Written with Cassie Young, General Partner at Primary Venture Partners
Most revenue leaders know the SaaS magic number—a powerful single metric that tells you the efficiency of your sales and marketing spend—but are you aware of the customer success magic number?
The beauty of the SaaS magic number is it tells you how much proverbial gas to pour on the growth fire. If your magic number is low (particularly if it’s <1.0), you need to re-evaluate your sales and marketing investments. Conversely, if your magic number is too high, you might not be investing aggressively enough! The CS magic number paints a similar picture about the efficiency of your CS motion; how much money do you have to invest in your CS motion to secure renewals and expansion ARR?
The CS magic number is a helpful barometer in bull markets and challenging climates alike, as inefficiencies usually signal other optimization opportunities in your business.
The elements of the CS magic number
The magic number requires four data inputs on a per-period basis (e.g. month, quarter or year depending on your business’ typical operating/reporting cadence):
- ARR of customers renewed in period
- ARR of upsells in period
- Total cost of customer success team in period
- Total cost of the customer support team in period
A lot of CS leaders might question why customer support is included in this calculation. Here’s why: similar to how Marketing is included in the “total cost of ownership” for acquiring a customer in the sales magic number, Support must be included in the total cost of ownership of retaining a customer. It’s unlikely you’ll secure a new customer without the help of Marketing, or that you’ll retain one without the work of the Support organization!
It’s important to be intellectually honest with yourself when calculating both revenue and costs; ARR should include all recurring revenue, and costs should be fully-burdened (e.g. salaries with variable compensation, benefits, prorated overhead costs such as office rent). For most companies, using a fully-burdened view will add 25%+ to the baseline salary expense.
Calculating team efficiency with the magic number
The formula for the magic number is as follows:
[ARR of customers renewed in period + ARR of upsells in period]
[Total cost of customer success team + customer support team in the period]
This will give you an understanding of how much people power and effort you must plow into retaining and expanding your installed base of customers.
A best-in-class CS magic number is 5.0+.
In other words, if you’re spending $1MM on CSMs and Support in a period, the team should be responsible for contributing $5MM toward your net dollar retention rate (from both renewals as well as upsells/cross-sells). This means not only is your customer success function more than paying for themselves, they are driving significant revenue for the whole organization.
How to make decisions with this calculation
If your number is below 5.0, you should dive into the data behind the core inputs to uncover what optimization opportunities might exist.
Here are a few places to consider:
Churn: if a high churn rate is to blame for reducing the ARR retained, you should further analyze net dollar retention rates and NPS/CSAT scores by customer segment to understand whether your product is better suited for certain customer archetypes. And in more challenging market climates, you should also have a command for any market conditions that might lead to business health churn (and react accordingly!).
Contraction: perhaps your customers are renewing, but their average contract values are shrinking upon renewal. It’s just as important to unpack the drivers of contraction as it is for churn. Are there certain products customers are dropping? Is there an underlying price/value issue? Is it just a choppy market environment where procurement teams are putting undue pricing pressure on every transaction?
Expansions: if you’re not upselling and cross-selling at the clip you want, use frameworks to help you get more organized and proactive. A CS Qualified Opportunity (CSQO) system is a great approach, but you can even use a good old-fashioned 2x2 matrix! Plot your customer “white space” on one axis and NPS on the other. If you haven’t actively upsold in your 9-10 NPS scores, what are you waiting for?
Team costs: if you’re concerned that team costs are too high to support the ARR they retain and grow, dig a level further. Look at underlying metrics such as ARR per CSM, tickets per $1MM ARR, and even your ratio of managers/leadership compared to individual contributors. And remember, CS costs are not just a CS problem! CS staff members are likely engaging in work that could be “engineered out” of their days through product enhancements, so make sure you’re partnering with product and engineering leaders in your business to beat that drum accordingly.
What you uncover and the resulting actions you take will be unique to your situation—there is no silver bullet or one single problem that plagues every team in the same way. But the CS magic number gives you a single metric to understand broad efficiency and to investigate underlying drivers from there.