IB TMT/SaaS Industry Focus

What is demand-aggregation and could you name some companies capitalizing on this trend?

Demand-aggregation companies have business models built around establishing themselves as the middlemen between businesses and consumers. The two most well-known companies that enable this type of feature would be Groupon and Yelp. Groupon is known for providing discount coupons to consumers and connecting them with retailers/restaurants, whereas Yelp is known for its crowd-sourced reviews on businesses of all sizes. Another example would be Apple News+, which aggregates the news from various news outlets and blogs for the customer to create their personalized, curated news platform.

What will the implications of Apple's IDFA changes in iOS 14 have on advertising companies?

During its annual Worldwide Developers Conference (WWDC), Apple announced that following the release of iOS 14, developers and publishers will be required to receive permission from users before using the Identification for Advertisers (IDFA), which is Apple's proprietary mobile ad ID used for ad tracking and measurement. Apple has effectively restricted one of the important elements of in-app mobile advertising. The result is that developers must now explicitly ask users to gather their data and track them across mobile apps and websites accessed on the iPhone/iPad. While originally the feature was slated for release in fall 2020, Apple delayed the privacy feature change to early 2021 to provide developers with sufficient time to adjust. This privacy feature is one of the most aggressive policy changes a tech giant has made in recent years, and what Apple users should expect to see is a prompt requesting their IDFA - as one would expect, most users are expected to select the decline option. Advertising companies such as Facebook have publicly announced this change has the potential to impact its ad revenue negatively going forward.

How to calc TAM

Bottom up - number of users times ARPU Top Down - based on market share %

What are a few notable trends going on in the TMT industry right now?

Convergence of Business Models: More companies are increasingly stepping outside into different segments either organically or through M&A. For instance, Google has countless subscription-based services, such as YouTube Music and Google Play Pass, as well as new ventures into communication services through Google Voice, home devices through Google Home, streaming through Chromecast, and fitness through its acquisition of Fitbit. Facebook has also been active by entering social commerce through Facebook Shops, music and video content creation through Creator Studio, and livestreaming through Facebook Pages and Facebook Watch Party. While this should come as no surprise for FAANG companies, this trend includes companies in low-growth segments as well, such as AT&T, which has continued its efforts to establish itself in streaming through AT&T TV, DIRECTV, U-Verse, and WatchTV. ViacomCBS is also planning to release its new streaming service Paramount+ in 2021. Scale-Oriented M&A: There have been many mergers of equals in recent years such as the merger between CBS/Viacom, Time Warner/AT&T, and T-Mobile/Sprint, which were all significant industrychanging mergers that raised regulatory concerns. Growth opportunities have run out in these areas, thus the pursuit of market leadership through consolidation of these low-growth industries has become more common due to the benefits from cost synergies, operating leverage, and diversification. "Streaming Wars": 2020 was a transformative year for the streaming video industry, as COVID-19 accelerated the adoption of video streaming with consumers streaming unprecedented amounts of video content through providers such as Netflix and Hulu. The competition has intensified as of late as more companies are increasingly moving into the streaming market, with some of the most notable entrants being Disney+, Apple TV+, HBO Max, Peacock, and Quibi just to name a few. Hosted Online Events: As lockdowns and social distancing measures prevented large social gatherings and events, many events have shifted to digital means. This has benefited media segments such as e-sports and livestreaming in particular. The number of major live musical or cinematic events hosted in real-time online has also increased with positive reception from consumers. The trend is expected to pick up and become more frequent in 2021 after a slow start following the initial outbreak in early 2020. 5G & Edge Computing: 5G and edge computing are forecasted to be two of the highest growth segments, with adoption being led by large enterprises and increased B2B collaborations such as AT&T and Microsoft's multi-year alliance to work on the cloud, AI, and 5G. This trend is cited as being a central catalyst before 5G can reach mass adoption since 5G requires edge computing for its full capabilities to become more widely accessible given its reliance on the edge-computing infrastructure (likewise, edge computing requires more applications with 5G capabilities, particularly for mobile). Consumer Usage of AI Assistants: Sales in artificial intelligence (AI) assistants have increased amongst consumers and adoption is expected to increase, despite the security concerns. Many attribute this to work-from-home (WFM), which has led to consumers increasingly spending more on their homes (and thereby benefiting the "smart home" trend). This trend concurs with consumers' changed spending habits where more money is spent on their homes as seen in the record spending on gardening, home renovations, and various home-improvement projects

How do you calculate the customer lifetime value (LTV) and customer acquisition cost (CAC)?

1. First, the customer lifetime would be calculated using by dividing 1 by the monthly customer churn rate. Customer lifetime is the implied duration a customer will remain with a company. Customer Lifetime = 1 / Monthly Customer Churn Rate % 2. We'll then calculate the customer lifetime value (LTV), but we must calculate the average revenue per account (ARPA) before we do. To reiterate, the periods used must be consistent, so the ARPA calculation will use MRR as the numerator, which is divided by the total number of accounts. Average Revenue Per Account (ARPA) = Monthly Recurring Revenue / Total Number of Accounts 3. Next, the LTV will be calculated using the formula below since we have the ARPA, which will be multiplied by gross margin % and then divided by the MRR churn rate. Lifetime Value = ARPU × Gross Margin % / MRR Churn Rate % 4. Now that we have the lifetime value, we only need to calculate the CAC. CAC is the sum of all S&M expenses divided by the total number of new customers acquired. CAC = ∑ Total Sales & Marketing Expenses / Total # of New Customers Added 5. Lastly, we have calculated the two metrics needed to calculate the LTV: CAC ratio. LTV: CAC = LTV / CAC

In the SaaS industry, how would you measure sales efficiency? The various sales efficiency metrics and "magic number" are all variations of comparing new recurring revenue generated during a given period due to sales & marketing spend. As a broad generalization, these sales efficiency metrics are answering: "For each dollar spent on sales and marketing (S&M), what was the amount of new revenue generated as a result?"

