Like many cloud companies, Appian (APPN -0.59%) spends a significant chunk of its revenue on sales and marketing. But there's a simple explanation for that. The company says that every customer it lands brings in a lifetime value of seven times more than the cost to acquire them.
In this Beat and Raise segment recorded on Oct. 8, Fool contributors Jeremy Bowman and Nicholas Rossolillo explain the opportunity in that strategy, and why it's weighing on the company's near-term financial results.
Jeremy Bowman: I was talking about the gross margin being 90% on subscriptions, but it's from their press release. That was about $7 million, the cost of revenue, so their gross profit is $57 million. What they're spending that on is mostly sales and marketing. So $40 million? That's about half of their total revenue. The reason why the company is doing that is because they say that their customer or the lifetime value that they're getting from these customers is seven times greater than the customer acquisition costs.
That's measured based on that 99% retention figure, and the growth in the net retention rate. The company has a really high level of confidence that these new customers that they land are going to be delivering high-value revenue streams for a long time. They are spending aggressively on marketing to land those customers while they're available. I think that's important to understand also as far as the driver of why they're losing money. You see this model a lot with cloud businesses. But I think LTV, that seven-times customer acquisition cost is really an outstanding number and the company says that they've been doing that for the last four years. That's a great sign for long-term growth as well.
Nick Rossolillo: Yeah, it is a fantastic sign: Seven times customer acquisition cost. But I think just in context of that to the cloud product that they've really been pushing the last few years is not that old. It's a pretty recent addition, so I think it speaks again to that customer retention rate we talked about, Jeremy, the stickiness of the product. Once they land a customer, it's usually a really big contract because they're going after big businesses. Once that really big contract does land, Appian has really demonstrated the stickiness that the customer is not going somewhere else after they start using Appian. At least not yet, that has not become a problem. Big upfront costs of landing these customers, but once they land them, the contract has longevity, customers keep spending more over time with Appian. Again, we talked about this a lot too with some of these companies, sales and marketing expenses elevated, it's very high, but a lot of that is by design. They have the cash to burn on their balance sheet. So they're comfortable spending some of that down as they go out and acquire some of these customers because they know historically once they land the client, they're going to stick around for a long time. It's only a matter of time before the company turns profitable. That could be a really positive thing for Appian, especially considering the fact they have no debt on top of that. A lot of options for them to go out and spend and continue to be aggressive and expanding the platform.
