Magic number dashboard

How much annual recurring revenue (ARR) a company generates for each dollar spent on sales and marketing

Inputs
Units
Outputs
Magic number
The SaaS Magic Number formula measures the net growth and effectiveness of a SaaS company’s marketing efforts in converting into revenue growth.
vs. market benchmarks
1.01
Bad Good Excellent

What is a SaaS Magic Number?

A SaaS magic number metric measures the effectiveness of a SaaS company’s sales and marketing efforts in converting expenditures into new revenue growth, specifically in terms of ARR. Practically, it provides a clear indicator of how efficiently a company is able to generate new ARR from each dollar spent on sales and marketing. 

Think of it as a litmus test for sales and marketing efficiency. This metric is not simply about the amount of money invested but about ensuring that each dollar is used effectively and strategically to drive a company’s growth. 

Why Is the Magic Number Important?

In the SaaS world, customer acquisition comprises a significant part of expenses. Understanding and optimizing this metric becomes key to long-term success. Plus, it matters a lot for investors when comparing similar businesses.

In the case of entrepreneurs, the SaaS magic number can help:

  • Optimize marketing expenses: Analyzing the magic number allows you to highlight problems with marketing and start searching for the roots of these problems. It helps ensure that investments are directed towards the most effective areas, thereby lowering the overall customer acquisition cost. 
  • Guide resource allocation: It signals when to focus on strategies other than acquiring new customers. Pay attention to expanding existing customer accounts or improving conversion rates. 
  • Enhance campaign effectiveness: It identifies if your current marketing strategies are flawless or flawed. If there are flaws, it may be wise to consider adopting new tools or providing additional training to your team. 
  • Promote revenue sustainability: It assists SaaS companies in predicting the sustainability of their growth rate by comparing the Customer Acquisition Cost (CAC) to the revenue generated from customers within a given timeframe. 

As for investors, they view the magic number as a crystal ball—a metric that helps evaluate a company’s growth potential. It allows them to see how well a startup is turning its sales and marketing spend into new revenue. The higher the magic number, the more scalable and profitable the venture. It’s like a secret handshake, signaling to investors that here lies a company with high operational efficiency and a solid understanding of market dynamics. 

Thus, the SaaS magic number isn’t just a figure; it’s a vital benchmark that helps entrepreneurs make informed decisions not only on how to manage their sales and marketing efforts but also on how to convince investors to allocate resources to their venture.

How Do You Calculate the SaaS Magic Number?

To calculate the magic number of SaaS, you need the following financial data:

  • Revenue (current quarter)
  • Revenue (previous quarter)
  • Sales & Marketing expense (previous quarter)

As soon as you’ve got it, let’s get down to business:

  1. Calculate the change in revenue: Subtract the revenue of the previous quarter from the revenue of the current quarter to find the increase or discrete in revenue. This shows you how your revenue has changed (grown or declined) over the quarter. 
  2. Find out ARR: Multiply the difference by four to project the growth over a year.
  3. Use the sales & marketing expense: The amount of money you invested in getting new customers in the previous quarter (this is your CAC).
  4. Calculate the magic number: Divide your ARR (step 2) by the sales and marketing expense (step 3). This will give you your SaaS magic number.

Check out the SaaS magic number formula below: 

SaaS Magic Number formula

To help you visualize the process, let’s get into some practice. 

Imagine the following scenario:

SaaS Magic Number

Bessemer CAC Ratio vs Magic Number

Both the Bessemer CAC ratio and the magic number are key SaaS efficiency metrics. Yet, they assess efficacy from different angles. The Bessemer CAC ratio focuses on the cost-effectiveness of acquiring new customers, while the magic number puts revenue growth efficiency on a pedestal. 

This is in broader terms, yet let’s delve into details. 

  • Purpose and use: The Bessemer CAC ratio helps to evaluate a company’s S&M efforts in the long run. It gives a crystal-clear view of how customer acquisition investments contribute to the overall company’s growth. Conversely, the magic number is instrumental for short-term assessment. It provides immediate feedback on how recent S&M investments impact revenue growth. 
  • Calculation timeframes: The Bessemer CAC ratio leverages annual recurring revenue data, while the magic number uses quarterly data. 
  • Limitations: The Bessemer CAC ratio’s blind spot lies in its potential oversight of the future value of money, focusing solely on revenue generated over a year. Meanwhile, the magic number may lead to misinterpretations of S&M efficiency due to seasonal sales fluctuations.