1. Gross Sales Efficiency: Simply divides Gross New ARR (doesn't account for churn) by the S&M spend. Gross Sales Efficiency = Gross New ARR / Current Quarter Total Sales & Marketing Expense Prior Quarter 2. Net Sales Efficiency: Net Sales Efficiency accounts for both new sales and lost customers To calculate the net sales efficiency, the Net New ARR is first calculated. The Net New ARR calculation begins with the Net ARR from new customers, adds the Expansion ARR from existing customers, and then deducts the Churned ARR from lost customers. Net New ARR = Net ARR + Expansion ARR − Churned ARR Then, you'll divide the Net ARR as of the current quarter and divide by the S&M spend of the previous quarter. Net Sales Efficiency = Net ARR / Current Quarter Sales & Marketing Spend Prior Quarter

What are the two categories of programming we see in OTT?

1. Original Content: Offering original content can give an OTT service provider a significant competitive edge. Therefore, a company such as Netflix invests considerable amounts in content development (e.g., Stranger Things, Bird Box, House of Cards) to gain an edge over its competitors. 2. Licensed Programming: Licensed programming includes agreements to replay content previously aired elsewhere. The benefit of licensed programming is lower costs but at the expense of less control over the content (e.g., Disney pulled its content and Pixar content from Netflix's catalog as it rolled out Disney+).

There are two distinct groups in enterprise collaboration software, platform vendors and specialist players. Could you tell me how they differ?

1. Platform Vendors: Platform vendors have an existing portfolio of software products, an established brand name, and a trusted customer base. For example, Microsoft is a trusted brand with established security infrastructures and a loyal customer following - therefore, their strategic focus is integrating Teams into Office 365 and onboarding existing customers. 2. Specialist Players: Specialist players are new entrant, high-growth companies with one service offering (e.g., Zoom). While platform vendors can afford to offer free option plans over the long-term, specialist players must urgently acquire new customers and monetize them. For specialist players, the acquisition of new customers is the focus - whereas platform vendors can leverage their existing user base that's already familiar with using their products and have gained their trust

What is 5G, and what benefits will it provide?

5G is the next-generation network that's much faster (at full capacity) than 4G that it has the promise of dramatically accelerating the development of smart cities, autonomous vehicles, drone technology, virtual reality, public transportations, and manufacturing, agriculture, health care, and many other industries. The 5G communication system claims to provide 100 gigabits per second, which would be 100x faster than the speed of 4G communication. This coincides with the reduced latency and clearance of bandwidth issues associated with emerging new technologies (which 4G struggled to handle). The nationwide deployment of 5G has come at a slower pace than advertised. Today, many users with 5G devices are actually on a slower form of 5G because many carriers are rolling out different tiers of 5G (i.e., technically no mobile devices are on "5G" as of the current date). While the major US carriers have been racing to launch 5G this year, successful implementation in some form or another has only been in select regions and has been inconsistent. For those in less developed cities, the step-up from LTE (e.g., the download speeds) has been marginal, and many users have been left disappointed by the barely noticeable change. The shift towards 5G could take up to several years as this is the natural process of technology deployment, especially given its potential implications on society. However, 5G will be well worth the wait since it'll be the catalyst of what takes IoT to new levels and allows applications such as robotics, industrial automation, and autonomous vehicles to become a reality

For a company with a product meant for high frequency in usage, what is one way to assess user engagement?

A popular metric for measuring the level of user engagement ("stickiness") is the ratio between daily active users (DAU) and monthly active users (MAU). The DAU/MAU ratio, expressed as a percentage, is the proportion of monthly active users that engage with an application in a single day. DAU: MAU = Daily Active Users/Monthly Active Users × 100 For example, if the company's app has 500 DAU and 1,000 MAU, then the DAU/MAU ratio is 50%. This can be interpreted as the average user engaging with the app roughly 15 days in a 30 day month. According to Sequoia, the standard DAU/MAU is between 10% and 20%, but certain apps such as WhatsApp can easily top 50%. Note, this metric would only be useful for products with daily use (e.g., social media, messaging platforms, mobile applications). It wouldn't be useful for products that don't require daily use. For example, this metric would be useful for companies such as Facebook, Twitter, and Snapchat, but not applicable for Airbnb, Uber, and Lyft.

Why is the net dollar retention an important metric to measure alongside the ARR?

ARR cannot be looked at alone, as a SaaS company can grow ARR 100%+ each year yet have poor net dollar retention (<75%). Net dollar retention is a core KPI to look at when assessing an early-stage SaaS company's health, as poor NDR will eventually catch up and slow down the ARR if the underlying issues are not fixed. Net dollar retention is expressed as a percentage of the revenue from customers retained compared to the beginning period after accounting for upsells, upgrades/downgrades, and customer churn. NDR = (Starting MRR + Expansion MRR − Downgrade MRR − Churn MRR) / Starting MRR × 100 NDR > 100%: Indication of an increase in recurring revenue from existing customers - the top-performing SaaS companies can exceed this figure by a large margin, but most will target ~100% or slightly above. NDR < 100%: Contraction in recurring revenue due to downgrades in user consumption and churn.

