3 Ways to Increase SaaS Valuation with David Newell

Quiet Light advisor and SaaS expert David Newell shares the three most important things you need to successfully scale your SaaS business and prepare to sell it for the most money, best deal terms, and highest number of offers.

SaaS businesses receive the highest multiples in the online industry, so if you’re a found of a software, plugin, or app you want to check out this webinar to learn how you’re probably leaving money on the table when it’s time to sell.

You’re going to learn:

• Metrics like MRR, ARR, and acquisition that drive value
• The importance of reducing risk
• Tips on eliminating scaling restraints
• How does SDE differ from EBITDA
• Strategies for reducing churn
• The growth strategies to avoid because they destroy your value

TRANSCRIPT

**Chris:** Cool. Well, welcome, everyone. Thanks for coming and joining us for this AMA webinar with David.

If you have questions, feel free to drop them into the chat window. There’s a question-and-answer box there. The easiest place to do it is in the Q&A box, but if you want to just do it in the chat window, that’s fine as well.

We had a couple of questions come in in advance from people who sent their apologies that they couldn’t come today. We’re going to post this up on our website and on YouTube after the event is over.

But the success of the event is totally predicated upon the kinds of questions that you ask and your enthusiasm in asking them. So, we really encourage you to drop some of those into the Q&A window or into the chat window, and we’ll get to those as best as we can.

This event is brought to you by Quiet Light. We help entrepreneurs build, buy, and sell online businesses for six, seven, or eight figures.

A big part of what we do is educational. We do one of these webinars or AMAs every month. We speak at conferences. We do podcasts. We work to help founders plan for a successful exit.

We believe that it’s better to plan to exit than to decide to exit when the circumstances are not ideal. If you’re planning six to 12 months in advance, you’re in a really good position to exit for the amount that you choose, to a buyer that you select, at a time that is right for you.

We were founded in 2006. We’re entrepreneur-led and entrepreneur-focused.

I’m Chris Moore. I’m the Chief Marketing Officer of Quiet Light. I’ve been with Quiet Light for a long time in varying capacities, and one of those was just going to trade shows and whatnot.

A few years back, we were at a trade show, and the founder of Quiet Light, Mark, came to the group and said, “Oh my God, we got David. We got David. He’s coming over to us.”

There was a lot of excitement. I’m a marketing guy. I didn’t know who this David was, but I’m so happy to know him now.

David Newell came over to us from a competitor. I don’t know if we can say—he’s assisted in some really big deals, and I also don’t know if I can say the nature of those. But I think we can say you helped Rob Walling sell Drip, correct?

**David:** Yeah.

**Chris:** Among others.

He started as an investment banker and worked in M&A for Citigroup for four years before switching over to, like I said, a competitor. He became their Director of Brokerage Services—or I think it was Director of Brokerage Services?

**David:** Yeah.

**Chris:** Great. He sold over 75 online businesses, from SaaS to e-commerce to content sites.

He joined us a couple of years ago. We’ve been super, super, super thrilled to have David with us. He’s been everything that was advertised, and the excitement was warranted.

He also owns Inner Truth, which is an online platform for self-discovery where he teaches people how to find their passion, purpose, and path in life.

So, welcome, David.

**David:** Thank you, Chris. It was a stellar introduction.

**Chris:** I get enthusiastic about working with you, man. We have 15 advisors now—14 or something like that. We’ll see if any of them are on here right now, but I do have my favorites, guys that I love to hang with.

We’re getting back to in-person events here soon. I’ll be excited to see you there.

So, welcome to the AMA. Again, if you have questions, feel free to drop them into the Q&A box or into the chat window.

We’re going to start with a few that came in in advance of the event and hopefully have a really nice, robust discussion. We have a hard out at, I think, one o’clock Eastern, so we’re going to try to get through as many as we can in that time.

Okay, so the first question I have—a lot of people really like to focus on, “What mistakes do I need to avoid?”

So, what’s the number one mistake, David, in terms of how people prepare their business for sale, or even just in scaling their SaaS business? What’s the number one mistake they make, or maybe the two or three common mistakes?

**David:** Yeah. Well, the biggest thing starts, for me, almost at the start of the journey—or rather, getting out of the decisions that you have to make.

Most bootstrapped SaaS businesses that we look at over medium- to long-term horizons start with an entrepreneur who saw a problem, usually something that annoyed them, decided to code for it themselves, solved that problem for themselves, and then looked to potentially commercialize it.

They start to roll it out to family and friends, start to go slightly further than that, get to 100, 200, 300 customers, and all of a sudden they have a business that started as an indie project and is now turning into a very serious venture.

All of that is entirely appropriate and the best way to really get going to begin with.

But what I find is that you then run into a major problem of key-man risk, in terms of the founder being the sole owner and developer and really having the knowledge of the entire source code and apparatus of the business.

Now, that’s fine. But really, to get into a position where you can actually exit the business, you have to get out of it as fast as possible.

