"Transitioning to Series B and Making the Cut" with Scale Ventures' Stacey Bishop @Saastrannual

Please welcome to the stage Stacy Bishop, partner at Scale Venture Partners. Hello everyone, good afternoon at this SaaStr event. I'm gonna talk about how do you raise that round beyond the Series B, so Starting out, congrats, you made it to your Series B round. You are one of the lucky 15% of companies that raise seed funding that has actually made it to their Series B. And that also means that you're highly likely to get an exit at this point, whether it's an IPO or some type of M&A exit. But there's only a small chance that you will get that IPO exit. And I'm going to go into that more today here about what does it take to get to that next level of funding. So the fundraising path. You may have already raised your Series A and your Series B, and you've kind of got a sense that it's a little bit of a different process for each one of them. The Series A round is typically, you know, it's all about the founding team. It's all about the target market, the product vision. Investors are really keen to hear a lot about that. When you get to the Series B, there's a lot more of a deeper dive into the management team, Investors are trying to assess the founding team's ability to attract talent and keep great talent on board. Customer traction is key. You're looking at, is there some kind of pull in the market? And then obviously ARR growth really comes into play. By the time you get to the Series C, sometimes entrepreneurs are kind of shocked because investors are sort of like not asking a lot about the founding team and the product vision. They want to know all about the numbers. And the reason for that is they're looking to the numbers to tell them whether or not this is taking off. So I'm gonna go into that more in terms of what are those numbers that everyone's looking at. And one of the things we highlight is what we call the 4 vital signs. That's revenue growth, sales efficiency, churn, and cash burn. Those are the things that investors are really looking at. So we'll do a deeper dive into like what specifically investors are looking at for those numbers. But one other thing I just wanted to highlight that sometimes entrepreneurs aren't aware of is when you're starting out and you're, you know, in that $0 to $5 million funding category, most of your investment is going into product. But that shifts as time goes on. And most of that spend is now in sales and marketing. Once you're at like $10 million ARR, more than half your spending is going into sales and marketing. So it's critical to optimize on your sales and marketing spend. But going back to the 4 vital signs, you know, you've raised the Series B. It's like, what's next? What do I have to do to get those on track? First, we'll highlight, you know, growth rates are super high when you're starting out. You know, 900%, it's insane. You know, those early days, the growth rates are crazy high. But over time, those growth rates do come down. And they come down quite a bit. But there is still a minimum level of growth that you need in order to raise funding. So while the growth rates come down and there's still, you know, this is highlighting between the top decile growth rates and the top quartile and medium growth rates. While it looks like in those out years there's not much difference, if we were to zoom in, there's actually quite a bit of difference between those categories. So here's what I want to highlight, the minimum growth requirements that you need in order to be what we'll call venture fundable and potentially still on the IPO track. And I'm just going to step back a little bit and describe this. So obviously this varies in size by what you need. And for those of you who are baseball fans, you might know Mario Mendoza and the minimum batting average that he had to have. I mean, he— it was.200 and he for 5 years, he fell below.200. But it's been kind of known in professional baseball, you got to bat.200. So what does that mean for venture growth? What do you have to— what do you have to grow in order to still get a VC to put money into your company. And what we did is stepping back, we looked at— we calculated that minimum level of growth by looking at what typical venture investors require in the future, in a few years out, what typical multiples are at that stage. You know, typically a 30% public company will need— trades at about a 6x revenue multiple. And then you back into that by looking at this concept called growth persistence. And what growth persistence is, is if you're, for example, growing 100% this year, then next year you're gonna grow 85% of that. So you'll be growing 85%. The year after that, you'll be growing 72.5%. And we've statistically looked at data and determined that's what happens with growth rates. They decline over time and, you know, they'll start at 100 and go down from there. So basically what we've determined is, say for example, you are a $10 million ARR company. You need at least an 80% growth rate at that point in time time in order to attract venture funding. And we have had many companies in our portfolio, and they will struggle below that level, but above that level, they can generally get funding. And, you know, at $20 million ARR, it's about 55%, and it goes down from there. You kind of really can't fall much below 30% because then you kind of fall off the IPO trajectory, if that's what you want. But, and if you're not on that level of growth rate at that time, you've got to look at the cash you have on hand and kind of make it last as long as possible and get to cash flow breakeven. And if you don't have line of sight to the cash flow breakeven, we generally suggest to a company when you're 6 months away from running out of cash, you've gotta look