What is the ideal LTV/CAC ratio that software companies target?

An LTV/CAC of >3.0x is considered sustainable and the typical target for most software companies seeking continual growth. An LTV/CAC of <1.0x is an unsustainable rate and implies the company is having difficulty monetizing its newly acquired customers. An LTV/CAC of >5.0x+ for an early-stage company means the management may need to spend more on new customer acquisitions.

Could you name an example of virtualized distribution?

An example of virtualized distribution would be cloud-based gaming. Often referred to as "gaming-as-aservice," cloud gaming offers gaming through remote servers and streams them directly to a user's device. Cloud gaming is a form of virtualized distribution instead of dependence on hardware (e.g., traditional disks). When it was initially released to the public and used by consumers, it was compared to Netflix due to its similarities in the consumer experience.

What are the advantages/disadvantages of being a vertical vs. horizontal software company?

Best of breed vs best of suite

For software companies, why are bookings a better proxy than revenue to measure growth?

Bookings are a more useful proxy to measure a SaaS company's growth because it's a forward-looking indicator that doesn't understate the true value of customer contracts the way accrual-based revenue does. For this reason, bookings are more useful when evaluating a company's sales & marketing performance and one of the main metrics used to portray projected performance when raising venture funding.

Many mistakenly use the terms bookings and deferred revenue interchangeably.

Bookings represent the contractual commitment of customers to use their products or services. The difference with deferred revenue is the customer has neither received nor paid for the products or services. For deferred revenue, the revenue is similarly unearned, but payment was received upfront.

What are bookings and are they recognized as revenue under GAAP?

Bookings represent the value of a contract a customer has contractually committed to spend, usually agreed to on an annual or multi-year basis. Although not recognized as revenue under GAAP yet, it's a key indicator of the company's prospects and is used for forecasting purposes as it indicates the direction the business is heading in terms of growth and momentum.

Tell me about the pricing models used in the OTT industry.

Broadly, there are three types of pricing models used by OTT providers: 1. Subscription Video on Demand ("SVOD"): The SVOD pricing model provides video-on-demand services that enable users to access an entire library of videos for a recurring fee under a subscription (most commonly a month). Once the user has paid the fee, they can watch unlimited content on any device using internet access. The most mainstream examples of SVOD include Netflix, Hulu, and HBO. At present day, SVOD is the most common type of VOD offered by media companies. 2. Transactional Video on Demand ("TVOD"): Under TVOD pricing, users purchase content on a pay-perview basis. Rather than unlimited access under SVOD, the users are charged per video or video package rather than the entire catalog. Examples of TVOD would be Google Play, Amazon Prime Video, and iTunes. 3. Ad-Based Video on Demand ("AVOD"): AVOD refers to video content that's available for free to consumers. Here, the revenue brought in is through ad revenue rather than directly from the consumers. An example would be Hulu, which offers SVOD plans in addition to a free AVOD plan.

What is cohort analysis and its primary use case for SaaS companies?

Cohort analysis is a behavioral analytical tool used by companies to understand their customers, which helps them take actionable steps towards improving customer retention and customer lifetime value. A cohort is defined as a subset (or group) of customers who share a certain characteristic. Some of the most common types of cohorts used are: Time-Based Cohorts: Customers are grouped based on the date of their purchase. Segment-Based Cohorts: Customers are broken down by purchase (e.g., a specific product, plan, tier). Size-Based Cohorts: Customers are split based upon size (e.g., small businesses, large enterprises). Once the cohorts have been defined, it becomes easier to analyze user behavior by each customer type and spot trends in the compiled data. Based on the patterns identified, the company then tests the hypothesis to determine its validity and effectiveness. One of the key insights that can be derived from cohort analysis is understanding why certain customers churn, and then what measures can be taken to minimize churn.

How can a software company decrease its churn?

Focused Market Segmentation: The first method is to segment the customer base and identify the lower churn customers to direct selling efforts. Through trial-and-error, the company should understand its market in more detail over time and adjust based on where demand appears to be the strongest (i.e., double down on the most profitable segments). Besides product validation, narrowing down the target customer market should be a key priority of any startup. Improved Customer Interface: The software company should continuously maintain contact with its existing customer base and provide value through additional insights and discounts to preserve and better their relationship. While interfacing with customers, feedback should always be collected, analyzed, and taken into consideration. Upfront Payments: The software company could make additional efforts to promote its annual payment plan (i.e., more discounts, benefits) to receive the full payment upfront. With upfront payments or any long-term contractual commitments, it's far less likely for a customer to churn if they're on an annual plan. Variable Pricing Model: Another option is to create a pricing model that introduces more payment options based on variables such as the number of seats, number of licenses, or amount of features. While this may lead to some downgrades from users, increased optionality helps reduce lost customers.

Many investors initially dismissed Roku following their IPO. Why has the company far exceeded initial expectations to date?