I find that the difference between the really good-quality exits and the exit-minded entrepreneurs are the ones who can be non-emotional and pretty clinical about getting themselves out, really documenting what their previous role was in terms of the source code, documenting the infrastructure and architecture of the source code, and getting it handed off to a developer they trust very quickly.

It’s almost like giving away your baby right away.

I find there are varying degrees of stickiness and resistance toward doing that, as well as the capability to do that.

What happens is, you very quickly end up with a business that’s doing 100 or 200K in ARR, or 300 or 400K, and the owner is feeling like they need to keep jumping in around critical issues or need to keep getting involved and developing the business more and more.

When, actually, they really need to be stepping out as fast as possible into a more visionary, business-development role and bringing in a very good contract developer or a CTO, or someone to do that.

I think this is something—you mentioned Rob Walling and the Drip situation—it’s something that he got very quickly when he started Drip.

He knew. He built that business expertly to hand off. He had Derrick come in as the CTO early on. Rob really helped with the scaffolding in the first six months but then stepped out completely from the codebase and focused on nothing but scaling and developing the overall business operations.

Everybody wants to exit at different times of the journey. For some people, going out at 300K ARR, or 800K ARR, or a million in ARR—they’re all entirely different and appropriate times based upon your personal timeline, your emotional investment, and whether you care anymore about the business.

But your options and the multiple that you’re going to get narrow massively if you’re still stuck in the business.

That’s one of the biggest problems to solve for right away. Then your options open up to exit at a good multiple, on a good structure, whenever you want.

**Chris:** Great. That’s a lot of information. I love it.

Okay, so I guess let’s step back for a second.

The question I have is: How are SaaS businesses valued?

If we’re talking about maximizing your value over time, how are SaaS businesses valued, and what do they need to be looking at as they grow and scale and remove themselves from the business?

Because I imagine that doing all of that—hiring a developer or CTO—you’re adding a lot of cost in terms of personnel.

So, how are you maximizing your long-term value when you’re having that?

**David:** Yeah. Early on, this is one of the areas that’s probably most confusing and most misunderstood in the market.

There are two ways to value SaaS businesses, and it usually morphs with the scale of the business.

A primitive mental-model way to think about this is that if you are basically under a million in ARR, you’re most likely going to be looked at on an SDE-based valuation.

So, you’re looking at your earnings, operating profit, adding back your compensation, adding back one-off sunk costs—all the stuff that we normally talk about and that you typically see on listings—seller’s discretionary earnings multiple.

Now, as you scale over time and get up to a million in annual recurring revenue, you start to get more onto the radar of private-equity-type buyers, strategic-type buyers, and those that have greater operational synergies and think about businesses in different ways.

They start to look at a revenue-based multiple.

Now, the nuance to that is it’s not just scale. Once you get up to a million in ARR, they also want other problems solved for.

Specifically, they want the owner-founder out of the source code and out of development, as I spoke about before. They want the churn reduced pretty materially, so sub-4% per month. And they really want a lot of operational infrastructure in place.

They’re buying more of a company now rather than a light, bootstrapped thing.

So, the question is, how do you get to that?

The payoff—or the allowance for that—is that if you get to a million in ARR, you don’t have to be massively profitable anymore because the only thing that the buyers start to care about is revenue growth.

As long as you continue your growth at 30%, 40%, 50% year over year, it’s fine to sacrifice EBITDA margin.

I’ll put this in a worked example because then it’s much easier to think about.

Let’s imagine the scenario where you’re this bootstrapped SaaS business, and you’re running it because you’re trying to keep it profitable. You’re not really paying yourself that much.

Let’s say you’re at 500K in ARR and 200K in profit, which makes sense—about a 40% profit margin. You might see that on the business at this point in time.

Where the business currently is, you’re looking at an SDE-based valuation for the business. So, you’re going to be looking at somewhere between three to five times that $200K number, so between $600,000 and $1 million.

But there’s also a key strategic decision at this point, which is: Do you exit there, or do you try and push upwards and onwards toward a million-plus in ARR and go for the revenue multiple?

Well, if you want to do that, then you should spend a large portion of that $200,000 in extra profit.

Spend $150,000 of that. It’s okay to reduce your profit margin all the way to about 10% or so and dedicate that money into a CTO, into an onboarding team, into things that reduce churn, and into things that increase the scalability and marketing of the business.

Then you propel from $500K in ARR to a million, a million-plus. You’re growing at 50% year over year, and now you’re on the radar of private equity and strategics.

Yes, with a smaller EBITDA margin, but with much higher revenue growth and a business that looks less like an indie SaaS project and more like a company.

That’s the big mindset shift that you need to make.

You really need to think about: What kind of exit do I want?

Because that’s going to inform who the buyer is, and that’s going to inform what kind of valuation you get in terms of the approach.