for an exit, like either merge with another private company or you really are running that risk of running up against a wall. But we're seeing a lot more companies kind of move what we'll say control their own destiny. Growth rates will come down, but they don't need more capital and they can grow. We've seen actually some companies have great exits where maybe they have 3 or 4 years in a row of 40% growth, which is great as you're getting bigger and still have a really good exit. So I want to also highlight, going back to the 4 vital signs— oh, another thing I want to highlight here is, however, growth has fallen off significantly from the 2021 timeframe. So, you know, historically speaking, this data set that you see here goes back to 2018, which it was around, you know, for a top quartile company, it was around 4 times. You know, median company was around 3 times is what the typical company in that, you know, $1 to $10 million ARR band. We saw it go up in 2021 where, you know, we were saying 5x is the new 3x. This is what you need to have. Now it's come back down again. We're down at like the 2x level. I think we'll normalize more at the 3x level right now. But given what's kind of been going on in the tech market and it's hard to sell, the growth rate is lower. But that being said, to my earlier point, you want to make sure you're above those certain, you know, 80% for the minimum level of growth in order to get the venture funding. Just wanna— so sales efficiency is a very important metric over time. You've probably heard a lot about sales efficiency. To my earlier point where sales efficiency is, you know, sales and marketing is a huge percentage of your spend. So optimizing this is key. So you want to see about a 0.7 or better to kind of stay on that IPO path. However, this doesn't change with company size. So whether you're $1 million, $20 million, $40 million, you want to see around that 0.7 in the net sales efficiency. Similarly for churn, and we focus on gross annualized churn. So, you know, we're saying somewhere in that 10%, -10% range is about what you wanted to know. No worse than that. You can make up for that with upsells, but upsells can only get you so far. So you really want your gross churn which is just, you know, the revenue of today, who comes back and spends with you again and doesn't buy more. You want to keep it where no more than 10% of your ARR goes away from year to year. And then the last vital sign I want to highlight is what we call the burn multiple. And this looks at overall efficiency, not just sales efficiency, but overall operating expense efficiency. So basically it's What is your operating income or burn if it's negative over your net new ARR in that given quarter? And obviously over time that comes down, um, but you want to make sure that you're optimizing on this as well. And I think in this day and age, given where we are in the market, this has become ever so more important. Um, so I want to highlight this. It's somewhat of a complicated chart here, but this is just taking growth rate and your burn multiple and putting it on a 2x2 chart. And so what I'll say is obviously the green box is where you want to be. You want to be in high growth, low burn. That's a hard place to do because it's hard to grow fast without spending a lot. What we saw in the last couple of years was a lot more of the yellow box where companies were going crazy fast, but they were also spending. And it's in a world where capital is easily accessible. It's easy to raise money, easy to raise money at high valuations. That was an okay strategy as long as you could have line of sight to the next capital. And so what we're seeing now in the current market is there's a lot of companies in that— who were in that yellow box and they moved down to the red box. So growth fell off a cliff, but they still have the high burn rate. So what you're seeing now in the market, at least from our experience in kind of the later-stage venture market, in the Series B and later, companies are rapidly trying to get over to that gray box where they're trying to lower their, their spend and growth might take a hit. But again, to my earlier point, they will survive and get through it. And maybe there's a chance they can move back up to that, that green box again. I wanted to highlight. So this is a portfolio company, Box. You guys may all know it's a public company. We were actually investors in 2010. In 2010, they were in that high growth low burn bucket. That's when we invested in them. They were able— we invested, it was, you know, they had only raised maybe $15-20 million at that point when we invested in them. But then after that, they were able to raise a ton of money. Capital was cheap, it was available, so they went for it. And their burn rate went up, and so did their growth rate. So they were the hypergrowth, you know, hyper spend kind of category. And then what happened is You know, for— and this is more of a Box-specific thing, but it became a very competitive market. I mean, you had all the big players in there. You had Microsoft. You had Microsoft bundling it. It was hard. So while they were a public company, they kind of— growth rate fell down, but yet their burn was still high. So as you can see, this is like literally a decade of the Box, you know, their trajectory. And so they had— they spent about 3 years in that red box where they were in that high burn, low growth category, and they managed to move themselves over to the lower growth but low burn. And they're just in a much better place for it now in terms of— and so we're seeing that playing out in the private markets time and time again. Companies kind of going through this trajectory. And I wouldn't be surprised if you potentially hear about some companies that were in the green