Following their IPO, many investors had a negative outlook on Roku, given the ongoing shift away from hardware. Competitors such as Apple with its cult-following were expected to steal Roku's customers with ease. But to the surprise of many, Roku is one of the market leaders in 2020 for connected TV platforms and has outperformed expectations. Despite still using hardware (e.g., the stick users plugged into the TV), Roku made several strategic moves that enabled them to have a leading position. Roku partnered with television manufacturers to make Roku OS come built-in the TV right out of the box. Despite having an arguably outdated design, its simple interface, ease-of-use, and affordability created a niche. Next, Roku established partnerships with Netflix, Hulu, and Disney+ to allow its users to stream any of the top media apps from their TV. This level of independence from not trying to get customers to use a certain app over another (i.e., from Amazon, Google, Apple) is a key reason it has become the choice of consumers - all Roku concerns itself with is providing an easy, affordable way for customers to stream content from their homes.

Which valuation multiples are used most commonly in SaaS?

For public SaaS companies, EV/Revenue remains the primary valuation metric. But as the industry matures, the market is rewarding companies with healthy EBITDA margins more, and EV/EBITDA has increased in usage for industries where the market leaders have become clear as seen by their market share. When looking at unprofitable companies, EV/Revenue and EV/ARR are two of the most commonly used multiples, along with user-based multiples such as EV/DAU, EV/MAU, and EV/Monthly Subscription Users. Given the prevalence of acqui-hiring in SaaS, two multiples looked at in those acquisition-type situations are EV/Total Funding Raised and EV/Total Employee Count.

What is the difference between gross margin and contribution margin?

Gross Margin: Measure of how expensive it's to develop a product, consisting of both fixed and variable product direct costs. Gross Margin ($) = Revenue - Cost of Goods Sold Contribution Margin: Calculated on a per unit basis, contribution margin measures profit per unit without considering fixed costs. The contribution margin enables you to list out the different product lines of a business to identify which ones are the most profitable on a per-unit basis. Contribution Margin ($) = Unit Revenue -Unit Variable Costs

What major licensing deal did Spotify complete in 2020?

In May 2020, Spotify shocked the podcasting market after announcing that Joe Rogan, the host of the Joe Rogan Experience, had agreed to an exclusive $100 million licensing deal. The Joe Rogan Experience is widely considered as being one of the most popular podcasts in the US, with each episode receiving millions of views. Spotify CEO Daniel Ek has stated that he had realized that podcasts and audiobooks would be the future of Spotify, rather than music alone. These acquisitions and partnerships accelerate the path for Spotify to become the leading audio platform. The gradual change in strategy could be seen in the acquisition of podcast networks Gimlet Media, Anchor, and The Ringer, but the acquisition of JRE was by far the highest-profile strategic move by Spotify to establish itself in the podcast market.

What is the "Rule of 40" in the SaaS industry?

In recent years, a popularized measure of growth is the "Rule of 40," which states that 40% of a company's growth rate added to their profit margin should exceed 40%. The rule suggests a company with low (or negative) profits can still be valued at a high multiple as long as its growth rate counterbalances the cash burn. Most often, MRR or ARR is used for the growth rate, while the EBITDA margin in the same period is used for the profit margin. Opinions differ on what stage this rule becomes applicable and its usefulness as a metric, but it's a simple measure to make sure the trade-off between growth and spend is balanced (and prevent the "growth at all costs" mindset).

Which companies do you expect to benefit the most from the increased adoption of 5G?

In the US, the companies that stand to benefit will be the leading wireless networks such as AT&T, T-Mobile, and Verizon, especially when you consider their collective market share in the wireless carrier space. Many semiconductor companies are also expected to benefit, such as Qualcomm, Broadcom, and Qorvo. Qualcomm recently announced a new portfolio of 5G infrastructure semiconductor platforms, Broadcom is a leading vendor of chips for 5G smartphones, and Qorvo is a supplier at the forefront of radio frequency (RF) solutions.

What metrics would you use to measure user engagement?

In the context of media companies, user engagement is the level of involvement a customer has with a particular product, such as a website, application, or online platform. Higher user engagement rates imply users derive value from the product (leading to continued usage). This is of high importance for media companies because user engagement leads to customer retention and more recurring revenue. User Engagement KPIs Daily Active Users (DAU) and Monthly Active Users (MAU) Active Subscriber Count Time Spent In-App Per Day or Week Pageviews/Website Hits Churn Rate (Retention %) Conversion Rate (Free Paid Plan)

Tell me about the trend of verticalization in the SaaS industry.

In the early days of SaaS, vertical software companies received less interest and lower valuations from investors when compared to horizontal software companies. The implicit assumption being that their limited scalability would make multi-billion dollar exits unattainable. Today, nearly every industry runs on software or is affected by it indirectly, which can be attributed to vertical solution providers ("VSPs"). By creating specialized products tailored to serve the needs of new or underserved markets, many of these VSPs have proven to redefine their target industries and obtain market leadership. Since many of these segments served were slow to adopt technology and neglected by many horizontal software companies due to the level of customization necessary and technical requirements, there was an abundance of opportunities to bring value-add solutions specifically put together for their unique needs and challenges. The common pattern seen was one product being integrated into an underserved niche segment and then over time, companies would develop a platform of tools tailored for their customer base. Given their timing advantage and the lack of competition in the market, this enabled their developers to focus on product development and further improve upon their competitive advantage. The number of vertical software providers has increased substantially, along with premiums in their valuations. Through offering specific, tailored solutions designed to address the unique demands and challenges faced by niche areas, VSPs had the advantage of increased value-add opportunities from customization, a loyal customer base with less churn, and more pricing power.

How have the acquisitions of Time Warner and DirectTV by AT&T performed to date?