There’s a lot of confusion around that. That’s why, when you go out into the market and hear people say, “I got 3X there, so 5X”—is it revenue? Is it earnings? What kind of buyer was it?

It’s because there are two very different landscapes, and they morph around the million-ARR level.

**Chris:** Sure. And you talked a little bit about an SDE multiple. What is SDE, and how could someone calculate that?

**David:** SDE is super simple. Just think about the net profit of your business, then add back whatever it is that you’re paying yourself, any kind of personal expenses like health insurance, one-off things like if you bought a trademark for the business, sunk expenses that a new owner isn’t going to have to take on, and then discretionary stuff like meals, travel, that kind of thing.

There are definitely extra nuances and levels of granularity that you really need to speak with an advisor to get into, and it does add up.

As you know, Chris, you can go from $200K, what you think is your net profit, but your SDE is actually $250K. That $50,000 delta times a four-times multiple is $200K of value.

So, it’s quite a lot, and it’s important to speak with an advisor about that. But you can get to a pretty intelligent estimation of your SDE just sticking to those core principles.

**Chris:** Great. And then, in terms of multiples, because we always get that question—I mean, that’s a pretty common one—what can people expect in terms of a multiple of their SDE, or a multiple of their profit when you’re getting over a million ARR?

**David:** Yeah. On SDE, generally speaking, the landscape is around three to five times, and I would say the median is kind of four times.

Obviously, as you know, Chris, dozens and dozens of variables and factors go into the multiples for businesses. But if I was to boil it down into a useful mental model for people to think about, the biggest determinants on multiple are the age of the business—it really needs to be two years plus, and the older it is, generally speaking, the better it’s received. But that does depend on growth.

The second factor is growth, so revenue growth and profit growth.

The third factor is: What’s the quality of that growth? Well, that’s generally speaking measured by churn. So, apps with 4% per month and lower churn get the highest premium versus, say, 4% to 7%, versus 7%-plus from there.

And lastly, the amount of owner time that’s going into the business and the nature of that time. Is it in the business, or is it on the business, like we were discussing before?

So, four things: age, growth—and part of that growth is scale—the quality of growth and churn, which obviously depicts the stickiness of the customer, and time involvement.

All of these factors are interrelated. If the business is growing bananas, super, super fast, then obviously it’s somewhat permissible that you’re working many, many hours to run it.

If it’s super stagnant and you’re working tons of time on it, then that’s obviously less appealing.

So, they’re all interrelated, but it doesn’t take a genius to work out what’s the difference between a 3X business and a 5X business.

It’s one with high growth instead of low growth, age versus immaturity, low churn versus high churn, and low workload versus high workload.

Then there are a myriad of other factors underneath that—obviously positioning within the industry, ARR/MRR split, other metrics, how much work is required in the source code, and so forth.

But you get the first principles of the valuation there.

**Chris:** Great. I think my last follow-up on that little portion there is just, it seems to me that more and more people are turning to SaaS apps in the online marketplace to solve their problems, especially given the pandemic.

So, does that mean that the market is flooded with these products and there’s more supply than demand? Or is demand high? What are you seeing in terms of the demand for SaaS?

**David:** Super, super interesting question.

I mean, macro trends like cloud services are obviously ballooning—off the charts.

When I think about it, I’ve been doing this job now seven or eight years, and I remember going to MicroConf and things like that in 2013, 2014 and seeing it be this small, indie startup-type conference, to now turning into this very professional, slick thing with multiple case studies—dozens of case studies—of people going through, following Rob’s advice, getting a bootstrapped SaaS going, and exiting to large, purpose-built acquisition vehicles that now exist.

There’s a ton of maturity now that’s come through.

What’s interesting is, I wouldn’t say that the supply of SaaS businesses has massively grown versus, say, e-commerce, like we were discussing before the webinar began.

I think that is, in large part, a function of it being a challenging business model to do and get right.

In my time, the most sophisticated and intelligent and all-around excellent businesspeople that grow businesses are SaaS entrepreneurs. I think you need a lot of skill sets to get it right.

I guess what I’m saying is that there are a lot of failed, well-meaning, well-intended bootstrapped SaaS businesses. That’s not a critique of the people who do it. I just think it’s insanely hard to do and get right.

On the flip side, there’s still an insane amount of demand for them.

So, without a doubt, SaaS businesses are the cream of the online-business crop.

When we’re all internally at Quiet Light and we think about listings that we might get or leads that come in, I would pick a million-dollar SaaS business over any other business model any day of the week because they’re so well sought after by buyers.

**Chris:** Yeah. So, if we flip to the buy side, then, people are going to find a lot of competition if they feel like, “Hey, I want to invest in SaaS, but I don’t want to really have to go through the problem of starting, failing, starting, failing, starting, failing.”

They’re going to find themselves in a lot of competition for those businesses.

**David:** Yeah, for sure. There’s never been a stronger buying landscape for SaaS businesses than there is now, for sure.

