these are:
- New Subs Variance — the percentage variance (up or down) from the Base Case number of new trial subscribers
- Conversion — the percentage of new trial subscribers that convert to paying customers
- Churn — the percentage of opening paying subscribers that cancel each month
- COA — the weighted average cost to acquire each new trial subscriber
- ARPU — the weighted average revenue per paying subscriber per month
For each set (i.e. column) of these assumptions the resulting Operating Profit for years 1, 2 and total are shown below under the heading Operating Profit.
The first thing you should want to do is prove to yourself that the results presented in this SaaS_Scenarios tab are consistent with your base model. To do this plug in the values of the 5 inputs from your base model into one of the three columns of the SaaS_Scenarios tab. For example, if you assumed a 20% conversion rate in the base model, plug this assumption into the Conversion row of column A in the SaaS_Scenarios model. Now do the same for the other 4 key assumptions in the SaaS_Scenarios model. What you should find is the the Operating Profit results for each of the years, and in total, now reflect what you see in your base model. Note that nothing you do in the SaaS_Scenarios tab affects anything in the SaaS_Model. Sure the SaaS_Scenarios tab uses the model you created in the SaaS_Model, but it sits off to the side and is purely there for analysing alternative scenarios in a quick, easy, yet informative way.
If you play around with various input values for the 3 scenarios you’ll soon discover some interesting things and be able to answer a bunch of really important questions about your business. We’ll leave it to you to plug in various scenarios a see what it tells you about the range of possible outcomes for your business. And if you want to model more than 3 scenarios, just click on the New Column label to the right of column C, and type a name for your 4th scenario. Of course you can also rename A, B, and C to a something more meaningful to you.
The one thing we would recommend is that you run a worst case scenario so that you know what you can expect if everything turns out at the bottom of your ranges. Finally, run a best case scenario so that you keep focused on the potential pot of gold at the end of your startup rainbow.
Good Luck! If you have any comments or questions feel free to shoot us an email.
Model IDs: 292018, 313002