Introductions
Running a SaaS company, you have most likely heard the term gross margin used in financial talks or investor presentations. But why should you care, and just what does it mean? Simply said, Gross Margin in SaaS is the percentage of income left above direct expenses related to providing your good or service. This is a vital indicator of your company’s operational effectiveness and accessible funds to pay for other needs.
We will dissect gross margin for SaaS companies in this post, explain why it matters, show you how to figure it out, and offer doable advice to raise it. Whether your firm is SaaS, you are an entrepreneur, a financial analyst, or both—this book will help you maximize your profitability and scale your company.
Within SaaS, what is gross margin?
Defining
After subtracting the Cost of Goods Sold (COGS), gross margin—that is, the proportion of income left—is COGS, in the SaaS environment, the direct costs required to run and provide your software service.
The gross margin formula is:
Gross Margin = ([Revenue – COGS) / Revenue] × 100
A larger gross margin indicates that, following necessary expenses, your business retains more of its income.
Why is gross margin crucial?
A good gross margin guarantees that your SaaS business will have sufficient cash for fund operations, reinvestment in expansion, and finally profitability. Tracking gross margin is absolutely vital for three main reasons:
High gross margin indicates that your company is more profitable than it is in terms of service delivery expenditure. Companies having a gross margin of at least 70% to 80% appeal to investors.
The goal of a developing SaaS company should be an increasing gross margin over time. Better scalability and more profits follow from lower COGS.
Investors assess a company’s value using measures such as gross margin and the Rule of 40 (which takes revenue growth and profitability into account).
Calculating Gross Margin for a Software as a Service Company
Let’s dissect gross margin using an example to help one better grasp its mechanics.
First step: find income.
Revenue covers all money from support services, add-ons, subscriptions, and bespoke development projects.
For instance, a SaaS company brings in $500,000 a month.
Step 2: Determine COGS.
COGS covers all direct expenses needed to provide the software product, including:
Platform hosting
Fees associated with website upkeep
Third-party licenses for software
Salutations of the customer success team
Operating expenses in Devops
Software infrastructure subscriptions: expenses
Costs associated with client onboarding
The company’s COGS, for instance, is $150,000.
Third: Use the formula.
Gross margin = [500,000 – 150,000] / 500,000 × 100
Gross Margin = 70%.
The corporation thus retains $0.70 after deducting direct expenses for every $1 of income obtained.
For SaaS companies, what is a reasonable gross margin?
Generally speaking, SaaS companies want a gross margin ranging from 70% to 85%. Although early-stage businesses might have a gross margin of about 67%, as they grow efficiencies improve and gross margins rise.
Gross margins of 80% or above define best-in-class SaaS companies. Should your gross margin be less than 70%, you should review your COGS and pricing approach to identify areas needing work.
How may your SaaS company’s gross margin be improved?
Here are some ways to raise your gross margin if it isn’t where you would want it to be:
Lower Your COGS, or cost of goods sold.
Control your hosting costs; maybe you should look at less expensive cloud options.
Consolidate tools; instead of several subscriptions, use all-in-one platforms.
Use artificial intelligence-powered chatbots and self-serve knowledge bases to automatically assist customers.
- Improve the pricing approach.
Try several price strategies; consider value-based or tiered pricing.
Provide top-notch plans; design valuable bundles for business clients.
Strategically raise prices; consider consumer capacity for payment.
- Cut Out Low-Profit Services
Not every source of income is worthwhile for maintaining. Should a given service offer have a poor gross margin, think about eliminating it.
- lower client turnover
Customer turnover lowers gross margin. Limit turnover by:
enhancing client onboarding
improving client service
Including dunning procedures to recur from missed payments
- Cross-Sell and Upsell
Invite consumers to buy add-ons or upgrade to a higher-tier plan.
- Enter New Markets
Should your expansion be slow, look at foreign markets to boost income.
Last Thoughts
Long-term survival of a SaaS company depends on a strong profit margin. You may increase profitability and scale faster by optimizing COGS, improving pricing, and lowering turnover.
Think about adopting a technology like Chargebee to simplify your billing processes, subscription management, and gross margin enhancement. It automates price trials, simplifies regular billing processes, and enables SaaS companies to optimize their income potential.
Would you like to raise your SaaS gross margin? Plan a Chargebee demo right now! 
Just like modern tech SaaS brands using red to grab attention and stand out, a strong gross margin in SaaS helps a business stay bold, competitive, and financially healthy.