**Chris:** So, how could a—I mean, this is totally off-topic, which is my specialty—but what could someone do, other than just overpay for something, to stand out as a potential buyer looking to acquire a SaaS business?

**David:** Yeah. I mean, I think the big thing is cash. Cash is what moves the market.

In e-commerce land, for example, you have a lot of buyers leveraging SBA loans to try and buy businesses with, and there’s definitely a more receptive financial audience for that, as in those banks that are happy to lend on e-commerce businesses.

I see that as much harder to accomplish in SaaS.

The people that I’ve seen who have been the most successful as SaaS buyers are cash buyers that move very quickly.

And if you’re short of cash, then it’s clubbing together with one or two or three other buyers to do the deal.

In fact, I just have one under offer at the moment that’s exactly that. I think that’s actually an excellent strategy, to be honest with you, because then you’re leveraging two or three people’s expertise, experience, and time.

So, if I take my position, for example, if I had half a million dollars to buy a SaaS business with and two other people that I know and have worked with and trust really well, I would sooner club with them and buy something for a million and a half, own a third of it, and run that than I would attempt to buy something for $500,000 or try and get an SBA loan to buy it, because it’s very difficult to get those deals done.

**Chris:** Interesting. I would figure with a business that was low churn, recurring—I think you would think that—

**David:** And you would not be wrong from a business-logic standpoint, but you would be wrong from actually getting the deal done.

It’s remarkable how hard it is to get SBA SaaS deals done.

**Chris:** Okay, great. Good information.

All right, so stepping back to something you were talking about, you were talking about the MRR/ARR ratio. Which is more important to SaaS valuation, and why do you consider it more important?

**David:** Yeah. Well, MRR is by far valued more highly versus ARR.

The obvious reason for that is, basically, if you think about it, if you’re a monthly customer, then every single year you have 12 discrete opportunities to cancel for relatively little money. You can do that every single month.

Whereas when you’re annual, you’re only doing it once a year.

So, in terms of actually evaluating the stickiness and quality of a product over time, the quality of the feedback that’s coming into the business with MRR is way higher.

Every single month, you’re basically polling 500, 1,000, 2,000 customers on: Is this product something sticky? Does it make sense?

What that allows a buyer to do is basically predict, with much greater certainty, what the future profitability and revenue of the business are going to be like because they have way better-quality data to do it.

If 75% of your business is on annual plans and you have to wait 12 months to figure out whether they’re going to renew, it’s a lot harder for a buyer.

It’s not impossible. It depends on the age of the business.

If you have a business that’s, say, seven years old and it’s been annual plans since the get-go because that’s the nature of your industry, and you can show that you have 100 clients and the average lifetime is, say, four years because over that seven-year horizon you’ve proved it out, that’s fine.

You’re going to go to market, and you’re going to be considered within a multiple set that makes sense for your industry.

But if you’re in an industry where the predominant plan mechanism is monthly, and you’ve sold tons of annual plans in order to get value in the door and your split is all mixed up, you’re going to get penalized in valuation because it’s going to be impossible to sense whether or not people are likely to stick around.

Indeed, if their churn is very high on an annual plan, then the preference will be that you should switch back to a monthly plan to get the data right and get the product-market fit properly done.

**Chris:** Sure. Great. Very interesting.

As a reminder, everyone, if you have questions, feel free to drop them into the Q&A box or into the chat window. We’ll get to as many of them as we can.

We still have some coming in, so we’re good for now, but feel free to ask questions so we can get to those.

Okay, so tell me a little bit about some risk factors that SaaS founders should be defending against, and what steps can they take to fortify against those?

**David:** Yeah. I think the biggest factor is churn, obviously, in any single SaaS business because it’s a variable and a factor that speaks to so much about the nature of the business.

It becomes one of the hardest things—it’s the hardest problem to solve for—and that’s the most valuable one to solve for ahead of coming to market.

Simply put, a business with churn at, say, 6% that then manages to solve that down to 3% over the course of the next 12 months is going to be massively more valuable, even just mathematically, coming to the market and looking at the optics of it.

So, the risk factors, if I was to answer this in what sounds like a generalized but is meant to be a very specific way, are going to be anything that’s essentially assaulting the churn of the business.

That’s one of the massively key components of any SaaS valuation.

I could wax lyrical about safety and security of data and integrity and that kind of stuff, but the presumption is that a lot of those standards are in place now and people are using encryption and working robustly with their codebase and so forth.

So, it’s probably better to be a bit more commercial in the answer and say the risk factors are anything that you think is a material risk to increasing churn in the business.

Oftentimes, I would say that manifests in two ways.

One is bad onboarding in terms of working on customer success for the business.

That’s always tough because it’s an expensive problem to solve for when you’re scaling. To really do customer success and onboarding properly, you probably want to have a really good onboarding funnel, hire people to send out emails, do follow-ups, and make sure that your customers get into success.

