Buying SaaS After the Boom with David Khalil, Saas.group

David Khalil, Partner and CFO at saas.group, joins Search Funded to discuss the changing economics of SaaS. 

We talk about the collapse of SaaS exceptionalism, the shift away from ARR multiples, why GAAP profitability matters again, how stock-based compensation distorts earnings, and how saas.group acquires and operates profitable product-led software businesses for the long term.  

Transcript

SPEAKER_00 0:00

Welcome to SurgeFunded, the Entrepreneurship Through Acquisition Podcast. I'm your host, Nick Law, and today's episode is one that I have been really looking forward to because it sits right at the intersection of SaaS, private equity, and what I think is one of the most important shifts happening in capital markets right now. For the last decade, SaaS has been this almost magical asset class, high growth, recurring revenue, and valuations driven more by AR multiples than actual profitability. But over the past couple of years, something has clearly changed. Valuations have come down, financing has tightened, and there's a growing debate over whether it's the entire SaaS model is in some way built on overly optimistic assumptions. But at the same time, we're seeing a different kind of model rising. And there are firms that are acquiring and operating software businesses for the long term. With a much greater focus on cash flow, discipline, and operational execution. Today's guest, David Koleel, is right in the middle of all this. He's a partner and CFO at SaaS Group, a firm that acquires and operates SaaS businesses, typically in the $2 to $10 million ARR range with a long-term buy and hold approach. He has also become known for some pretty sharp and at times controversial takes on what is actually going on in the SaaS world right now. Whether it's calling out what he sees as a subprime moment in SaaS financing, questioning the way that companies use adjusted metrics or breaking down where rollup models like team shares may be going wrong. He's not afraid to challenge some of the dominant narratives in the space. So in this episode, we're going to talk about what actually broke in the SaaS model, why gap profitability may be making a comeback, what separates a great acquisition platform from one that just scales too quickly, and how to think about building and operating software businesses in a very different market environment than the one we've had over the past decade. David, it's really great to have you on. Why don't we just start with a brief overview of your own background and how you ended up at SAS Group?

SPEAKER_01 1:50

Hi, Nicholas. Thank you so much for having me on the podcast. And thanks for the kind intro. So my name is David. I'm the um CFO as uh at SAS Group, and um SAS Group is um a company that was started back in 2017 and has become a large acquirer of PLG SARS companies. Roughly 50% of our acquisitions we did in uh North America, and roughly 50% of our acquisitions we are doing in Europe.

SPEAKER_00 2:19

That's great. Maybe you could tell me a little bit more about what your role is at SaaS Group and what your approach has been so far at SaaS Group.

SPEAKER_01 2:26

So my role at um uh SAS Group is I'm the CFO there, which means basically looking after everything that you would typically associate with finance, accounting, controlling uh tax. Then I work with our MA team. So we have um a team of currently six people trying to originate and execute deals, and in an average year, we will probably do something between four and five acquisitions. And then I also act as whatever companies might call a portfolio manager. So I work directly with three of our brand CEOs in a function that we internally called board sponsor. So um board sponsor is basically a one-person board to one of our portfolio companies.

SPEAKER_00 3:21

Yeah, it makes sense that you're involved in all those different aspects of what SaaS Group does. I think that what drew me to you is that you were someone who clearly has not just business sense, but you have the sense of a high-level CFO, and so you're able to evaluate businesses, I think, more intelligently than a lot of the people in the space are looking at them. And so I guess that would bring me to something that I've seen you talking about a lot, which is that SaaS might be facing its own subprime moment, is what you've been calling it. I was wondering if you could talk about what you're seeing with what has broke in the financing model of SaaS businesses acquisitions over the last cycle and how you guys are approaching it differently.

