How Box escaped the SaaS growth trap

Enterprise productivity company Box reported results earlier this week for the first quarter of its fiscal 2023, the three-month period ending April 30. Box managed to beat revenue expectations, though it missed on adjusted per-share profit. Shares of the company initially lost modest ground.

You might read the above paragraph and wonder why we’re digging into a SaaS company that had a quarter that appeared to be somewhat mixed in results terms and largely neutral from an investor perspective. The reason is that Box is accelerating out of a period in which external investors took aim at its leadership over complaints about flagging growth; the company managed to fend off activist investor demands and is now reaping the results of the work it did while out of favor with Wall Street.

Box’s revenue expansion decelerated to single-digit percentage points. Since Box went through the activist wringer, we’ve seen other public software companies with similar growth rates come under external pressure. This is what we’re calling the SaaS growth trap — a time when a company’s revenue expansion has slowed, but its profitability has not sufficiently scaled to keep investors content with its performance.

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Public software companies in the trap have to find a way to ignite growth without torching profitability. It’s akin to the position that many startups find themselves in today, with growth expectations staying high as private-market investors are simultaneously less interested in high-burn models. Startups have to keep the growth coming while also paying double attention to their cost structure. It’s a hard path to navigate.

Box managed it, though it took time. The company’s $238 million worth of Q1’F23 revenue was up 18% compared to its year-ago period, a growth rate that bested the 17% it managed in the quarter prior, and the 14%, 12% and 10% growth rates it reported in the quarters stretching back to the first quarter of its fiscal 2022. Notice the upward trajectory — it’s important.

So how did Box manage to get out of the growth trap while also growing its gross margins, operating income and net profit in its most recent quarter? Let’s talk about it. It’s a lesson for public companies, yes, but also one that startups will want to understand as they navigate a more complex and demanding investment market for early-stage technology shares.

Leaving the growth trap behind

Looking ahead, Box expects its full-year revenue to land between $992 million and $996 million, or a growth rate of about 14%. That figure would match its prior-year growth rate of 14% and best the 11% it managed in its fiscal 2021. Analysts are currently expecting $993.5 million in current-year revenue from Box, putting it on path to meet — or perhaps modestly exceed — street estimates.

How did Box manage to boost its revenue growth rate? Per the company, its “revenue acceleration [was] driven by large and multi-product deals.” That isn’t corporate-speak: It means something.

Two things, actually. First, that Box is managing to sell large contracts to customers, implying that its work to attack the enterprise market is paying off. And it is managing to do so by selling several tools at once. That last point has another wrinkle to it, namely the fact that Box is seeing its net retention rate come back to life.

Net retention is the percentage of revenue from customers that rolls over to the next year, more or less. In simple terms, if every customer at a software company sticks with its service and spends no more and no less than before, that company’s net retention would be 100%. But if on average, net of churn, that same customer base spent on average 10% more, then the company’s net retention rate would work out 110%.

Enterprise software companies are expected to have net retention rates comfortably above the 100% mark because their customers tend to buy more of their services over time — more sold seats, for example, can drive net retention. Box’s net retention rate fell from an anemic 104% in its fiscal 2020 to a terrifying 102% in its fiscal 2021. That number scaled to 111% in its fiscal 2022 and stayed at that mark in its recently reported quarter, a result that Box noted in its release that was “up 800 basis points from 103% in the year ago period.”

From our perspective, more than anything else, rising net retention at Box has been the key lever to its growth recovery. So our question now becomes how Box managed the feat.

The plan is working

When Box was under pressure from activist investors last year, CEO Aaron Levie insisted that it was on the right track and the growth would come. His confidence was based on the fact that Box was in the process of expanding its platform offerings. It moved from storage and content management into adjacent areas like e-signature, workflow, and compliance and governance, which helped widen its market lens.

By bundling these capabilities and building on them as it did with its new Canvas offering announced in April (and expected later this year), the company is offering a wide range of capabilities at a single cost point, something that customers seem to find attractive.

As Levie pointed out in an earnings call with analysts last year, when you combine the bundling and product expansion strategy with some external trends, it adds up to consistent growth. “Our results show the success of our growth strategy, which is aligned with the three major trends that are driving the future of work. These trends are hybrid work styles, the pressures of digital transformation on businesses and the ongoing importance of data security, compliance and privacy,” he told analysts.

The company currently has $90 million in cash on the books as the recent growth spurt has translated into some decent cash on hand. Levie said they will use it in a couple of ways, including stock repurchases.

Another way is looking at strategic M&A as it has in the recent past, such as the acquisition of SignRequest last year.

“We’re very surgical, and we will continue to focus on just the kind of tuck-in acquisitions as appropriate to bolster up the value for our customers,” Levie said on an earnings call on Wednesday.

The company that was once on the ropes fighting for its independence finds itself with five straight quarters of growth. As the economy begins to soften, that’s as good a place for a SaaS company to be working from at this point.

Levie believes he has set up Box to succeed, regardless of the external macroeconomic conditions, and if the past five quarters are any indication, it’s hard to bet against him.