All of that stuff costs a decent amount of money to do. There’s the capacity to do that in a light way while you scale toward getting people into full-time roles, but that’s a big one.

Then, of course, I think one thing that comes up a lot is competition and venture-backed competition, and the risk of that.

A lot of categories now have big players in them that are financed by major, major, major money. Trying to compete with those guys on price point is pretty challenging.

So, it’s really about defining your niche and coding for it very, very well.

Whenever I take a business to market, the risk factors are pretty much always discussed in that kind of language from the buyer landscape.

**Chris:** I mean, I guess, is there a risk in not continuously updating software and adding features? Does that lead to more competition?

**David:** For sure.

**Chris:** How much should you be working on the product?

**David:** Yeah. I mean, risk—I see that as just a default mechanism, right?

If you’re not working on the product, you’re going to be dead in the water, basically, over a long period of time.

It’s something that buyers are acutely aware of as well. They’ll always evaluate the business in terms of where it is in its product life cycle.

If it’s been sitting idle for 12 to 18 months, they’re going to factor that into the valuation and into the capital spend that’s required for it.

So, it’s not something you ever really get away with that much, nor is it something that’s desirable to do anyway.

I see that as a 101.

**Chris:** Sure. And what kind of growth should people be pegging for? What do buyers consider to be good growth?

**David:** I think low is considered 0% to 20% year over year, medium is 20% to 50%, and high is 50%-plus year over year.

**Chris:** Okay. Great.

How can someone reduce scaling restraints?

**David:** This used to be something that we saw a lot more of in terms of problems, but I feel like, with the proliferation of very impressive scaling tools that sit in the back end now, like Amazon Web Services and dynamic databases, this used to be something that would get pointed to a lot, and now I don’t see it coming up that much with owners.

It’s hard to think about getting wrong because I think, basically, if you start a SaaS app now, unless you’re thinking about going for the deep eight-figure territory in terms of mindset and exit, most people have apps that can triple in size very easily without any kind of infrastructure issues.

**Chris:** Yeah. Okay.

Again, if anyone wants to drop some questions into the Q&A box, we’ll get to those as best we can. We’ve got about half an hour left, so we’ll get to as many of these as we can. I think we’ll probably be able to get to most of them.

Okay. You talked a little bit about the importance of reducing churn. Are there any real strategies people should be considering that are tried and true, or even just new on the scene, to reduce churn?

**David:** Yeah. I think it’s always something that needs to be reviewed in terms of short-, medium-, and long-term options that are available because there are shorter-term fixes that can be looked at, kind of like low-hanging fruit, and then there are medium- to long-term revisions and structural improvements that you can make.

Short-term-wise, the simplest low-hanging fruit is obviously optimizing for failed payments and revenue churn, or delinquency churn, as it’s often called.

There are many tools that you can use for that now, like ProfitWell’s Retain, and I think perhaps Baremetrics has something like that now. But just anything that’s sweeping up obvious misfires there.

I see that as surprisingly value-accretive when it hasn’t been done. There’s often just easy money to pick up there.

Then, I think it used to be considered contentious, but I don’t think so now—just removing the ability to do self-serve cancellations. So, actually forcing people into a customer engagement process or a customer service engagement process to discuss it.

I think that used to be quite a polarizing thing, but now I seem to see more of it happening.

There’s a famous case study of Baremetrics having done it, which obviously has now sold, but years ago they saw quite a bit of success with it. Particularly, they saw a lot of feedback come in to understand why people were canceling.

That takes us neatly into starting to look at the medium-term things because, really, you need to start getting feedback from canceled customers to inform your strategy.

Obviously, there are some really good tools that you can use for that, like Less Churn, for example, that actually polls customers and understands their cancellation reasons.

There are some very thoughtful ways that you can do that and start to think about how to improve the business.

Within that is also polling existing customers and starting to look at and ship really highly requested features—things that may have been misses—that sit within a cohesive way you want to take the product from here.

Then, long-term—and the one that I think everybody hates doing the most—is overhauling onboarding.

Step-by-step walkthroughs for customers, videos, email follow-up sequences, and really looking to improve customer success. Webinars, live chat, help desks, email education—all that stuff that you see some of the bigger players doing.

It’s actually surprisingly achievable for bootstrapped indie projects. It’s not that expensive to do. It just takes up a lot of time, I would say, to get done.

But these are the kinds of things that, when you get to a million in ARR, the buyers are starting to look for.

That’s something that, to use Rob again as an example, he absolutely nailed with Drip and its onboarding sequence at the time we went to market. That was something that was so well received by both the customers and then well recognized by the buyer, which was Leadpages on that transaction.

**Chris:** Sure. And are there other services that really help someone with that if it just seems so overwhelming? Maybe not just services, but other SaaS apps they can use?

I know I really like Vidyard for a more personal experience and things, or whatever appeals to you personally.