SPEAKER_01 3:59

Yeah. I think in your intro you touched upon how SaaS companies were one of um the most preferential assets uh to own. And clearly that view has changed over um the past 24 or 36 uh months, driven by um the emergence of AI. Um, but because SaaS companies were such a privileged and thought-after asset, there was an exceptionalism um generated around SAS companies. SARS companies were valued differently from all the other businesses out there, and basically SARS businesses were allowed to get away with not making profits, right? So um, if we look at um the generation of cloud native um companies, um the hubspots, workdays, mondays.com, and so on and so forth, these companies tend to be now 15 to 20 years old, and a lot of these companies are valued or have been valued on uh revenue multiples, ARR multiples, something that is unheard of virtually in any other industry. Um and over the past three years, we have not only seen um the emergence of AI, but we also have seen the collapse of uh growth rates in the um SARS um space. So whereas a typical listed US SARS business was growing around 30% a year in 2022, in early 2026, growth rates on an annualized basis have uh you know come down to something between 10 and 15 percent. A Salesforce, one of the poster charts of the industry these days is growing high single digits, and that lower growth plus the emergence of AI basically have led to um a collapse of the SaaS conceptualism exceptionalism and um the privilege to be valued on a revenue multiple basis. So, how does that affect equity valuations? We think equity valuations in SaaS companies will be derived the same way they are derived in basically any other industry, they will ultimately be made up as profit multiples. And um, you already said um what is profit? So if we say profit multiples, we really think about gap profit um multiples. And you touched upon also debt financing in the SARS space, and there has been a lot of um discussion around what is happening in private credit markets and private credit funds these days are probably 20-30 percent exposed to um SARS companies. And the comparison of the lending practices to SARS companies to um subprime, I made that because basically a subprime crisis was um characterized by loans made to people with no or little income, and the lenders basically made those loans because um the loans were secured by the ever-rising values of the homes. And there I see the similarity to the SARS space. So people are accustomed or were accustomed to SARS valuations growing and uh SARS companies growing every year. So a typical loan would be if there is a company that does a buyout for 4 billion, it would be a lender who puts 1 billion against that 4 billion, and you would hence have an equity cushion of uh 3 billion, and that is the actual protection that the lender has on the loan. It's not the income because many SaaS companies, I said, don't even have the income to repay those loans. And now looking back at what happened in stock markets over the past six to twelve months, um, you have seen a lot of SARS companies coming down 50-75% in their valuations. And so, in that example of 4 billion and 1 billion, you can see the equity cushion is now gone, and um lenders will now be um faced with probably a situation where their borrowers have a hard time to refinance the loan, so the borrowers don't repay the loans because they have too little profit, but usually those loans were made out for five years, and then basically another lender would take over the loan, um, and that demand won't be there. So um, we're basically running into, you know, 12 months from now, we will run into a debt maturity wall, and a lot of companies will be in trouble to refinance their loans, and there will be a lot of what private credit markets call uh pretend and extend so the existing lenders will stay in their loans and um they will put further pressure on their borrowers to get profitable and to start repaying the principal.

SPEAKER_00 9:24

Yeah, it's it's scary that that's gonna happen. I think there are a lot of interesting things going on in the economy right now, and that's one that people don't talk about as much as some of the other issues out there, like private credit or AI bubble. But this is also one that is actually even more tangible and probably clear that it is going to happen. So I guess we'll see where that leads. Given that this is the case, I would love to learn a little bit more about how SaaS group thinks about acquisitions. I mean, myself as a searcher, when I first started, a lot of us had the thesis for SaaS business. It fits a lot of what people are looking for, you know, high margins, low capex, recurring revenue, all those things that you typically think of, but then you go to the market and you see that there are these crazy multiples and they're based off of ARR and other metrics that are not typical for SMEs. So curious what you look for. You mentioned gap profitability again, but maybe if you just talk a little bit more about how you define what a good business is, how you actually uncover them, and just a little bit more about SaaS Group's acquisition process.

SPEAKER_01 10:20

So we source businesses basically through branding and cult outreach um efforts. So we, for instance, at SAS Group, we have a uh a podcast, uh, we um go to conferences, we try to publish um LinkedIn content. We um have a team of three originators that tries to identify interesting businesses and reaches out to them. So I I would call it a pretty traditional origination uh process um that we're running. And we're specifically after small companies that sit in niches of um the PLG SARS market. And when I say small companies, a good target for us typically will probably have something like um four million in revenue, will be run by a small team of six, seven, or eight people, and usually will come with a quite um decent um profitability. So um a lot of these companies are doing one or um two million in EBTA. Many of these businesses have been um in the market for 15 to 20 years, and a lot of these businesses are simply bootstrapped, so have never been in touch with VC and have been built basically for profitability from day one.

