Today, October 21, 2020, Austin McChord’s Datto went public with its long-awaited IPO on the NYSE. As a former Datto employee now running a CFO firm serving startups and MSPs, I was more than excited to see the news of Datto’s IPO hit the newswire this week for the sake of its employees, partners, and shareholders. Disclaimer: This is not investment or stock advice!
Related: This Small-Town Tech Entrepreneur Sold His Billion-Dollar Unicorn By Age 32: Here’s How He Did It
In this post, I will cover my observations as a former Datto employee to provide some insights to startup founders to help them work towards an exit of their own someday.
Most importantly, I’ll help to answer the questions for other aspiring startup IPOs out there: “What made Datto a successful startup...and how can you model its success in your own business??
Contents:
Datto Culture
Datto’s Niche Focus
Datto’s Revenue Model
Datto’s Capital Structure
Datto’s Path to Profits
Datto’s Future
Datto’s Culture
Datto’s founder Austin McChord has said many times that he never intended to build a massive tech company from the start. He was merely a curious 20-something who wanted to build something cool to solve a problem that a bunch of people had. So he did it. And he funded the early days with a few credit cards.
That scrappy startup mindset helped Austin McChord hire his best friends to build products and get customers, and basically figure it out on their own, while still making money doing it.
McCord bootstrapped Datto to tens of millions in revenue and soon found that the company he grew in his basement was quickly outgrowing its scrappy roots and had to hire outside managers, implement new systems, and start to act like a big company if it wanted to grow properly and reach where it is today: Ringing the bell on the New York Stock Exchange.
While Datto’s culture has evolved since its roots in 2007, there is one thing that has remained constant: The focus on the customer. And that customer is the Managed Service Provider or MSP. This MSP sales channel created a massively efficient business model for Datto that resulted in laser focus, rapid scale, and resilient revenue streams and profits.
Takeaways for Startups: Use your early startup days to get to know your ideal customer, deliver your product well, and learn how to support your customers properly. Develop KPIs, benchmarks, and measure your progress towards your goals. Carve your place in your niche. Preserve your seed capital and find your focus fast.
Datto’s Niche Focus
While Datto could have sold all of its products directly to the end-users like the law firm, restaurant, and construction companies themselves, they realized early on that the direct sales path wasn’t the best route to distribute and support its products. Instead, Datto focused on selling and supporting its products through IT services companies and distributors one at a time (MSPs) who in turn, sold and supported Dattos products to dozens of their own customers.
This one-to-many network effect helped Datto develop laser-focused products, sales, support, and marketing systems to enable their MSP customers to build their own businesses by making money selling Datto’s products and supporting their customers. Even more powerful was Datto’s marketing strategy. Datto’s VP of business development Rob Rae and his team of field marketing experts not only championed Datto’s products to MSPs through leading hundreds of trade shows, webinars, and whitepapers per year, but they focused on helping thousands of MSPs build more profitable businesses through their thought leadership.
Takeaways for Startups: Don’t try to be everything to everyone. Once you hit product-market fit, double down on solving that customer’s problems and start to build systems to dominate your market and begin to scale. Build educational content for your ideal customer and help them solve a big problem and they will look at your products over time. Invest your cash to get your product ready to scale 10x.
Datto’s Recurring Revenue Model
One of the biggest drivers of Datto’s financial success is its revenue model. Referring to the table below and drawing from my experience working for Datto, here’s how their revenue model scaled so quickly.
Takeaways for Startups: Craft your products to generate multiple streams of revenue, including up-front installation or professional service costs, plus high-margin recurring revenue on long-term contracts. If you’re really good, you can train your customers how investing in your products immediately saves them money, time, or risk, and show them how your products generate a return on investment (ROI) quickly.
Niche Focus: Extreme focus on serving one particular customer, the MSP reseller. They didn’t sell to law firms, restaurants, or government agencies. Only to reseller partners that were educated on selling, installing, and supporting Datto’s products for their own customers. Could you imagine selling a sophisticated technology product to thousands of non-technical users…?