In the past five years, AT&T has spent billions to position itself well for the streaming wars. Its M&A spending spree began with its acquisition of DirecTV in 2015 in a $49 billion deal, which appeared to be a well-planned, strategic acquisition when media companies were benefiting from a surge in online video consumption from consumers. Then the hugely controversial merger with Time Warner took place in 2018. Since then, AT&T's streaming ambitions have appeared overzealous, and it currently owns many seemingly redundant streaming brands such as HBO Go, HBO Now, AT&T Now, AT&T TV, AT&T WatchTV, AT&T U-verse, and DirecTV. By the end of the fiscal year 2019, AT&T carried more than $150 billion in debt on its balance sheet - which flowed down to its customers through increased pricing. In its FY 2019 annual report, AT&T not only lost traditional TV service customers but internet video platform users. Initially, AT&T had expected to benefit from the influx of new subscribers acquired from DirecTV and use this leverage in negotiations with programmers. Then, by merging with Time Warner and the acquisition of HBO, AT&T would have access to original programming and be the most well-rounded premium service offering in both quality and quantity. While the original grand vision was to create a media conglomerate; instead, it saddled AT&T with massive debt, higher pricing plans than its competitors, and a lagging market position despite all their spending. The questionable M&A strategy of AT&T gave them a seat at the table for the streaming wars and made them a more modern, diversified company, but it came with such significant expenses that to this day - it's not yet clear whether those acquisitions were the right decisions (or if they were all necessary).

What is the SaaS Quick Ratio?

Mamoon Hamid popularized his variant of the Quick Ratio, which compares MRR growth (from New MRR and Expansion MRR) to MRR loss (from churned MRR and contraction MRR) in the same timeframe. The formula for calculating SaaS Quick Ratio is shown below: SaaS Quick Ratio = (New MRR + Expansion MRR) /(Churned MRR + Contraction MRR) For interpreting the output, a ratio less than 1 is means MRR is being outpaced by the rate of churn, a ratio between 1 and 4 means MRR is above churn but still losing lots of growth potential, and then the optimal target Hamid mentions is 4. There are four factors in the formula: 1. New MRR: MRR increase from new subscriptions following new customer acquisitions and bookings. 2. Expansion MRR: MRR increase from upselling and cross-selling opportunities. 3. Churned MRR: MRR lost from the churn, in which customers have canceled their subscription. 4. Contraction MRR: MRR lost from downgrades in subscription plans.

Why would it be a mistake to use bookings and deferred revenue interchangeably?

Many mistakenly use the terms bookings and deferred revenue interchangeably. Bookings represent the contractual commitment of customers to use their products or services. The difference with deferred revenue is the customer has neither received nor paid for the products or services. For deferred revenue, the revenue is similarly unearned, but payment was received upfront.

If a SaaS company has net negative churn, what does this mean?

Net negative churn occurs when a SaaS company's expansion revenue from existing customers exceeds the revenue lost from existing customers, from cancelations and downgrades. A key distinction of this metric is revenue from new customers is not factored in. Therefore, net negative churn means recurring revenue from existing customers by itself can offset higher-than-normal churn. While customer attrition rates want to be minimized, being capable of weathering a sharp decline in new customer acquisitions confirms the value being provided to existing customers.

What is net neutrality?

Net neutrality is the idea that internet service providers (ISPs) should treat all online data equally, without preference towards certain users or restricting access content or discrimination towards others - hence, the name "neutral." If net neutrality were not to exist, ISPs could place restrictions on the kinds of access to content on the Internet (i.e., hinder downloads, uploads, application usage). Also, the ISPs could intentionally slow down or speed up the internet based on where the access is based (or the owner).

How do you calculate net new MRR for a given period?

Net new MRR is computed by taking the new MRR from new customers, adding new expansion MRR from existing customers, and deducting MRR churn from lost customers. Net New MRR = New MRR + New MRR Expansion − MRR Churn

What are some examples of barriers to entry that can help protect a company's profit margins?

Network Effects: Network effects are the incremental benefits from more users joining a platform and once a platform has attained critical mass in users (i.e., reached the inflection point of product adoption), it becomes very difficult to take market share away. Economies of Scale: Improved cost structures from the increased scale can be a barrier to entry that deters competitors, as the existing incumbents have a clear advantage in profitability and thus have more cash flows to reinvest into the business. Since the unit costs of a product decline as the volume increases, new entrants would come in with a significant cost disadvantage right away. Proprietary Technology: By having a differentiated offering that nobody else has, competition would be non-existent (or minimal), especially if there are patents involved. High Capex Requirements: Capital requirements related to infrastructure, machinery, and R&D to get a business started can deter new entrants. Switching Costs: Unless the new entrant has a significantly better product/service than the current offerings, switching costs can serve as a barrier (i.e., the switching costs outweigh the benefits). Regulatory Hurdles: The government and regulatory requirements can serve as barriers to entry, especially in highly regulated areas such as healthcare. These requirements to receive approval to enter a market can deter new entrants but benefit existing incumbents.

What are some ways that software companies can grow their recurring revenue?

New Customers Acquisitions: Increase sales & marketing spend, enter new channels/markets Higher Average Selling Price (ASPs): Requires pricing power over their customer base More Cross-Selling: Easier to sell complementary products/services to existing customers Increase Upsell Rate: Benefits from the additional revenue derived from existing customers

Tell me about an ongoing trend in the news industry.

