In part 1 we discussed the difference between analytics in B2B and B2C, and why expansion was the main revenue source in B2B.
In this part we're going to see how B2B SaaS can expand. We'll go through the four types of expansion that exist. And see how you can leverage them to grow your business.
Let's dive in!
The key expansion metric: Net Dollar Retention
To measure expansion, B2B SaaS generally use Net Dollar Retention (NDR). Net dollar retention is a percentage of your annual recurring revenue (ARR). NDR is calculated using this formula:
Here’s an example to make NDR calculation a little clearer:
A small business starts the year with $500,000 in annual recurring revenue.
Over that year, existing customers decide to upgrade their subscriptions of $100,000 more recurring revenue.
Other customers decide to downgrade, causing a reduction of $30,000.
Then there are a few who decide to stop their subscriptions altogether. That comes to $10,000 in revenue churn.
Plotted into our above the net dollar retention rate formula, the equation becomes:
($500,000 + $100,000 - $30,000 - $10,000) / $500,000 x 100 = 112% NDR
That year, the business grew by 12% ($60,000) in ARR from the customer base they went into the year with.
A NDR > 100% means that the revenue generated from existing customers is expanding. Compensating for any loss due to customer churn within that specific group. This means your revenue grows even if you don't acquire new customers. The existing user base plays the key role in your overall revenue growth of revenue.
When a company's NDR < 100%, it's experiencing shrinking revenue from its existing customers. This company musts get new customers to compensate the loss with its existing user base.
The fastest growing businesses in the world all have NDR > 100%. They diversify their revenue growth across both new and existing customers.
Best-in-class NDR rates is > 120%. Meaning even if a business doesn't get new customers, its revenue grow over 20% year-over-year. Which is fantastic! For example, Snowflake and Twillio NDR were 138% and 155% at the time they went public.
Now that we've seen why NDR was critical, let's see the 4 main drivers of expansion that can drive it up.
Types of revenue expansion
Four ways to expand revenue currently exist for B2B SaaS:
- Usage Growth
- Higher Tier
- New Products
Let's dive into them and explore how you can leverage them for your business.
1. Usage Growth
This expansion strategy ties the pricing model with expanding the customer's usage volume or the number of users:
- Usage-based pricing varies based on various units of scale: seat, GB of storage, events, tracked users, ... Some companies go as far as creating unique scale: Zapier monetizes on ‘zaps’. Usage-based pricing can either be continuous and customers pay on their actual usage (pay-as-you-go). Or through pre-set retainers, where it's a fixed price for a specific quantity (e.g., the price for 3 seats).
- Per-user pricing is the most common approach. It's used by companies like Figma, Asana, Slack, Miro, and many others. Under this model, companies charge based on the number of seats or users on their account. The growth in the number of users is often an indicator of the organic expansion within the product. This pricing works when several roles across the company interact in the product. Such as creators and co-creators, editors and approvers, editor and viewers.
For usage growth to work, a business needs to be data-driven. It needs to leverage analytics to gain insights into customer usage patterns. And identify areas where customers can increase their usage.
Example of notion price per user that scales ‘indefinitely’ within each plan:
2. Higher Tier
A Higher Tier expansion strategy encourages customers to upgrade to a higher end plan. This expansion strategy means a company offers different plans based on varying features or benefits. Each tier represents a higher value or service level than the previous one.
This strategy works well if a company can communicate the extra value from upgrading. This means actively engaging with existing customers and offering the opportunity to upgrade through:
- enhanced capabilities / trials
- in-product recommendations / highlighted features
- sales outreach
- priority support
- targeted promotions
Higher Tier expansion strategy is quite common across the market - just look at Miro’s pricing page:
Add-ons are a powerful expansion tactic often under-utilized by companies. This strategy means businesses sell extra features or services as optional.
One of the most common add-ons is offering premium customer support. Not everyone needs it, but those that do will be willing to pay extra for it across all plans.
Which features or services are good candidates for add-ons? Oji Udezue - ex-CPO of Calendly - provides a great rule of thumb:
If the feature or service is used by less than 40% of the paid user base, it is an excellent candidate to offer as an add-on.
There is a delicate balance of not offering too many add-ons. One too many may feel like you are nickel and diming your customer.
Having < 5 add-ons is a good place to start. If you want to have more think about ‘solutions’ that can combine many add-on features.
Intercom effectively utilized add-on strategy:
4. New Products
This expansion strategy comes in at the later stages of the company. When a company is ready to create multiple products & services that complement each other.
Multi-product strategy is the most complicated expansion strategy. It relies on the ability to identify and communicate cross-selling opportunities. It often rains chaos on product marketing. And can confuse customers with messaging that tries to promote several products simultaneously.
To fix that, companies often bundle multiple products with added incentives - like a discount. This encourages customers to buy several products simultaneously, providing cost savings and convenience.
Google, Microsoft, and Apple all anchor on multi-product strategies for their expansion efforts. Hubspot is also a notable example, offering Marketing, Sales, and Service product lines.
Don’t sell another product too early.
Unfortunately, many companies go into a multi-product strategy too soon. Often confusing features with products. Airbnb’s Brian Chesky calls this the "permission to build".
Permission happens when people root for you. Tesla customers love their Tesla cars. They loved it so much that they wanted to see a Tesla truck. In 2006 many Apple fans wanted Apple to come out with a phone. Because people loved their iPods. Both Tesla and Apple had "permission" to build something new. And you only get permission to build more if people love what you do.
If people complain about your product:
- Your price is too high
- Your customer service is taking too long
Then you don’t have permission to build new products. And you can use the other expansion strategies instead.
Expansion is undeniably one of the most critical metrics for B2B SaaS companies. And Net Dollar Retention is the critical output metric to measure it.
When the NDR > 100%, revenue from existing customers is expanding. It is also compensating for any churn. It showcases a diversified growth strategy.
To get there you may use four types of revenue expansion strategies.
Usage growth: focus on increasing customer usage volume or frequency. Leverage data-driven insights to identify areas for expansion.
Higher Tier: encourage customers to upgrade by communicating the extra value and benefits of the higher tier.
Add-on: offer optional features or services to enhance the user experience.
New product: offer complementary or related products to expand customer's experience. Make sure you're ready to do it.
By adopting the effective expansion strategy for your business, you can drive revenue growth, but not only. You will also increase customer loyalty, and establish a strong foundation for long-term success.
So choose wisely! ☝️😃
Stay tuned for part 3 of this series to understand better how B2B SaaS companies can grow faster by leveraging B2B product analytics.
Elena Verna is a Growth Advisor to companies including Krisp, MongoDB, and Maze, and a Board Member at Netlify. She is also a former CMO & Advisor at Miro, SVP for Product & Growth at Malwarebytes, and SVP at SurveyMonkey. Elena has a breadth of experience in PLG models for B2B companies.