**David:** Yeah. I mean, if I was building my own SaaS app now, to be honest with you, I would just go and find three entrepreneurs who had very strong exits with their own businesses and had good onboarding, and just pay them to consult me to help do the onboarding flow.

Because it goes way deeper and beyond, “Is this video or this educational thing going to work?”

It’s more about getting inside the mind and the psyche of the customer themselves.

So, I’d rather pay for an expert opinion in doing that than try and solve it with some other tools, let’s say.

**Chris:** Yeah, that’s great.

I had a question come in about acquisition cost versus retention costs. Obviously, we talked a little bit about churn, but how much should someone consider too high of a threshold for acquisition—their CPA?

**David:** Yeah. I think the golden-standard rule, and this still seems to be the case, is optimizing for at least a three-times LTV-to-CAC ratio.

That’s been a long-espoused number in terms of something to try not to exceed, or to optimize for. So, that’s something to try and stay faithful to.

I think there’s always scope to have a playpen and experiment with that, particularly when you’re getting paid acquisition fired up.

But that’s a good long-term metric to optimize for.

Particularly when you think that a lot of the buyers at a million-plus—one thing they instantly want to do is start firing a truckload of paid traffic at apps.

So, already having funnels in place that are doing that and paying out with robust metrics is something that’s going to be very, very attractive to a private equity or strategic buyer.

**Chris:** Is there some methodology or something that you use to really help people with their funnels to loosen them up and identify sticking points?

**David:** Not really.

What I’ve observed over time is that each entrepreneur figures out eventually, after some experimentation, what channel is really, really working for them.

When I think about Nathan Barry and ConvertKit, that app, by his own admission, I think was a bit of a lost cause for several years, and he almost gave up on it.

He’s got some really interesting presentations on that. He tried all sorts of things to get that to go and eventually found that the affiliate channel, with people like Pat Flynn and Smart Passive Income, became the absolute fire hose to get that going.

He had a pretty generous affiliate payment commission scheme to those guys, but managed to get the unit economics to work massively over time.

Once it went out with those guys, it then obviously proliferated by word of mouth.

So, he probably paid quite a bit more than that CAC-to-LTV ratio I was mentioning to begin with. But as more people came in, that diluted and made the unit economics more profitable. Then, obviously, long-term people stayed with him, so he’s reaping the rewards of that now.

I think Rob, with Drip, arguably didn’t spend a ton of time on paid. He really went after guest podcasting and guest posts and just absolutely nailed that circuit massively.

Obviously, he threw out some affiliate commissions and payments for that, but that managed to scale massively for him. So, he had an incredibly good acquisition-cost ratio there.

But in each of those instances, they all tried different channels and then just figured out one or two to absolutely hammer down and go for.

To be honest with you, rarely do I see an app sub-$1 million in ARR where paid is the ultimate channel for them.

It always seems to be a channel that gets dialed in after that, once it’s at scale. Most of the time, the channel of dominance is more organic.

But if you have an app now that’s crushing it on paid and making great unit economics, then you’re going to be flying up to that level anyway, so the conversation becomes somewhat redundant.

**Chris:** Great.

Okay, so let’s talk about a few ways that I know you’ve talked about in the past that people can strip their value.

I think there are four that I remember. Help me if I’m wrong here, though, and feel free to comment on any of these because they’re things I’m stealing from your brain anyway.

Heavy plan discounting and lifetime plans, expense stripping, or halting development.

**David:** Yeah. Well, I think the lifetime-plan thing—it’s so funny because I didn’t think anybody did this anymore.

But I have a deal under offer at the moment. It’s kind of a seven-figure SaaS, and it came up where the buyer had due diligence and found that lifetime plans were sold back in 2018.

Thankfully, it’s a really, really, really small proportion of sales and isn’t going to affect the thing. But that came up in the first 24 hours of due diligence.

I used to think nobody did lifetime plans, which, given this happened in 2018, is still kind of fair to say people aren’t doing it.

But it’s a suicidal move to do that in any kind of way, to be honest. I just wouldn’t do it at all.

Don’t do it on Black Friday. Don’t do it as a Christmas thing or an anniversary thing. Just avoid lifetime plans and guarantees at all costs.

They just come back to haunt you, and it’s not worth the revenue at all.

To see that pop up within 24 hours of due diligence on a business was just quite a funny, stark reminder, if not an old one.

**Chris:** I just had one. I had an offer come across from Peak, the brain-training app, that was a lifetime—

**David:** Yeah.

**Chris:** So, people are still doing it.

**David:** Yeah.

Heavy plan discounting, outside of obvious times to do it like Black Friday or Cyber Monday-type situations, can make sense, but obviously not too stark because it does dilute your unit economics.

But if you start doing those kinds of things as pushes through the course of the year, it’s a bad idea, to be honest with you.

It’s funny. If anything, people often say, “What’s the number one way to increase the value of your SaaS business?”

Well, I would argue: Just put your prices up.