Nowadays, many writers, including reporters and journalists, are increasingly starting their independent online newsletters. These writers are creating mini-news platforms through an online email newsletter. With distrust of the media at an all-time high, a growing number of writers and readers have been gravitating towards newsletter platforms such as Substack. By doing so, creators have full autonomy over not only the pricing but their content. Also, rather than generating revenue through advertisements, these writers are paid through subscription plans that many of their readers pay each month. This trend of newsletter platforms is the decentralization of the news, which has increasingly become governed and censored by publishers. Other examples include the continued digitalization of news to more mobile, news aggregation services (e.g., Reddit, Apple News), Twitter as a news platform, and daily/weekly curation newsletters.

How did TikTok become such a popular app in an industry that's considered as being near a monopoly in terms of competition?

Owned by ByteDance, TikTok is a video-sharing social networking application that allows its users to make and share short ~15-second clips. At first glance, the platform doesn't come across as noteworthy, given how similar it sounds to the features of Snapchat, Instagram Stories, and Facebook Stories. But the reason TikTok achieved such rapid adoption was because of its focus on user-generated content. More specifically, just about any person could go "viral" and garner millions of views on this app. Compare this to a platform such as YouTube, where the front page is filled with content created by well-known people (often sponsored partners). A similar application, Vine, was one of the first short-form video sharing applications to gain mainstream adoption and was acquired by Twitter. However, Vine was eventually shut down, which many attribute to its biased algorithm in which endorsed content was disproportionally promoted on the app (making the content repetitive as the same branded creators would be shown and often recycled in the feed). Given how TikTok's main appeal appears to be the aspect of users discovering new content by unknown people, it seems unlikely TikTok will make the same mistake as Vine, especially given how the company has stated its mission is to enable everyone to be a creator and share their creative expression through their videos. While this question won't appear in an interview, it's useful to understand the niche of the leading technology companies within an industry. Likewise: How has Snapchat performed well to this date despite many believing Instagram Stories (practically a copy-cat of Snapchat's features) would kill the app's usage?

Tell me about a few of the ongoing trends in the enterprise collaboration software industry.

Platform Vendors vs. Specialist Players: As the market matures, collaboration solutions that offer a suite of offerings under a unified platform will have a key competitive advantage. Third-Party Application Integrations: To compete with larger established vendors, specialized singleapplication companies must include more third-party application integration within the collaboration ecosystem to increase end-user satisfaction. Upcoming Consolidation Phase: The market remains highly fragmented with a low barrier to entry, making it ripe for M&A activity (e.g., productivity apps, note-taking apps, time management apps, employee tracking, and scheduling apps). Thus, more enterprise software providers will include social software and collaboration into their product mix. Shift Towards Remote Work: Before COVID, approximately ~70% of the global workforce worked remotely at least once a week. In 2020, remote work became completely normalized in our society, and many large corporations have stated they intend to continue working remotely for the foreseeable future. Security → Customer Trust: Privacy and security concerns will be a major topic of discussion in the future - earlier in 2020, Zoom came under scrutiny after major security flaws and platform deficiencies were uncovered. Thus, Zoom rolled out more encryption offerings and acquired Keybase to strengthen its security and regain users' trust.

Would you consider B2B software to be non-cyclical?

Robert F. Smith of Vista Equity Partners once stated that "Software contracts are better than first-lien debt. You realize a company will not pay the interest payment on their first-lien until after they pay their software maintenance or subscription fee. We get paid our money first." Today, many B2B software applications have become essential, embedded parts of companies - meaning, the removal of a software product from a business would leave its operations unable to continue functioning. Also, most software arrangements are structured as long-term contracts and include high switching costs. For these reasons, B2B software would be considered non-cyclical and resistant to downturns.

What is the CAC Payback Period?

The CAC payback period measures how many months it takes for a company to recuperate its customer acquisition costs. The shorter the CAC payback period is, the sooner the company can break-even and become more profitable. In terms of the industry benchmark, the general aim is less than 12 months. The top, best-inclass SaaS companies average ~6-12 months, but most average ~18 months. CAC Payback = Customer Acquisition Cost Average / ( MRR Per Customer × Gross Margin %)

What is the FCC agency and what is its role as a regulatory agency?

The Federal Communications Commission ("FCC") regulates all interstate and international radio, television, wire, satellite, and cable communications in the US. The agency consists of a five-member panel appointed by the President of the US and confirmed by the Senate. The FCC aims to protect consumers from unfair increases in prices or be forced to accept lower quality services and prevent companies from becoming monopolies to where others cannot join the market from the barriers being too high.

Tell me about the controversial T-Mobile and Sprint merger that brought up concerns of a monopoly and how it ended up being approved.

The T-Mobile and Sprint merger was finally approved and completed in 2020, after the initial deal announcement in 2018 and delays related to regulatory scrutiny. The merger was controversial as it effectively brought down the number of major cell phone carriers in the US down from four to three. As part of the agreement for the acquisition to be completed, T-Mobile agreed not to raise prices for three years. Thus, TMobile and Sprint users cannot see any price increases until 2023. One reason the Justice Department agreed to the T-Mobile and Spring merger was because of DISH Network's involvement. To secure the Justice Department's approval, the two carriers agreed to divest certain assets to DISH, most notably its prepaid subsidiaries (e.g., Boost Mobile), spectrum licenses, and many of Sprint's retail stores. DISH would become a viable 4th wireless carrier, allowing for healthy competition to be maintained.

What does the LTV: CAC ratio represent and why is it an important metric to track?

