Maximizing Growth: Learn How to Master the SaaS Profit and Loss Statement

SaaS has emerged as a prominent business model, offering unparalleled opportunities for growth and profitability. However, to unlock the full potential of a SaaS venture, entrepreneurs and executives must understand and master the SaaS Profit and Loss (P&L) statement.

There are many wrong ways to create P&L statements in tools like QuickBooks, Xero, Intacct, or Netsuite. SaaS companies should have their P&L statement structured the right way. This allows investors to easily analyze performance and executive teams to benchmark themselves with others in the industry.

 

Understanding the SaaS P&L Statement

The SaaS P&L statement is a financial report that clearly outlines the revenues, cost of sales, and operating expenses associated with running a SaaS business. It provides a snapshot of the company’s financial performance over a specific period, typically a month, quarter, or year. By analyzing the various components of the SaaS P&L statement, executives can assess their revenue streams, identify areas of potential improvement, and make informed decisions to drive growth.

We recently worked with SaaS company who bootstrapped their way to $2.5M in ARR. Even though they were successful, they didn’t know why and struggled to decide if they should bring in outside investments to scale the business. They didn’t know their Gross Margin or if Engineering belonged to the Cost of Revenue, as just two examples. They were experiencing this problem because they let a tax CPA set up their financial reporting system. This is not to say that tax CPAs are wrong, but they have a very specific view of finance that is related to the IRS and state taxes. Their view is not intended to support SaaS executives to make informed business decisions. In this case, the tax CPA had set it up so that wages were all in one line item, which didn’t allow the executives to understand how their Cost of Revenue was actually allocated across Support verses Implementation teams. Furthermore, their software was categorized as one line item including their AWS hosting.

As a result, there was no way to look at their financial statement and determine what their Gross Margin was. That is one of the most important metrics for an investor to look at when they come into a SaaS company. If you don’t have that, they aren’t likely to take you seriously as they will question the reliability of your financial statements as a whole.

 

Revenue Streams and Gross Margin

The best practice to get to Gross Margin is to focus the SaaS P&L statement to reflect the company’s different revenue streams. It needs to be clear what the different revenue streams, such as subscriptions, upsells, cross-sells, services, reoccurring fees, and miscellaneous one-time payments are. In addition to helping, you to get to the proper Gross Margin numbers it also allows you to more easily track relevant metrics like Monthly Recurring Revenue (MRR), Annual Recurring Revenue (ARR), Net Retained Revenue (NRR), and Average Annual Contract Value (ACV) which are crucial for evaluating your valuation.

 

Cost of Revenue

Cost of Goods Sold (COGS) in a SaaS company is also referred to as the Cost of Revenue. It includes the costs directly associated with providing the SaaS product or service. This typically includes costs like infrastructure, hosting fees, third-party licenses, and customer success. Analyzing the cost of revenue directly contributes to your understanding of your cash runway and whether you compare favorably with other SaaS companies.

On your P&L Statement, you’ll want to separate this out into three categories:

• Cost of Production. Hosting, security applications, or tools needed to deliver to your customer.
• Cost of Implementation. The team responsible for getting clients set up.
• Cost of Support and Renewal. The customer success team and support desk.

We recommend these three buckets because those are three distinct activities within the cost of revenue and allow for clear benchmarking on investment due diligence.

A common question that we get about this is “I have people with multiple responsibilities. How do I know if they belong in cost of revenue?” If it’s significant, an allocation may be required to push those numbers into the appropriate rows. Talk to your CFO.

 

Operating Expenses

Operating expenses consist of the indirect costs incurred running your SaaS business. It covers expenses related to Sales and Marketing, Research and Development, and Administrative Expenses. The relative percentages of these expenses will depend on the strategic objectives most immediately in front of the executive team. Knowing where those numbers are today and where they need to be as they impact the cash runway is critical to the success of the company.

Separate Product and Research in R&D. Development can be eligible for R&D tax credits, whereas pure product research isn’t. Separating those out on the income statement makes it easier for your accountant to pull out the development cost.

Separate Marketing and Sales. Marketing is focused on lead generation. Sales is focused on closing contracts. While they are two sides of the same coin, they require different resources and at times, different relative costs. This separation also allows the executive team to break down the Cost to Acquire Customer (CAC) to levels that allow for actionable intelligence.

Be Specific for General Administrative Costs. This too often becomes the “catch all” for a SaaS business—if it doesn’t fit somewhere else, put it here. If this section doesn’t separate Finance from IT and from People/HR, it’s hard to prevent expense inflation from eating into your runway.

We therefore recommend breaking this section into these four buckets:

• TECHNOLOGY. IT is vitally important, especially if you have customers that are SOC 2 or they need to go to SOC 2, then you’re going to want to see that spend.
• FINANCE AND EXECUTIVE. Is this top heavy? Does it need to be trimmed?
• PEOPLE/HR. Is this under resourced and needs to be improved?
• OCCUPANCY. Are you remote or on premises? Knowing how that impacts your bottom line is important.

 

Leveraging SaaS P&L Analysis for Growth

Mastering the SaaS P&L statement empowers business leaders to make data-driven decisions that propel growth. By closely monitoring revenue streams, understanding customer acquisition costs, optimizing pricing strategies, and managing operating expenses, companies can identify opportunities for expansion, fine-tune their product offerings, and improve customer satisfaction. Additionally, analyzing profitability by customer segment or cohort can reveal valuable insights for targeted marketing efforts and customer retention.

 

What You Really Need to Know

The SaaS Profit and Loss statement is a fundamental tool for understanding the financial performance of a SaaS business. By mastering this statement and analyzing its key components, founders and executives can unlock the potential for business growth. Whether it’s optimizing revenue streams, managing costs effectively, or refining pricing strategies, a thorough understanding of the SaaS P&L statement enables data.