box to the yellow box box, but drop to the red box, but they don't take care of business and cut their burn, and they end up, you know, you might— they don't make it. Because unless— because the capital markets have changed and you need to have a good story that has good growth, but low burn in terms of getting there. I wanted to highlight another— the chart doesn't make it look quite as compelling as it felt at the time, but ExactTarget was an email marketing company. We invested in 2009. They were acquired by Salesforce a few years later. For $2.5 billion. They were actually in the last recession. They tried to go public. They couldn't raise money. So they kind of were hanging out in that lower growth, lower burn category, but they had great sales efficiency. So one of the reasons why we invested in ExactTarget was we felt if you put a little more money into sales and marketing, you can actually accelerate your growth. So they were a company that was like $75 million run rate, 30% growth, and declining They took some capital from venture investors like us. They actually invested it in sales and marketing, and they saw their growth rate go from 30% to 55% at that stage of company because they had the good sales efficiency and they were able to put to work. So it doesn't quite show it here, but they were able to move up from, you know, a little bit in the, in from the lower growth to the high growth bucket. So it is possible. I could see in a few years from now where companies are, you know, they've been hanging out in that gray bucket, that lower, lower right quadrant. And if they get— they have the sales efficiency metrics, they will be able to raise and push themselves back up into a higher growth box. Wanted to go back to the point about, you know, if you do have a high burn rate, one of the easiest things to fix— I keep harping on it— is your sales efficiency. In fact, I think there was another talk here all about this. How to get your sales efficiency better. Because that's the bulk of where your spend is going. You know, once you're a $10 million revenue company, run rate company, you are spending the bulk and you can't really cut, you can only cut products so much. But you really can optimize on your sales efficiency by just making sure your rep productivity there. I mean, that's probably a whole nother talk talking about how to improve that. But it is one place to do it. And if you're not seeing it, you're not seeing that 0.7 or better, you should cut back on your spend in order to achieve that. But then I just want to say, even, you know, as a result of all of this, the growth rate on the left, we showed that earlier, has fallen. Valuations have fallen too. They're down about 40% from the peak of 2021. But fundings are still happening. Not to the degree that they were, but they are still happening. And they're still above what we call the pre-pandemic levels. The valuations are still better than they were, but they are coming down. All right. So in summary, just to highlight a few key takeaways of what we've talked about here. You know, the first one is, hey, you made it to Series B. You are 99% likely to have an exit at this point. Only 10% of those are IPOs, but 99% of you, once you get to Series B, are going to have an exit. So that's great news. And you're, you know, that small percentage of people who made it to this stage. Stage. Growth rapidly falls off at, you know, as you grow. It's kind of an obvious point, but it's just worth pointing out that you can't triple forever. At some point it falls off, but there is that minimum level of growth that you need in order to keep attracting venture funding. Late-stage company spend, I keep harping on this, if you spend significantly more on sales and marketing, so that is the key to optimizing that to build a big company in the end. Fourth, you know, a key to surviving in this market is, you know, lower your burn multiple. Make sure the cash you have on hand lasts. We kind of call it this ripcord rule in terms of like if a company has to get to cash flow breakeven, how quickly can you make that happen? Oftentimes, sadly, it's headcount that you have, you know, once you've cut the marketing spend and all of that, you got to look at the headcount spend. That takes time to do that, unfortunately. You know, usually you can start maybe with just slowing hiring and then, you know, avoiding the cuts until you have to. But you want to make sure you're in control of your own destiny and not reliant on the venture markets to carry you on. So focus on that burn rate. And then lastly, you know, we're seeing kind of growth trends and everything sort of returning to normal. Some people said— someone thought that like we were going to get back to 2021. That was the abnormal period. Those were insane. Insanely high valuations, insanely high, you know, the pace with which everything was getting done was insane. It's not like that anymore. Today is much more normal. Maybe not quite where it was, but it's much more normal in terms of from the metrics standpoint. And most importantly, there's still funding out there. There's plenty of capital. We're actively investing right now. It's not like it's a doomsday. You will definitely be able to raise money. You just have to to pay attention to all these metrics that I highlighted and make sure that you're— it's a much more efficient growth than it was just the spend to get the growth. And please reach out. So I'm, as we said, Scale Venture Partners. We invest in Series A, Series B enterprise tech companies. So please reach out to us if you're interested. We're still actively investing. We've done a number of investments this year. So That's it. So now for any questions you might have. I know it's getting late on a Friday afternoon, so yeah, come on up.