I think there’s a very significant number of SaaS apps out there at the moment that are just underpriced.

They’re underpriced in a price-inelastic way. So, if they put their prices up, say, 10%, they’ll lose some customers, but it’ll still be value-creative over time.

The temptation to do discounts through the course of the year to drive growth—not my idea at all.

I don’t think that’s the way you should think about your business. It’s not a value-additive or creative way of thinking about growing the business. It’s actually a dilutive one, and buyers don’t really like seeing it at all.

Obviously, trying to do that in the run-up to a sale to push the numbers is a big no-no as well.

**Chris:** How about freemium? How do you feel about the freemium model, or something very steeply discounted for six months or three months or whatever?

**David:** Yeah, that’s absolutely fine. If it’s working, that’s absolutely fine.

The app I was just speaking about at the moment that I have on sale has the same thing. It has something crazy like 40,000 or 50,000 free users and then 10,000 paying users.

Over time, they’ve picked up something like one and a half million email addresses from that. So, that’s just a ridiculous amount of potential marketing that’s there.

I’m not averse to the freemium model. It’s just heavily discounting the paid side of the business that doesn’t make sense.

Making the app better is what makes sense.

And then, obviously, we spoke about halting development. It’s not a very good idea.

I think you can do it for three to six months, but if you do it for longer, it just comes back to haunt you in terms of buyers seeing, “Well, this needs to be improved. This needs to be improved.”

So, I’m just going to price that into the valuation.

You’re better off continuing to run in maintenance mode and then having some sort of defensibility when you go to exit.

**Chris:** Great.

Okay, so we’ve talked about destroying value. Let’s talk a little bit about building value.

The first thing that always comes to mind to me, just in the conversations I have with sellers, is the most boring of them all, but it’s having clean and accurate books.

**David:** For sure. Yeah.

It’s kind of a nonstarter, to be honest with you.

I think we suffer less—I suffer less from this in the SaaS world than in the e-commerce world. I think that most SaaS entrepreneurs have pretty solid books kept together.

With things running from Stripe or through other membership or subscription payment-processing dashboards like that, there is a decent amount of granularity.

For me, it’s nailing marketing channels and having some diversity of marketing channels.

If you can have two or three channels and have some channel diversity in terms of your customer acquisition—say you’ve got 40% of customers coming through SEO, through organic search; 40% coming through affiliate-type relationships, whether that’s directly or podcasts or guest posts or whatever; and then 20% coming through paid or some other channel like that—then you’re in a really, really, really healthy place in terms of channel diversity.

You get a massive multiple premium for that versus if the business is just 100% reliant on SEO and, of course, massively subject to the whims of Google algorithms and competition on those pages.

I’ve seen businesses of that nature, so it’s not like that’s a disaster scenario.

But if you wanted to say, “How do I increase the value of the business?” I would say diversify the customer acquisition right away.

**Chris:** That just drove my next question right out of my head. Give me a second here.

Oh, yeah. Okay, so tacking on to the bookkeeping idea, what add-backs—because when we talk about an SDE valuation, we’re talking about having a really good add-back schedule—should people really be focusing on that they wouldn’t necessarily be thinking about?

Like your reward points for your credit card. What things should they be thinking about that actually are legitimate add-backs to their business that they’re not necessarily putting in the schedule to understand their valuation?

**David:** An interesting one is, I think, if you do a definitive website overhaul within a specific period of time, like a 30-day or 60-day sprint project run by an agency or whatever.

If you spend $10,000 or $15,000 on a website overhaul like that and you don’t touch the website again for six to 12 months after that, that’s a fair add-back, which I think is not something that is often considered as an add-back or thought about like that.

It can actually have quite a meaningful improvement in there.

Another interesting one—it doesn’t come up so much—but if you have any kind of providers or feeds that the business is reliant upon, for example, let’s say you’re reliant on a large third-party API or hosting, and you manage to negotiate a material discount in there.

Let’s say you have a very, very hosting-intensive business and you’re on Rackspace or whatever, and you move over to somewhere else. You go from, say, $8,000 a month in hosting costs down to $4,000.

You can actually apply that saving retroactively backwards.

So, if you did that, say, two months ago, you could apply that $4,000-a-month saving 10 months backwards, which is $40,000, which times a multiple is a very material saving.

Things like that can have a pretty massive swing factor in terms of incremental value growth.

**Chris:** Great.

So, we’ve talked about things that could destroy their value and things they could do to add to their value. I think the last thing we really want to talk about is: When should someone consider the right time to sell, and what can they do to prepare for that?

**David:** Yeah. I think that’s always the golden question.

For me, it’s a factor of: Where’s the business at, and where are you at personally?

Selling the business isn’t super easy. It’s kind of a slightly tiring process, even with an advisor. Obviously, we make life much, much, much easier, but it’s kind of like selling a house, right?

