The New Value Of ARR: Growth Isn’t The Only Metric Investors Measure

TL;DR: What can the stock market tell us about SaaS? Let’s do a quick dive.

Today, shares of Box fell several points. The cloud storage company gave up ground after recently setting 52-week highs, trading towards its all-time highs set in the immediate aftermath of its IPO.

During those high-flying days, Box enjoyed a stronger revenue multiple than it currently commands.

In the intervening time, however, the market reduced the value of SaaS revenue. And so, since its first trading sessions, Box has had an occasionally difficult run as a public company. The firm has consistently grown in size, often beating market expectations even while enduring a declining share price.

Box fell under $10 per share in early 2016. Now, over a year later, the firm is worth just under $17 per share. That figure is down around 10 percent from its year high.

Box’s moderate correction this week led to some Twitter commentary from regular foil and venture capitalist Jason Lemkin, who noted, in response to the Box declines, that startups should keep their numbers straight:

Raising a round?

Back Box’s $2b valuation at $400m+ ARR to your stage

It’s possible

You are over priced https://t.co/1byqgu5nLx

— Jason M. Lemkin ? (@jasonlk) May 18, 2017

In normal English, this means we need to take a quick look at what Box is worth today and what that valuation might tell us about the current market for SaaS companies. After all, public comps, while not law, are guiding lights for SaaS startups looking to go public.

Here are the sums from Box’s fiscal Q4, 2017 (the period ending January 31, 2016):

• Revenue: $110 million.
• Year-over-year revenue growth: +29 percent.
• Free cash flow: $10 million.

Now more than a month after those results were announced, Box is worth a bit more than $2 billion according to Google and Yahoo Finance. And, being slightly loose with our numbers, we can calculate Box’s end-of-quarter ARR as merely that quarter’s revenue times four. Using that ARR result and its market cap, we can deduce that the firm is worth between 4.8 and 5.2 times its annual recurring revenue.

But we can’t stop there. Box has a component to it that counts as a modifier to its ARR multiple that we must bear in mind. It would be simple to say that the firm’s value indicates that other companies of a similar ilk and higher growth might reasonably expect to command a richer revenue multiple. After all, investors are willing to pay for growth.

However, included above in our list of Box vitals is its free cash flow, something that it only recently began to generate. That result implies a level of operational efficiency that investors view rosily. As such, Box’s ARR multiple is likely higher than it might be if it still consumed cash, as SaaS companies often do.

This means we can’t merely look at a startup and say: If you are in the low nine-figures and put up around 30 percent revenue growth in the last year, your revenue multiple is five. That could be too generous.

For smaller, more quickly growing companies that are still burning cash, that fact isn’t good news. As their revenue is less profitable, it is worth less than it might merely appear if valued on a growth basis. So if a company thought that its 45 percent growth rate and massive cash burn would garner it a much higher ARR multiple than Box’s own, it might be wrong.

And that, I presume, is why Lemkin posited that it is, in fact, possible that your startup is overvalued.

This piece is the very small start to a previous series I wrote called “The Changing Value Of ARR.” (All links are here.) Same topic, but it’s a new year with a new title.

1. In terms of conservative figures, trailing revenue is the most parsimonious, ARR lands in the middle, and forward projected revenue tallies inclusive of anticipated growth is the most audacious. Also, ARR calculated using a company’s most recent quarter’s results becomes increasingly conservative the faster the company is currently growing.