Oh, hi. I want to know what's your favorite sales efficiency metrics? I know there are a few of them.

Yeah.

If you could point out your favorite and what would be the drawbacks of each compared to each other.

Yeah, so we really like net sales efficiency, which is just looking at your sales and marketing spend to your net new ARR that you've generated. You know, there's a— there's— we were actually one of the first behind the magic number that looks at revenue. And the reason why it looks at revenue is because it's nor— it's to normalize it so you can look across more companies because ARR data is hard to get. But the way we look at our companies is the net sales efficiency, which I'd said that 0.7 or better is That's what we're looking for there.

Thank you.

Yeah, we just look at— you look at it, what the new ARR in that quarter over the prior quarter spend. Yeah, prior quarter, because it's basically the prior quarter that allowed you to get to that.

Hello. Is there a point at which you start to look at what your most likely exit path is gonna be and then whether it's something like an IPO or a private acquisition, do you change what you do depending on the path?

Well, I think most companies, you know, when we're funding a company at the Series A level, we're hoping they're all going to go to the, to the IPO. I mean, every company we're underwriting, it's like, let's go for the IPO. So you're kind of always trying to shoot for that IPO until you're starting to see that Mendoza line of growth. When you start to see the growth rate fall off of that, That's when you have to kind of make adjustments because it's— the growth rate and your ability to continue to raise money is the biggest single determinant in your ability to invest. If you have any inkling that you might not be able to raise that next round, that's when you have to pull back on the spend. And that's when you kind of fall off the IPO path. It's because once that growth rate falls off a certain point because of what I was saying with the growth decay, you know, if you grow 100% this year, you're only gonna grow 85%. If you're growing 30%, your growth is gonna fall off. Very hard to maintain a growth rate. So once you kind of see it fall off those numbers, then you have to— then you're targeting more like an IPO. But I highlighted the ExactTarget story because they were probably on that path to declining growth rate where they might have fallen off the IPO trajectory, and they were able to get back on it because they had the efficiency metrics that was attractive for venture money to come in and fund them.

Hi. So as a later-stage investor, as you get closer to that IPO exit, right, how do you think about the ARR multiples as you price these rounds? Because the assumption is that eventually they will have to converge with public market multiples. So if you do like a Series C or D, like, how do you think about the time horizon where that convergence would need to play?