It’s something that you want to do, and there’s a process to do it. But you still have to move all your stuff out of the house, even if you’re excited about moving on to the next thing. You still have to speak with lawyers. You still have to deal with an estate agent, blah, blah, blah.

That requires mental time and energy, and usually two to three months.

So, you don’t want to sell the business when you’re knackered or tired or worn out because you’re going to have to go through that process beforehand.

I would say time it when you feel like you’re sort of cresting and you’re interested, but not too exhausted.

Then, from a product standpoint, you don’t want to be doing it when you’re in the middle of a major rebuild. And I would argue you probably don’t want to do it just after one.

You want to be doing it when you’ve been out with a big iteration of the software for about six months, I would say, and you’re more in maintenance mode or just slightly adding to it.

You’re six to 12 months away from the next big build. You want to find that lull in between the software life-cycle upgrades and find that magic spot.

Then, obviously, you have to look at the numbers themselves and say: Where are we going? Are we up, down, or flat at the moment? What’s churn doing? What’s lifetime value doing? Where are the metrics going?

Again, you want to be steady and improving. That’s always the best place to be—or fast and improving—but not in a declining light of trends.

**Chris:** Yeah. And I think one thing that has occurred to me—and tell me if I’m wrong—is that any big change that you’ve made in the last six months, you’re not really capturing the full value of.

If you’ve done that website rebuild, if you found a really bad point in your funnel and you fixed it, but it’s only been three months, you’re not really recapturing the value of those changes if you’re trying to sell immediately.

So, you want to make sure that you’ve set it and seen consistently the proof of concept there, but also that you’re recapturing the value. Otherwise, you’re leaving money on the table if you’re trying to sell too quickly after those changes.

**David:** Yeah, exactly.

**Chris:** Great.

So, I know you have a hard out here in five. Do you have any last words for people in terms of what they need to be thinking about?

**David:** Yeah. I mean, I’m always aware that people in this space are really hungry and receptive for a ton of information, and they’re keen students and researching it.

Chris, you wrote that very large, long-form piece about this that I’m sure you’ll link to.

But I think that if you want the master guide on 10 years of exiting SaaS businesses between zero and $10 million in value, that’s the master class in how to do it.

If you read that guide and followed that, that is how you end up with an insanely good multiple and offer structure, and a very happy ending to all of your work going into an exit.

So, I like to point people toward that and then get into a more nuanced conversation after that.

Chris can fire in the guide and the link to that with this.

**Chris:** Yeah, I’ll put a link to that guide into the chat for everybody here momentarily.

But I think the most important question, David, that we can ask is: How can people get in touch with you if they want more information?

And listen, this is a little bit of a sales pitch, but David really is one of the best advisors that we work with.

Your business is different than anybody else’s. There’s going to be a lot of nuance there and a lot of different things for someone to look at. We’re talking about a lot of generalities.

So, the best way to understand the value of your business and what’s driving up the value or driving it down is to talk to an advisor.

I really do believe David’s one of the best—not just that we have, but one of the best in the business.

So, how can people reach out to you, David, if they want to talk to you more?

**David:** That was such a serious ending, Chris. I actually thought that you were going to spiral off and be like, “The biggest question I want to ask you is, what does everyone think about Harry and Meghan?” Something like that.

I was like, “I’m 90% sure he’s going to say that,” and then you pivoted into serious territory.

**Chris:** No, I’m capable of serious, too.

**David:** Yeah, I respect that.

The easiest way is [email protected]. I’m a fiend on email. I respond to people very, very quickly on that.

So, I’m always happy to have a 15- or 30-minute anonymous discussion to discuss the business and what makes sense to do over the one-, two-, three-, four-, or five-year time horizon that you might have for exiting.

**Chris:** Yeah. And just in the minute that we have left, I’ll tell a real quick story because David would never tell it himself.

This just happened recently. Someone came to him for a valuation, and they had some back and forth. That person received an outside offer from—it was a strategic, right, David? A strategic buyer?

So, he reached out to David and said, “Hey, just want to let you know, I had this offer come through. What do you think about it?”

And David, being who he is and being part of Quiet Light, said, “Hell, that’s a great offer. I would take it.”

The happy end of the story is that person came back and said, “Hey, we want to list with you instead.”

But all of our advisors really are entrepreneurs first. They’ve all built, bought, and sold their own online businesses. David’s no different.

We believe in relentless honesty and helping people do what’s in the best interest of their own business and exit on their own terms, according to their goals.

So, thank you all for joining us. Thank you, David, so much for the knowledge. It’s always a joy.

If you want to join us for more AMAs, we’ve got lots more coming up. We’ve got another two coming up next month and, I think, another two in June.

Our Joe Valley is releasing a book on June 15th called *The EXITpreneur’s Playbook*. It has a lot of advanced concepts in there as well, so we’re really excited for all the stuff that’s coming up.

Thanks a lot for joining us.

David, you’re the man.

**David:** Thank you, brother. Thanks a lot, guys.a