SPEAKER_00 11:48

That seems like a really good thesis and probably a much healthier way to approach SaaS acquisitions. I was wondering if you could talk a little bit more about what your plan for these companies is. Is it that you're buying and holding for the long term, or you're trying to roll them up? What's sort of the exit timeline or the long-term goal?

SPEAKER_01 12:05

Yeah, so we're a permanent equity vehicle, and our usual playbook is to um buy and hold on to the businesses forever. And we deal with different types of uh transitions, so we are happy to take over businesses from founders who almost want immediately out of the business, but we also work with founders who want to stay in the business and who predominantly just want to take chips off the table. And uh so any of these situations uh works well for us. The companies we keep them very, very independent. So brand independence is our number one principle of um running the company, and similar to some of the serial acquirers that we draw inspiration from, such as Constellation or LIFO, we try to run our company highly decentralized. So the two functions that are an exception to that principle are uh my own function finance, because we simply need to um report consolidated uh numbers to our equity and debt investors. And then basically, we're also running a centralized HR practice, so all our recruiting, our feedback processes, our culture that is coordinated by a global team. And uh frankly, our HR team is the best HR team I've ever worked with, so it is highly appreciated by any founder we've worked with.

SPEAKER_00 13:40

Amazing. Again, that's probably what a lot of the listeners would love to be working towards. I think a lot of us who get into this ETA model, we're not necessarily about a quick exit. And so knowing that you are taking that strategy and being effective at it is really inspirational. And you mentioned Lyft Co., which is another example of that being successful. But I've also seen you talk a lot in your LinkedIn posts and other media about how this goal that a lot of people have of building a quote Berkshire Hathaway for small businesses is much harder to execute than it appears. You've also talked a lot about Team Shares and their failures. I think again, it's another example that I myself was really excited about when I first heard about them a couple of years ago, and then it didn't turn out to be what a lot of us had thought it was going to be in a lot of ways. Again, maybe it shows the flaws of the VC model, but would love to hear your thoughts on why something like SAS Group has been effective, whereas Team Shares has not been able to be profitable and some of the lessons that can be learned from what went wrong there.

SPEAKER_01 14:38

Yeah, you might have given me a clue here uh in that you said well Team Shares was highly VC financed, and uh that obviously creates pressure, um, first in terms of um expected in terms of expected uh financial returns and then also in terms of you know speed of um capital deployment. And I think one of the difficult things in our um industry is um that the feedback loops are very long. Any acquisition that I've seen looks great after six months. The question is how an acquisition looks like after three years. And um, I have had the luck to work with uh three founders who have been extremely patient. Um, they um started their business in 2017, did their first acquisition in 2017, and then followed up with a second acquisition in 2018 and a third acquisition in 2019. And I joined the business in 2023 and basically my first task was then to do the first ever institutional financing round um for a SARS group. So you can see the founders took it very, very slowly. They found their model, they slowly started to institutionalize it, so there wasn't a big platform from day one. They only started to add uh add central teams um in 2021 or 2022, and um they really had figured out their model before they started to um scale it. And I think in VC there's often the risk of scaling something before you actually have nailed it.

SPEAKER_00 16:31

Definitely. Yeah, I think getting down to brass tacks, actually understanding everything first is probably a better way to go. And especially if you're not raising huge VC rents, it's probably the only way to go. So it makes sense that it has worked out better thus far. I guess since you know, again, we are thinking more towards the long term in your investments, and probably anyone listening to this should be thinking a bit more long term. When it comes to SaaS, I'm wondering what your thoughts are on AI and how it may be affecting them over the next five to ten years. How do you approach SaaS in a way that feels that it will be AI resilient? I think a lot of people are shying away from tech companies at this point. They're looking more at blue-collar businesses that you can touch with your hands. And so there's a little bit more of a fear of getting involved in something that may be automated away. So would love to hear your thoughts on how you're thinking about AI, how it may change the economics of software businesses or even just the investments that you are making.