The first and arguably most important metric for evaluating software businesses is the ratio of customer lifetime value ("LTV") over customer acquisition costs ("CAC"). The LTV is the total value that a single customer will generate for a business over its lifetime, whereas CAC is the total cost incurred to make the customer purchase the products and/or services being offered. LTV: CAC Ratio = Customer Lifetime Value / Customer Acquisition Cost Put together, the LTV: CAC Ratio ratio effectively shows what the lifetime value of a customer is to a company relative to the costs associated with the acquisition of that customer. The question being answered here is: "Is the company deriving enough value from their customers to justify the costs spent to acquire them?"

For SaaS companies, what is the "magic number" and why is it used?

The main weakness with the net sales efficiency metric was that not all public companies disclose the necessary figures required for the calculation. To bypass this, Scale Venture Partners developed its own "Magic Number" to enable meaningful comparison amongst companies. Net New ARR is replaced with the difference between the two most recent quarterly GAAP revenue figures and then annualizes it. Magic Number = [(GAAP Revenue Current Quarter − GAAP Revenue Previous Quarter) × 4] / (Sales & Marketing Previous Quarter) A Magic Number <0.75 is considered inefficient, between 0.75 to 1 is efficient, and >1.0 is very efficient.

What impact did the success of Fortnite have on business models in the gaming industry?

The online video game Fortnite was unique in that it had a "free-to-play" business model, yet it generated well over $2 billion in revenue across all platforms and became one of the most successful games that brought mainstream attention to Esports. Rather than selling its game for an upfront fee, Epic Games (the publisher of Fortnite) made the game free to download - betting on its ability to monetize content through offering optional in-game purchases of different costumes, skins, Battle Passes, and V-Bucks. By offering the game for free, Fortnite amassed a cult-like following in a very short duration because of the minimal friction for a user to play with their peers. And this popularity and customer acquisitions led to opportunities for sponsorships, ad revenue, and live competitions. In effect, the success of Fortnite made video game incumbents realize the revenue potential besides the initial purchase (e.g., Esports, advertising, in-app purchases, priced unlocks).

What effect does having high operating leverage have on the scalability of a business?

The operating leverage represents the proportion of a company's cost structure that consists of fixed costs, as opposed to variable costs. Thus, companies with a higher proportion of fixed costs in their costs structure have greater operating leverage. High Operating Leverage: If the company has high operating leverage, each additional dollar of revenue can be brought in at higher profits once the fixed operating costs are paid. Thus, each marginal unit is sold at a lesser cost, creating the potential for greater profitability since fixed costs such as rent and utilities remain the same regardless of output. Low Operating Leverage: If a company has high variable costs, each additional dollar of revenue may generate less profit as costs proportionally increase alongside increased revenue (i.e., the variable costs offset the additional revenue). If revenue were to increase, these costs would rise in tandem (or vice versa).

Where do the opportunities for monetization in the Esports industry lie?

There are four general monetization strategies for the Esports industry: merchandising, sponsorships, media rights, and gate revenues. But most industry revenue comes from advertising, which is a direct function of audience count and engagement hours, rather than just viewership. Therefore, advertisers see a large market opportunity in Esports, as these streams often have some of the highest levels of engagement, and there's a level of trust between an Esports athlete and his/her fans that's rare to find these days. Esports athletes (especially those that stream on video platforms) often stream for hours daily and interact with fans, thus creating a sense of community. However, Esports is often considered difficult to monetize as the Esports audience is heavily skewed towards the younger demographic, who have less discretionary spending power.

How would you forecast the subscription revenue for Netflix?

The revenue of an OTT provider such as Netflix would be based on its ability to minimize churn. Netflix has established itself as the market leader with the highest market share. From now on, Netflix's success (or failure) in being able to fend off new entrants such as Disney+ and Hulu will be very impactful on Netflix's revenue forecast and anticipated churn. 1. Renewal Rate: The first metric to begin with would be the number of paid memberships at the end of the period. This is mostly a function of the renewal rate of Netflix's existing customer base. Netflix doesn't disclose its customer renewal rate or churn, but there are streaming services analytics reports to use as estimates. The key question is: "Can Netflix hold on to the new customers that subscribed during the stayat-home period, as well as prevent its customers from leaving for its competitors?" 2. New Subscribers: Then, the number of paid net membership additions can be forecasted. For a mature market-leading company such as Netflix, this metric was relatively stable, but COVID and the emergence of new competitors have made this a challenging task. One consideration should be Netflix's pricing increase in late 2020 at a time when the competition in the OTT space has increased substantially. But most consider the increase to be modest and the impact on churn will be negligible. Plus, its new plans for up-and-coming content will be important - this would have to be compared to the offerings of its competitors (Hulu and Disney+ in particular). For this reason, the churn forecasted should be a wide range as it depends on how customers react to the new content quality. 3. Average Monthly Fees: Next, the average monthly revenue per paying membership would be forecasted. This will be straight-forward and done based on historical averages and trends, as well as with the recent price increase in mind. But the pricing plans shouldn't deviate much in the future, especially with the ongoing attempts to undercut Netflix's pricing. Since the subscriber counts are in annual figures, you would need to annualize this fee amount. 4. Total Subscription Revenue: To wrap up this basic revenue build, you would take the projected subscriber count (net of customer churn) and multiply this figure by the annualized average membership fee to get Netflix's revenue for the year, and then continue this for the rest of the forecast.

Why is the semiconductor industry known for being cyclical?

