How To Build A Rock-Solid SaaS Financial Model

Whether you are about to launch a new subscription startup, fundraising for your existing subscription business, building a solid SaaS financial model is a key step every founder needs to go through. 

Whilst early-stage startups, having a high inherent level of risk, are likely not to have fully accurate financial projections, building a rock-solid financial model will definitely give you a clear advantage in understanding your business.

In this article we guide you through all the key steps you need to follow to build your own.

Looking for a template instead? Check out our template below and start building!

What is a subscription financial model?

Subscription businesses are more and more common as an increasing number of services and products (for instance, ecommerce subscription) are being marketed as ‘subscriptions’ instead of legacy one-time purchases business models. 

Unlike most businesses, subscription startups (or commonly named SaaS, acronym for ‘Software-as-a-Service’) have a highly specific revenue model and metrics of their own. 

The 2 keys to growth and profitability for SaaS businesses are:

• Retention: the longer your customers stay before leaving (‘churning’)
• Upsell: the higher the value of your products and services to your customers, the higher your “customer lifetime value” (for more information, read our article here)

Demonstrating in your financial model that your business has strong retention and customer lifetime value, the more valuable your business will be.

Want to know more about the 8 most important SaaS metrics and you should include in your pitch deck? Read our article here.

Why is it important to build a financial model for your SaaS startup?

Startups usually build financial plans when fundraising. Yet, raising funds is not the only reason why you would create your own financial model. Communicating to investors, estimating a valuation for your business, or simply elaborating a well-thought business strategy are some of the many reasons why any entrepreneur or founder would look into forecasting their business. 

Financial models are likely not to be fully accurate for most startups due to their level of uncertainty. Yet, building a rock-solid financial plan is very important for 2 reasons:

• You understand better your business: revenues, expenses, growth and cash flows. It allows you to make better, informed decisions
• Investors will give more credit to a well-thought financial model with verified assumptions, benchmarks and calculations. This will increase the likelihood of a successful fundraising and improve your terms.

Step 1: Identify your acquisition funnel and forecast your users

Revenue is a direct function of your users (or customers). Therefore, before forecasting your revenue, you need to calculate the number of users you will ‘acquire’ over time (the “new users”). You have 3 options to do so:

• Users are a function of the number of visitors (to your website for instance) and a conversion rate. This approach is very common for B2C subscription businesses. 
• Users are a function of the number of Sales Reps you have and their efficiency (the number of users they convert per month). This approach is used by most B2B subscription startups and, more especially, enterprise SaaS businesses.
• Users are an input from you: this is the easiest approach, yet far less accurate and flexible.

Note: if you are targeting B2Bs, and have a per-user pricing (instead of per-B2B), simply multiply the average number of users per B2B you acquire to get to total new users.

Step 2: Build your subscription revenue

Once you have forecasted the number of new users over time, you will need to “segment” them into categories: your subscription tiers (if you have multiple). Let’s assume you have 3 tiers: free, basic and premium. You would consider that 80% of new users choose free, 15% basic and 5% choose premium. 

Because users can move between tiers and also leave, we need to calculate the number of users, for each plan, over time based on 4 metrics, the formula is as follows:

Step 3: List all your roles in the Hiring plan

Salaries are often the most important expense category for subscription and SaaS businesses. That is why building an accurate and flexible hiring plan is key:

• Accurate because you will need to list all the roles, their salaries and starting dates as accurately as possible in the foreseeable future (12 to 24 months usually)
• Flexible because if it can be cumbersome to list dozens, if not 100’s of roles (especially if you are forecasting 5 years) but also because it may difficult to assess how to scale your workforce in the outer years (anytime beyond 24 months usually)

For more information around how to build your hiring plan, please refer to our free hiring plan model in Excel format here.

Step 4: Build your expenses 

For expenses other than salaries, list them and try to bundle them into categories. Usual expenses categories for SaaS / subscription businesses include:

1. Cost of Goods Sold (COGS)

• Payment processing expenses
• Hosting (and other tech infrastructure costs)
• Customer service (whether in-house or outsourced)

2. Sales, General & Administrative expenses (SG&A)

• Marketing: paid media, offline marketing, agencies fees, etc.
• Sales: sales commissions
• Other operating expenses: subscriptions, travel costs, office supplies, rent, etc.
• Other expenses: legal advisory, bank fees, miscellaneous, etc.

Note: we recommend adding relevant salaries to their respective expense category (for instance marketing team salaries under Marketing) for more clarity in your forecasts.

When forecasting expenses, you have 2 options, they can be either:

• Dynamically calculated: suitable for variable expenses (they will grow in line with a given metric, such as users, or revenue). It can be as simple as a given % of revenues for instance (payment processing fees), or more complicated (for instance, customer service can be estimated by using the number of customer service tickets, your customer service team efficiency and their hourly rate); or
• An input from you: suitable for fixed expenses (they don’t vary based on growth). They can be expenses such as bank fees, rent, etc.

Step 5: Wrap it up

Once you have built your revenue and your expenses (including all the salaries in the hiring plan), you can easily build your profit-and-loss, cash flow statement and balance sheet. You can also easily calculate key metrics such as cost of acquisition, customer lifetime value, etc.

Want to know what are the 8 most important metrics for SaaS businesses? see our article here.