SPEAKER_01 17:23

Yeah, as you said, AI is uh certainly an opportunity and a risk at the same time. And so I get when people now look into what you call blue colour industries and say, I want to embrace the opportunity of AI. I want to be the one who applies AI to blue-collar businesses, and at the same time, by going into blue colour businesses, I might be exposed to less of um AI disruption uh risk um than the software industry. Makes total sense. Uh, we don't understand the blue colour industry, we um understand SARS companies, and so um will continue to try to embrace the opportunities and navigate the risks of the AI disruption in the businesses that we own. Uh we see ways how the AI disruption actually will accelerate um the overall um growth of the software market. Ultimately, software is a tool. You know, the value of software is measured measured by um the productivity gains it can deliver to the users, and AI obviously unlocks a whole new level of productivity gains, and those productivity gains can be captured by software companies, so we see this basically as uh potentially being a very, very um big tailwind to the industry and maybe a tailwind that allows the industry to re-accelerate its growth. We spoke about how um growth rates came down from 30 to 10 percent. Maybe um AI provides the tailwind to actually increase those uh growth rates again. At the same time, obviously, code is not a mode anymore, code is becoming a commodity, and um the software market uh will become ultra competitive. It seems, or we already see that in our LinkedIn feeds, everyone is becoming a coder. I was in the coder six months ago, uh, but now here I am and I'm creating stuff with uh Claude and Gemini and Codecs. And so there's most likely going to be an explosion of software availability. Software hopefully is going to be a lot more fun and a lot more useful to use. Probably switching costs will also uh drop, so people will um have much more choice to really work with the tools that I want to work with. And so I think that's a bit of a description I would want to give of the risks and opportunities that this um creates. And I think ultimately I don't want to overthink it, I don't want to spend too much time with predicting where AI will be in five years from now, because I think at least for me that would be absolutely impossible. I just want to run as hard as possibly to apply AI to be on the side of the businesses that um capitalize on the opportunities and not being on the side of businesses that will be disrupted by the introduction of these technologies.

SPEAKER_00 20:46

Sure. There certainly is immense economic potential if you are on the right side of AI. And I think with the years of experience in pattern recognition, you guys probably have you're as well suited as anyone to take advantage of that. And I think you are in an industry where it's actually easier to apply it rather than others where people think they're gonna add AI and it might do something. Clearly, you probably have very good ideas about how it will actually transform your businesses. I'm sure that there's a lot of potential there, even though it will be an interesting period with a lot of unexpected challenges happening as well. I guess going maybe a little bit deeper into SaaS companies and their founders, they maybe listen to this podcast or just others who are interested in the space. What would you tell someone who is starting a SaaS company today that they should do differently versus the last decade's playbook? Maybe it's a new guy who learned how to code recently and they want to start a SaaS company. What would be different today versus 10 years ago?

SPEAKER_01 21:35

I think people just have to be a lot more resourceful because SaaS valuations will or might never return to where they once were. And hence you simply cannot afford to uh burn as much capital as uh was burned in the previous decade. And then I think simply in the age of uh AI, great businesses don't require a lot of capital as You know, the lovables and uh whatnots of this world have uh demonstrated uh quite quite remarkably.

SPEAKER_00 22:10

Yeah, definitely much easier to start these days. I guess maybe a quick follow-up to that would be: let's say you you know you someone who started a SaaS company recently, you've gone to the point where you're ready to scale it. What advice would you give to someone in that position if they're thinking about raising venture capital today? Would you think that it would be better to raise VC or actually sell some of the business to an acquire like SaaS group?