The semiconductor industry highly depends on the economic conditions (i.e., usually follows GDP growth rate), as IT spending fluctuates heavily based on how the economy is doing. Besides being tied to enterprises' spending trends, it depends on new device purchases such as smartphones and laptops by consumers, which are very cyclical and decrease substantially during downturns. Another aspect is how the industry's products have short life-cycles and can become obsolete quickly once better new developments occur, even from minor incremental improvements. Hence, the industry is known for inventory build-up and write-downs of inventory.

How would you calculate revenue churn?

The two most common revenue churn rates calculated are: 1. MRR Churn: This represents the lost MRR from the churned customer as a percentage of MRR. MRR Churn % = Churned MRR / MRRPrevious Month 2. Net MRR Churn: This represents the lost MRR but accounts for the MRR expansion from existing customers. If expansion MRR offsets (and outpaces) the lost MRR, the net MRR churn will turn negative. Net MRR Churn % = Churned MRR − Expansion MRR / MRRPrevious Month

What is the difference between total contract value (TCV) and annual contract value (ACV)?

Total Contract Value: TCV is the total value of the contract and is independent of the time frame (i.e., the period can be a month, six months, twelve months, etc.). Annual Contract Value: ACV measures the contract's value over twelve months - and is thus the better metric to use when making comparisons across the industry since it's annualized.

What are the most common types of business models in the telecom and media industry?

Traditional Equipment Sales/Wireless Services: The first category comprises the traditional range of telecommunications equipment, networking products, and wireless services (e.g., Wi-Fi plans, cable television). As the oldest segment in TMT, recent revenue growth has been very low because this type of revenue is related to one-time equipment sales and then monthly plans, making revenue growth a function of geographic expansion (which has begun to stall). However, companies in this space tend to benefit from high operating leverage, barriers to entry, and lack of competition; hence, the anti-trust concerns. The incumbents are few and include companies such as AT&T, Verizon, and T-Mobile. Subscription-Based Streaming: The next category would include companies such as Netflix, Hulu, Spotify, in which business models are built around new customer acquisitions, minimizing churn, and increasing pricing by offering more value than their competitors. For companies in this segment, user count growth is the priority and many have no clear pathway towards becoming profitable without first achieving significant scale. Streaming has quickly become one of the most competitive spaces across all industries as traditional industries such as cable television and radio have been completely disrupted and new developments appear (e.g., cloud gaming, Esports) Advertising: This category would include companies such as Facebook, Twitter, and Google, which are companies that focus primarily on metrics such as MAU and DAU. Given their reliance on advertising, user engagement a key measure when assessing these companies' recent performance. While industry growth has been very strong for years now, particularly for the leading companies, the greatest hurdle looking ahead appears to be increased efforts by regulatory bodies to restrict user data collection and attempts to break-up these tech monopolies (citing anti-trust regulations). Media Networks/Diversified Entertainment: This category involves companies that create, acquire, and distribute programming content such as movies, films, theater events, and other media content. Through their broad reach, these companies can produce revenue from various segments such as advertising, affiliate fees, subscriptions, product sales, and licensing. Companies under this category could be best described as "media conglomerates" and examples include ViacomCBS, Disney, and NBCUniversal.

What are the different types of expansion MRR?

Upselling: Convincing existing customers to spend more on an upgraded version of the products/services they're already using with additional features, add-ons, or capabilities. Cross-Selling: Offering customers complimentary products or services that enhance the product the customer is already using. Add-Ons: Providing opportunities to unlock more features or widgets currently not part of a customer's plan, so additional features must be unlocked

What are the five types of virtualization?

Virtualization refers to running multiple operating systems on a single system simultaneously, resulting in reduced IT expenses and increased efficiency for businesses. 1. Desktop Virtualization: Desktop virtualization is when a desktop operating system can run as a virtual machine on a physical server with other virtual desktops. 2. Application Virtualization: Application virtualization packages several applications into a single application, which is then separated from the operating system to run in a "sandbox." 3. Server Virtualization: Server virtualization enables many virtual machines to run on one physical server, which leads to more efficient utilization of the physical server. 4. Storage Virtualization: Storage virtualization is physical storage being grouped to have a single storage device in a virtual format. 5. Network Virtualization: Network virtualization combines hardware appliances and software to enable management from a single external virtual network (i.e., aggregate various physical networks into one network).

Why is product revenue preferred over service-based revenue in the software industry?

When most of a company's revenue comes from product revenue rather than service revenue, it leads to higher gross margins and better scalability. In comparison, services-based revenue is less-recurring, has much lower margins, and is less scalable.

Name a weakness in Spotify's business model that explains its lack of profitability.

While Spotify's fixed costs (e.g., SG&A and R&D) are in line with its comparables, Spotify's problem is its marginal costs. These marginal costs are mostly related to the royalty fees it pays to record labels, songwriters, and publishers. In contrast to Netflix, Spotify has close to no original content, although they're negotiating new deals for lower rates and their mass adoption of subscribers provides an incentive for record labels to partner with Spotify to expand their reach. Spotify's value proposition to its customers completely depends on record labels - who ultimately control the rates charged. To add insult to injury, competitors such as Apple offered free trials that lasted up to 3+ months. Similar to the Disney/Netflix relationship, Apple's revenue comes from diversified sources, unlike Spotify

In the SaaS industry, what is a reasonable customer churn rate?

Within the software industry, a churn rate of ~5% annually is the norm. However, this rate must be compared to its closest competitors to understand the end-users and understand the expected churn.