Yeah, I mean, when we're underwriting companies, we do a full model where we forecast out you know, depending on where it is, you know, maybe the next 7 years. And then we use a very standard multiple. So, you know, historically speaking, we didn't have it in this talk, but the typical company, it's 6 times revenue, you know, say current revenue for about a 30% growing company. That's kind of the standard public SaaS company today. So when we're forecasting out, we use that in our out years for what we think the exit would be, and then you back into that. And we're always looking if we've got certain return thresholds thresholds that we want to see. And if the price we're paying doesn't— obviously there's so many variables that go into it, but the price we're paying doesn't allow us to get the return we want in the future, then we might not invest in the company.

Thank you. And maybe a follow-up question, like, you know, at the Series C, Series D stage where you mentioned 99% of companies are likely to have some sort of exit, how do you think about the returns that you're trying to achieve? Because like at Series A, you might want to shoot for like a 10x Exactly. What are you going for at Series C?

Yeah, I mean, Series C, you might at that point look for a 3x+ in kind of the next, you know, 3, 4 years is where that— where you might be seeing. But you don't want to go below that because there's just the cost to the capital and, and whatnot. So that's, that's what you might be targeting for what we call the later stage investment. And then earlier, you're looking for that 10x+ at that stage. Other questions? Oh, another one over coming over there.

Yes, this makes a lot of sense for like traditional SaaS companies, but how do you think about underwriting like more like innovative or new industries? So think like crypto last year or generative AI now. Like, does someone just make the market and you just kind of go from there?

Yeah, I mean, I think crypto, we weren't— we did not invest much in the crypto. A lot of the generative AI companies are kind of like the cloud, I mean, you still are generating, you're still getting customers, or maybe it's, I mean, there's still financials. I mean, eventually a business has to generate financials, and so you still can apply some of this. But yes, I suppose where it maybe gets a little different is consumer companies. There might be sort of different valuation metrics that you might look at. So this, this is all geared towards, you know, an enterprise, mostly recurring revenue business. Is kind of most of these metrics, which is typically what invest— we invest in. But the generative companies still fit within that. Yeah. Hi. I'm wondering how you look at sales efficiency. And so like if you are struggling with that metric, like maybe what are some things that you've seen companies do in order to improve it? Yeah. Yeah. Well, so oftentimes there's— there can be a lot of different factors, but one can be Perhaps you've overhired in sales and the sales reps aren't, don't have enough leads. So then that means you've got to kind of do something on your lead funnel to generate more leads for those salespeople. Or maybe you have to cut a few salespeople. I mean, the way we kind of look at it, we sort of describe it as like, and this is for very traditional models. I mean, if you're doing a PLG, it might have different metrics of like you want to see, you know, so many leads coming in. The conversion rate of those leads and whatnot. But for the typical sales model, we always want to— you always want to hire that next rep when your last rep was still productive. So you want to see your reps hitting certain levels of quota. You want to see things like your— the quota being 3 times what that rep is being paid. And you want like something probably at least 60% of your reps hitting quota. Potentially higher. But that's why that sales efficiency metric, it's just a good summation of all of that put together. Okay, thank you. Great. Yeah, another one.

Hey, thanks for the talk. So as a revenue per sales rep, what are the top percentile of your portfolio doing versus the bottom?

In terms of revenue per rep, I would probably have to get back to you on those exact numbers. I, you know, I mean, I'm gonna— might be a little dated, but I can remember like a mid-market rep, you want to kind of want to see $800K of new ARR going up to, you know, enterprise rep $1.5M. So somewhere in that range, but like I said, you want it to be about 3 times what your— what's that rep costing you. So you want to see somewhere in those ranges for that data. But we've got a lot of resources. I could probably get back to you with a very specific answer on that.

Great. So I'll be sending you an email.

Sure.

Aaron Jones.

Yeah. All right. Very good. Any other questions? All right. Well, great. Well, thank you, everyone. It was great to have all of you here. Please follow up if you have other questions or you are interested in getting funding. So thank you, everyone.