Margin Progression – a case study lens to “What Great Looks Like”

In a world where investors are increasingly valuing profitability over growth, we thought it worthwhile to spend time thinking about 'what great looks like' as it relates to margin expansion for fast growing, software companies of scale. This work has since been presented to a management team of a public TDM portfolio company to test their thinking on their own margin progression journey.


To more deeply understand ‘what great looks like’ as it relates to expanding operating margin over time, we analysed 23 SaaS companies that listed on US exchanges between 2012 and 2016 all with greater than $300m in revenue. This provided both an adequate sample size, but more importantly a meaningful track record of life as a public company.

As seen in the images below, we divided these 23 companies in three cohorts based on actual operating margin progression over the time period. What emerged from this is a ‘great’ cohort of eight; Hubspot, ServiceNow, Workday, Veeva, Qualys, Box, Zendesk and Workiva.


1/ The impact of margin progression on stock price performance

Margin progression has a meaningful correlation to a software company’s stock price performance over the long-term. The ‘great’ cohort’s stock compounded at ~26% CAGR over six years. This is compared to 6% p.a. for the ‘bad’ cohort, and 20% p.a. for the broader cloud index.

Not only did these eight outperform the market over the last six years, they have also held up better in the bear market of the last 12 months. See slides below.

2/ There are just five companies that have managed to achieve high revenue growth (25%+) whilst maintaining strong margin progression. This is the “outstanding” cohort.

This ‘outstanding’ cohort – HubSpot, Veeva, ServiceNow, Zendesk and Workday –  provide a range of lessons for operators. To be able to drive top line growth while executing on margin expansion at scale is no mean feat.

While their respective individual journey’s from c$300m to $1b in revenue are nuanced, collectively they provide a variety of interesting data points to learn from. For ease of comparison, over the following five years from reaching ~$330m revenue, the outstanding cohort:

  1. Grew at a median rate of ~35-45% p.a. over the next 5 years while delivering ~300-400 bps of annual operating margin leverage. (Slide 1 below);
  2. Significant operating leverage was unlocked across all companies from COGS, S&M and G&A – an average of 190bps, 140bps and 70bps annual margin improvement respectively across these three operating expenses. (Slide 2 below); and
  3. Maintained or increased R&D as a % of revenue as companies scaled. This could indicate theimportance of research, development and innovation to maintaining durable growth and competitive advantage. (Slide 3 below).

3/ How the very best communicate margin progression to the market

What was also clearly apparent, was how well the ‘outstanding’ cohort consistently and clearly communicated both their plans and execution to the market as it related to margin expansion. We do believe that this, alongside incredible execution, has contributed to the shareholder returns as seen in (1).

Two examples stand out and are great case studies for IR teams more broadly.

  • HubSpot – every quarter since 2017, HubSpot recommit to the same financial framework tying growth and profit targets. They have established a track record of setting and achieving long term goals, and the market have rewarded them for this execution. (Slide 1 below).
  • ServiceNow – using a similar framework to Hubspot, ServiceNow are one of the few who offer margin and growth targets by date. There are many provide companies that provide only generic ‘long term’ goals, or worse still, no target. Investors crave both clarity and comprehensiveness when it comes to IR. (Slides 2 and 3 below).

In a world that is no longer ‘growth at all costs’, this data has really helped shape our own thinking as it relates to what great margin progression both looks like and how best it can be communicated. There are a multitude of lessons for executives of all fast growing public companies that have had to deeply think about, and commit to, how their business will react in this new environment.

About the author

Tim is hybrid of a data-head and big picture thinker. It’s this hybrid that makes him such a valuable team member across many different aspects of our investment process.

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