Revenue Operations. Stephen Diorio

1.1 The Revenue Cycle

The Financial Link Between Firm Value and Growth

      An organization's ability to grow revenues has become more and more tied to firm value than at any time in our business lives.

      This relationship can be seen in the high valuations awarded to businesses that can deliver predictable, scalable, and profitable growth. For example, the marketplace values firms with hyper growth (e.g. annual growth over 40%) and predictable revenues (e.g. Net Annual Recurring Revenues of over 100%) disproportionately. That is why a hyper-growth business like HubSpot commands price/earnings ratios in the hundreds while not yet showing a profit. It also explains why a SaaS business like Salesforce.com with double-digit growth rates and recurring revenue streams will have a valuation in excess of 60 times its earnings – more than triple the S&P 500 average.⁶⁰

An analysis of total shareholder return of the S&P 500 over a 20-year span found that 58% of value creation is attributed to organic growth (see Figure 1.2). That means the ability to grow revenues organically has created more firm value than all efforts to reduce costs, expand earnings multiples, and improve free cash flow combined.¹⁰¹

      The capital markets value growth. Generating more consistent growth is a formula every business can use to create value. Private investors need growth to justify the historically high prices they are paying for businesses. Growth attracts talented employees, and buyers view it as a sign of innovation, quality, and validation.

FIGURE 1.2 Sources of Shareholder Return. Source: Data from E. Olsen, F. Plaschke, D. Stelter, “Threading the Needle: Value Creation in a Low Growth Economy”

FIGURE 1.3 Revenue Growth and Firm Value. Source: Blue Ridge Partners, Pitchbook, Blossom Street Ventures, Dow Jones, Refinitive 2021, Inc 500, NASDAQ

Today the average business in the S&P 500 is growing top-line revenues at 4% annually and is valued at 18 times earnings (see Figure 1.3).⁵² A firm that grows at double that pace is worth almost twice as much. Businesses that master scalable growth – by creating systems for growing revenues faster than the resources needed to generate those revenues – are even more valuable. For example, businesses that grow fast and have recurring revenue models are worth over forty times their profits. Companies like Google, Salesforce.com, or Citrix that have mastered the ability to scale revenues faster than costs are even more valuable. This is why so many private equity firms push their portfolio companies to move to a recurring revenue or cloud business model.

The growing importance of Revenue Operations as a practical way to create firm value is not lost on the owners and boards of high-growth businesses. Average purchase price multiples are at historic highs. PE investors are now paying in excess of 13 times EBITDA (which are earnings before interest, taxes, depreciation, and amortization) to acquire businesses. Most PE firms believe financial engineering will not be enough to justify such high prices and deliver their LPs the returns they expect.⁶⁰ As evidence of this, over two-thirds (68.1%) of private equity firms are pushing their portfolio companies to grow at faster than 10% a year⁵⁸ to justify the price premiums they have paid.⁵⁹ Several private equity firms like Rockbridge Growth Equity, Morgan Stanley Private Equity, Tengram Partners, and Vista Equity Partners have created a growth culture, operating model, and infrastructure to support accelerated growth at scale across their portfolio. These growth-oriented investors have created centers of excellence in demand generation, call centers, and digital marketing channels. For example, Rockbridge is the private equity (PE) arm of the Quicken Loans group. They have been able to leverage their highly sophisticated marketing capability and focus on customer experiences that Quicken Loans used to become the #1 mortgage provider and launch Rocket Mortgage as a major brand across the other firms in the portfolio. Jim Howland, an Operating Partner at Morgan Stanley Private Equity, sees the role of the private equity investor evolving from pure financial engineering toward enabling faster revenue growth in the last few years. “What you do with an asset is as or more important as getting that asset at the right price,” reports Howland. “The reality is that if you want to attract good deals and make a return in today's PE world, you need to have a plan for how you will add value over the entire ownership period and build it into the price you pay for the asset. And a big part of that value plan is built around marketing and growth capabilities.”¹⁰³

      Investment banker Ben Howe, CEO of AGC Partners, reinforces reports that Private Equity owners are increasingly creating value using a “buy, grow, and build” model of governance and enablement. “The top tech buyout funds including Vista, Thoma Bravo, and Insight are relentless in their programmatic efforts to build organically and apply operational best practices to enhance organic growth via ongoing technology, go-to-market initiatives and product improvements across the organization” reports Howe. “Stories like Vista taking Marketo private for $1.8 billion with ample leverage, growing it at 66% and then selling it to Adobe for $4.8 billion generating a multi-billion dollar return in just 2 years tends to get LP's attention.”¹⁰³

      Unfortunately, many people still perceive growth as a form of “art” and fail to understand the science of growth. These people often see business functions through a very narrow lens: marketing is a creative discipline with little or no connection to financial outcomes; selling is about personal relationships, not method; and superstar sellers are treated as kings and queens – despite being hard to manage and even harder to replicate.

      Also, executives cannot agree on the causal chain of events that leads to revenue growth and future cash flow, the keys that underlie firm value. This leaves executives without a financially valid way to make growth bets, weigh trade-offs, and optimally allocate resources across growth alternatives. It also makes it difficult to build a business case and management consensus on the capabilities that can create the greatest value to the firm. For example, most business leaders pay lip service to the notion of being data driven, digital, agile, and customer focused as a basis for competitive advantage. They understand these things are strategically important, but in most cases, they don't have a basis for evaluating these strategic value drivers and lack a tangible set of corporate initiatives to exploit them in the marketplace. Academic research proves, however, that these are the primary causal factors that determine the financial value of the enterprise.

Corporate executives struggle with the long-term growth formula. They can rarely agree on the big questions underlying their growth strategy such as the measurement, value, and importance of growth assets. “With all the focus on advanced analytics and data-driven marketing, not much progress has been made on understanding the fundamental math of growth in a business,” reports Professor Dominique Hanssens of the UCLA Anderson School of Management and author of the book The Long Term Impact of Marketing. “In my experience, executive teams that make the big growth bets often lack consensus