One to Many: One happy MSP reseller could sell Datto devices to over 100 of its own customers...without much additional support costs from Datto. Datto sales reps focused on helping resellers sell Dattos to their customers, and Datto support reps supported their technical IT reseller partners.
Up-Front Device Revenue: Datto’s new product sales generated between $1,000 to $20,000 in up-front cash, which covers all (or most) of its direct device product costs. In 2020 it appears Datto sold its hardware devices at a loss but makes up for it with high-margin subscription revenue.
Subscription Revenue: All Datto products generate high-margin recurring revenue, which covers customer support, corporate overhead, and generates cash for research and development, marketing, and further scale.
Long-Term Contracts: Datto’s products often require contracts ranging from one year to five years, so MSP resellers would guarantee the payment stream and often resell Datto products to other customers. This allowed Datto to confidently invest in growth knowing that its revenue streams were contractually bound to come in each month.
In focusing 100% of its business model around supporting MSPs, Datto attracted and empowered thousands of loyal customers who in turn installed Datto’s products to millions of users around the world. Pretty cool.
Datto’s Capital Structure
Too many startups focus on raising tons of investor capital too early in their lifecycle. Sure, plenty of companies like manufacturers, life sciences, and infrastructure companies need capital to purchase equipment and research and salaries to get started...the fact is that raising capital shouldn’t be your primary goal of starting a company. And you can probably get started and pretty far along with personal savings, credit cards, and friends and family investments to prove your business model out.
If you look at the Crunchbase excerpt below you can see that Datto launched and ran for a long time (more than 5 years), without raising a single dollar of traditional venture capital.
After doing some searching of old press releases and Inc 5000 articles, we speculate Datto’s revenues were between $25 and $50 million by the time it raised its Series A round from TCV in September 2013, likely entirely bootstrapped with friends and family money. That’s pretty impressive. How did Datto stay profitable when growing so quickly? How did Datto reach insane revenue levels without raising VC money? Look at the prior paragraph around its revenue model. Datto funds its growth through up-front sales and high-margin recurring revenue and paid rent in the moderate-cost cities of Norwalk, CT, Monroe, CT, and Rochester, NY in its early days.
Takeaways for Startups: Once you find your momentum, turn on the sales machine. Spend wisely and accept the fact that you will invest almost all of your profits back into the product, support, staff, and sales. Keep cash and credit reserves on hand and raise growth capital once you are clear that you can put that capital to use in scaling. Don’t be afraid to raise VC, but you’ll get the valuation and control you want if you raise money while you’re growing and use that capital to grow faster (and shorten your time to an exit).
Datto’s Path to Profits
Aside from Datto’s efficient marketing & sales team, relatively low cost of labor (compared to Silicon Valley Unicorns), and high-demand products...the secret to Datto’s path to profits is pretty straightforward.
Datto’s products more or less beak even the moment they were sold...and generated recurring revenue at over 80% profit margins for every month thereafter. Does your business scale like this?
Datto clearly generated profits in its early days (it grew to millions in revenues without outside investment), and in the last 6 months, Datto turned both a net income and EBITDA profit.
Compared to many recent IPOs, the fact that Datto is profitable and generating operating cash flows sets itself apart from the typical Silicon Valley IPO pack.
Takeaways for Startups: Design your business to become profitable, even if marginally in the short term. You certainly can build a cash-eating machine that focuses on sales and growth versus building a sustainable and profitable business...but prepared to travel the rough road of raising lots of money from investors and limiting your exit options, and, living startup life on the edge!
Datto’s Future
Nobody can predict how Datto will perform as a stock listed on the NYSE (nor am I offering stock tips…), but if Datto’s fundamentals I’ve outlined in this post continue (focus on the MSP, high-margin recurring revenue, consistent year-over-year growth), I am sure Datto will continue to be a success story.
To the business owners and startup CEOs, I hope this article has opened your eyes to the real numbers that make a successful exit possible, some goals and metrics to set in your early startup years, and some ideas to inspire you to grow your business and make a profit too!
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