As we see, both metrics provide valuable insights into sales and marketing efficiency. Yet, they serve different purposes. 

How to Interpret and Benchmark Your Magic Number

Interpreting the results isn’t rocket science as long as you know what each of the SaaS magic number benchmarks says about your sales efficiency. 

SaaS Magic Number result

➡️ If your magic number is less than 0.75

It suggests significant areas for improvement in your business model. Your S&M costs may be too high. Your product/service might not resonate with your targeted audience. Your churn rate might be too high because of product immaturity, leading to a drop in ARR. Or you could spend too much on acquiring new customers with your pricing strategy not covering all these expenses. The reasons are various, but the outcome is the same: your company’s S&M spending doesn’t generate sufficient revenue to justify further growth investments.

➡️ If your magic number ranges from 0.75 to 1

It means you’re on the path to high sales efficiency. Thus, it’s time to decide if more growth investments are relevant. Consider your profit margin, free cash flow, and cash runaway. It will help you understand if you want to expand your sales team or increase your marketing investment. The decision should be tailored to your business context.

➡️ If your magic number is greater than 1

Congratulations! It’s time to ramp up your sales and marketing efforts. Crossing this threshold showcases that you’ve found a solid product-market fit. Thus, feel free to expect reasonable returns on your customer acquisition costs. By this point, you’ve likely reduced your monthly payback to a manageable level and can funnel more investments into content marketing, SEO, and digital advertising.  

So, what is a good sales efficiency ratio? Everything is simple; the bigger the figure, the better. As a prominent figure in the SaaS world and the inventor of the SaaS magic number, Lars Leckie said

“Fundamentally, the key insight is that if you are below 0.75, then step back and look at your business; if you are above 0.75, then start pouring on the gas for growth because your business is primed to leverage spending into growth. If you are anywhere above 1.5, call me immediately.”

How to Improve Your Magic Number

If your magic number isn’t hitting the mark, there’s no cause for desperation. Lots of strategies exist to not only improve it but also to propel your S&M initiatives to new heights. So, instead of spraying and praying, check the valuable insights below. 

Typically, there are two vectors you need to pay attention to boost your magic number. The first one is marketing efficiency, and the second one is churn reduction. 

➡️ Focus on marketing efficiency: 

  • Spend marketing dollars wisely. Use data analytics to identify the most promising customer segments and target your marketing campaigns on them. Plus, personalize your marketing messages based on the audience’s preferences, demographics, and behavior. 
  • Track ROI regularly. It will help you understand which strategies are working and which you need to adjust. 
  • Marketing automation tools can make significant waves. Utilize them effectively, and you’ll spend less time on repetitive tasks and get more time on strategy and creativity. 

➡️ Churn reduction:

  • Provide proactive customer support. Do regular check-ins to anticipate and prevent possible customer issues beforehand. 
  • Communicate the value proposition of your product all the time. Do it with the help of tutorials, onboarding materials, or regular updates. Customers should always have a clear answer to their why question.
  • Engage with customers. Foster a sense of community among them. Create forums, social media platforms, or even groups to encourage interaction and loyalty. 
  • Feedback matters. So, ensure that you gather customer reviews and use this information to make valuable adjustments. 

These tips can help your company enhance its SaaS magic number as they empower marketing efficiency and reduce churn. Remember, these steps are just the tip of the iceberg—there is much more to explore. And if you don’t want to sweat it, contact our expert team, and they will help you catapult your company’s growth.

FAQ

How often should I update the magic number on the dashboard?

It’s better to update the magic number every quarter. It will allow you to stay tuned about the effectiveness of your sales and marketing approach.

Should I base my magic number on previous results or future predictions?

You should base your magic number on past performance. It will ensure the most accurate assessment of your sales and marketing efficiency.

What if I don’t have all the data needed to calculate the magic number?

Start with the data you have and focus on collecting more complete information for further calculations.

Does a high magic number guarantee business success?

A high magic number is a positive sign. But, no, it doesn’t guarantee business success if viewed as a standalone metric. As you need to consider other factors like market conditions, customer satisfaction, product quality, etc.

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