HubSpot’s Playbook for Going From Startup to Scale-up
By: Brian Halligan
Tags: Leadership, Entrepreneurship, Marketing, Startup, Strategy

I consider companies as going through four stages of an S-Curve:

Getting Product Market Fit — Can you build something useful that can pull in some money in some way? Getting the Math to Work — Can you acquire customers for X and get at least 3X in return? Getting the Math to Scale — Can you pour lots more money into the top of your machine and keep that at least 3x ratio? Getting Saturated — You are running out of potential customers in your market or being disrupted.

I consider a scale-up as a company that is in this third phase. Pouring resources in fast and getting a big return on them without the wheels coming off the bus.

In HubSpot’s case, it took us about 1 year to get through phase 1. It took about 6 years to get through phase 2. We’ve been in phase 3 for about 2 years. Why did it take us so darn long to get through phase 2? What playbook eventually worked to get ourselves into phase 3? That’s the point of this article.

In phase 2, we were acquiring customers for approximately $10k and we were getting a total lifetime value of approximately $25k. We bounced around in that range for years. When we hit the gas (hired faster), the math would get worse. When we slowed down, the math would get better. We had an interesting business, but without the ability to hit the gas pedal, we’d never be able to truly scale and build the company that we envisioned.

The core problem was that we had a relatively low retention rate that made it hard for us to increase the total lifetime value of our customers. Our annualized customer retention rates were around 65% and our annualized revenue retention rates (adding upsells to the customers who stay) were around 70%. Too low to scale up on.

What it took to fix the problem was that we had to stop making small tweaks to improve retention in product or services. We took a hard look in the mirror at ourselves and finally really attacked the problem with every employee in the company. The initiative we came up with was our “Mary-MOFU-Monetization” playbook. The playbook was a big change in strategy and focus for us back in 2012 and involved literally every employee in the company. Let me explain how the plays worked and what happened.

The Mary Decision

For years at HubSpot we debated our target market persona. We had one camp that wanted to build our offering for Owner Ollie, a small business owner with less than 10 employees and no full time marketer. We had another camp that wanted to build our offering for Mary Marketer, a marketing manager who worked in a company between 10 and 1000 employees.

By not deciding on one of these personas, we paid a gigantic, invisible “optionality tax.”

It turns out the product requirements, support requirements, pricing, and everything were different for Ollie and Mary and by not deciding, we made one uninspired compromise after another and never nailed either one. In 2012, we ripped the Band-Aid off and just picked Mary. The truth is, you could make a strong argument for either of the personas — both camps were “right.” The key thing was picking one and sailing the ship. I think George Patton said something like a good plan violently executed now is better than a perfect plan never executed at all. George was right.

By picking Mary, our marketers could now build content that attracted her and stopped watering our blog (and other assets) down with business owner content.

By picking Mary, our sales reps only were rotated leads from companies between 10 and 1000 employees (lead scoring works, btw), honed their value proposition on how to help Mary grow, and largely forgot about Ollie.

By picking Mary, our product folks could laser focus on delighting Mary and stop splitting the baby on the UI and feature set they were building for both. If someone suggested an Ollie feature, they’d simply say “no” and move on — no more hand wringing.

By picking Mary, our pricing folks could get more creative — more on that later.

By picking Mary, our service folks could afford to do more servicing and delighting.

The MOFU Decision

At HubSpot, we use the term TOFU (top of the funnel) for things that help our customers attract visitors to their site from search engines, social media sites, the blogosphere, etc., and we use the term MOFU (middle of the funnel) for things that help our customers turn visitors into qualified, sales-ready leads. Our roots are in TOFU — we were born out of the “Web 2.0” era of companies focused on helping businesses really match their marketing to the way humans actually bought stuff. We came later to the MOFU game which was much more around database segmentation and personalization and nurturing (often via email back then) of prospects — a lot of people refer to MOFU as “marketing automation.”

Back in 2011 when we were grappling with this stuff, our TOFU tools were way better than our MOFU tools. But, when we looked at the data, we noticed that customers who used our then crappy MOFU tools had better retention rates than customers who used our really good TOFU tools. Ah ha!

At the time, we had something like 5 scrum teams building search engine optimization software, social media listening software, blogging software, website software, email marketing software, database software, etc. It was painful, but we pulled almost everyone off our awesome TOFU tools and focused on building a world class MOFU set of tools. In addition, we did a really important acquisition that brought MOFU expertise and deep product talent in that really moved the needle.

As painful as it was, leaning hard into our weakness was the only way to get from StartUp to ScaleUp

Monetization Decision

I’ve got to give a hat tip to Pat Grady at Sequoia who helped us realize that our pricing model was all wrong. At the time, we had one “pricing axis.” The axis was that customers could make a choice between 3 versions of HubSpot: Basic, Professional, and Enterprise. Our annual customer retention rates were 65% and our annual revenue retention rates were 70% — that 5% lift came from existing customers upgrading along that axis. What Pat pointed out was that most software companies had 2, 3, or 4 pricing axes by which to monetize their most successful customers. For example, Salesforce.com had 4-axis pricing. Their first axis was basic, pro, enterprise, and unlimited. Their second axis was the number of seats. Their third axis was add-ons. Their fourth axis was new clouds. Ah ha!

Okay, so we were ready to make a change here, but there were a couple of decisions to make. The first hanging chad was to decide how to do it without screwing our existing customers. This one turned out to be relatively easy. We could just grandfather in all our existing customers on our old pricing model. In the short run, this is a painful decision, but if you are building for the long haul, it’s a no brainer. Your new customer cohorts will be better if you do it right, and it is all about laying down increasingly healthy the cohorts. The only tax with this is on the IT organization and the finance organization who have to track this stuff literally forever. The second hanging chad was what our second axis should be. For most software companies, seats or users is a no-brainer, but there aren’t a lot of Marys inside a company with 100 people. We could use visitors, but it varied wildly. We decided to use the number of contacts (or leads) in your marketing database. We liked a few things about contacts as a second axis. First, it fit perfectly with our MOFU decision as it reinforced in our sales people’s minds that they should be positioning the sticky MOFU part of our solution to the prospects. Second, it aligned our interests with our customers’ interests. At the end of the day, we both want the customer to be wildly successful in their lead generation efforts and if HubSpot succeeds in helping them, we get to participate in their success.

Now, this might sound counter-intuitive, but when I think about monetization, I bucket in the terms of the sales commission plans. Changing the sales reps commission terms have a similar impact to changing the terms the customers see. We made two important changes to our commission structure at this time. First, we instituted a “clawback” provision into the commission plan, so that if a rep sold a customer that churned within the first 6 months, the commission we paid to the rep would be “clawed back.” Second, we put in a term that a rep couldn’t get promoted (i.e., from rep to Sr. rep to principal, etc.) and get the associated benefits of that if their overall retention rates were below 70%.

Soooooo…did Mary-Mofu-Monetization work? Well, I’ll use numbers to tell the story:

* As reported in HubSpot’s S1

Two things happened. First, the math got better — instead of getting a 2.5x return on the investment to acquire a customer, it is now about around a 5x return. More importantly, it got better at scale. In other words, we were able to rapidly grow the number of customers we acquired without the return falling apart.

My favorite quote of Warren Buffett’s is that someone is sitting in the shade under a tree today because someone planted a seed many years ago. HubSpot’s sitting under a tree these days (56% growth last quarter with 18 points of margin improvement) in large part to the Mary-MOFU-Monetization playbook we put in place back in 2012.

Here are some questions that you might ask yourself if you are in the StartUp phase wanting to get to the ScaleUp phase: