SaaS Valuations in Early 2020
JANUARY 22ND, 2020
As part of our portfolio valuation methodology, I take a comprehensive look at SaaS multiples very six months or so. To say the public SaaS valuation comps have been volatile over the past six years would be an understatement. We experienced a double dip “SaaS Crash” in early 2014 and early 2016, and apart from those two time periods, it’s been mostly up and to the right.
Most high-growth SaaS businesses (public and private) are valued on a multiple of forward revenue with enterprise value over NTM (next-twelve-months) as a primary metric. Enterprise value equals market capitalization plus debt minus cash and short-term equivalents. Forward revenue is the sum of the projected revenues over the next 12 months.
The blue line in the chart is the median over the period which is approximately 5.6x. The yellow line shows the median across the public SaaS stock basket in that particular quarter. In 2014, the median touched 8.5x before falling by about 60% to 4.5x two years later. Since then, we've seen an incredible bull run that brought valuation multiples to 9.5x. A Q1 2020 correction has brought multiples back into the 8.0x range, but we are still in one of the priciest SaaS valuation environments of the last 16 years.
What's driving the SaaS bull market? First, there are some high-flying outliers. Zoom tops the list at 44x forward. We also see ZScaler, Veeva and Atlassian trade at multiples in the 25x - 20x range. These multiples represent all time highs for individual SaaS companies. On one hand, that screams bubble. On the other hand the sheer revenue growth generated by SaaS companies over the past sixteen years has been amazing to watch.
Combine this growth with the fact that SaaS companies are typically incredibly efficient businesses operating in very large markets, and the optimism becomes somewhat justified. Also, if we look at how SaaS companies with similar profiles to today's high-fliers have fared post-IPO, the optimism is further justified. Shopify’s stock price is up 18.9x since IPO. ServiceNow's stock price is up 16.6x since IPO. Paycom’s stock is up 16.0x since IPO. Salesforce is up 14.0x from their IPO price. Zendesk’s stock price is up 10.4x from their IPO price. Twilio's stock is up 9.7x from IPO price. This is the type of performance you would expect from profitable companies growing revenue 100%+ YoY, even at $500M+ revenue run-rates. From this perspective, SaaS has historically been undervalued and the premium we see priced into companies like Zoom today is a recognition of this fact.
Another dynamic effecting SaaS multiples is their margin structures relative to those of other recent high-profile 'tech' (I use that word lightly) IPOs- Uber, Peloton, Lyft, WeWork, etc. The difference is stark. Most pure-play SaaS companies can boast gross margins in the 75% range- a far cry from the 35%-50% gross margins of the more highly publicized IPOs mentioned above. We would expect a SaaS business with 75% gross margins paired with 100% YoY revenue growth to appear as higher quality to investors simply because its easy to see where future cash flows come from. Some of the backlash against the Ubers of the world has led to a flight to quality, and this reflected in the SaaS valuation multiples.
Where do we go from here? In the short term, the recent multiple expansion is great news for public and private SaaS companies. It means they can raise capital at lower and lower costs, and smaller and smaller dilution. These multiples imply investors believe these businesses can continue to execute very well in massive markets for years to come. From an investor's perspective, the multiples do raise questions about whether we will see reversion to the mean in the near future. My guess is that many ealry-stage SaaS financings will take into account both perspectives and land on valuation multiples short of the current median and north of the historical median.