SPEAKER_01 22:33

Oh, I think these are two very different uh profiles. So I think in order to raise VC, you need to be a triple-digit um grower of revenues. So if you're a five million uh SAS business this year, you need to be probably a 15 or 20 million um SAS business next year to really qualify for um VC. To fit our requirements, you need to be a uh profitable company that fits the rule of 40. Our companies are much slower growers, but they offer a certain kind of again, consistency and profitability that make them fit uh for these for our model. And we usually don't deal with companies that are one or two years old. A lot of the companies we deal with are 15 or 20 years old.

SPEAKER_00 23:27

That makes a lot of sense. I think the type of business will probably find its way to you versus VC based on just how quickly they're going and what their goals are. In addition to that, I know that you've also written a lot about product-led growth companies like Duolingo. I was wondering if you would talk a little bit more about why you like product-led growth and also whether that's what you mostly focus on in terms of the type of businesses that you acquire and what you might be seeing that other investors might be misunderstanding about that type of growth.

SPEAKER_01 23:53

Yeah, we like the PLG space uh because it always felt a bit like a contrarian bet. Everyone was basically in the B2B enterprise SaaS companies, even constellation software, which is, as I said, a big inspiration for us. I mean, and not only for us, it probably has been a big inspiration for many, for many people, and many search funds have been basically created to go after the vertical market software space. So that seemed to be a very crowded uh space. Whereas PLG SARS businesses, they're a bit treated as the ugly ducklings of the software world. Uh so if I compare a sales led growth uh company to a PLG company, then something that stands out is that uh the SLG model basically is based on spending 50% of your revenues on sales and marketing. And you try to lure in large enterprise customers, you uh sell them uh professional service projects in which the software gets customized, and ultimately that leads to a very strong uh lock-in of the customer. The customer has uh invested hundreds of thousands into professional service, the um software is deeply ingrained uh and uh deeply embedded into all the processes in a company, and it's very hard to get it out again. And that basically is the appeal of um SLG, and that is basically probably also the conception of why these companies can trade as uh on revenue multiples because people felt SLG companies have uh super sticky revenue. PLG companies spend most of their revenue on developing the actual product, so RD is the biggest uh cost bucket there. Many, like the best PLG companies, they build love products that customers get to try for free before buying them. And uh, you know, some of the best PLG um CEOs are absolutely product obsessed. And a great example is Luis Van Ahn, um the uh CEO of uh Duolingo. There are usually no sales teams, there's little customization, and customers can freely move between if I if I don't want to learn my language with Duolingo. There are 10 other language learning apps out there that I could switch to tomorrow. But that doesn't mean that these businesses, like just the fact that customers can freely choose whom to buy from, that doesn't make them bad businesses. I can also freely choose whether I want to drink a Heineken or a Budweiser. Still, the owners of both of those beer brands have traded at uh significant multiples, premium multiples to um the SP for many, many years, right? Consumer staple companies are among the most covetoed businesses um to own in the stock market.

SPEAKER_00 27:03

Yeah, definitely. I think if you are long-term minded in the way you do things, these sort of businesses start to be more attractive where the product is the focus and the product is what builds the brand. And so if that is the focus over the long term, then you can be a bit more patient. Going back to the Berkshire Hathaway model, a Duolingo can be more of your large cap brand that's built over time. So it makes a lot of sense. Maybe one other question, a little bit unrelated, but it was another LinkedIn post of yours that I really liked was the one about how stock-based compensation and earnings are often misinterpreted, and how founders should be thinking about those versus real profitability.

SPEAKER_01 27:39

Yeah, so stock-based compensation, in my view, is just a currency. You can pay your executives in euro, you can pay them in dollar, you can pay them in company cars or chocolate bars, and you can pay them in stocks. But only one type of compensation doesn't get reflected in the PLs that SaaS companies present, and that is the stock-based compensation. That is the one they adjust out. So that obviously is kind of cosmetics, and um investors should pay very, very close attention to stock-based compensation. And I think founders actually um understand that. Um I go back to my founders, um, our founders still own 80% of the company here, and they know that they know the percentage they own, they know that on the dot. They don't know how many shares they own, but they own the percentage. They will tell you at midnight if you call them, they tell you on the dot the percentage. And I think retail investors are just the other way around. A retail investor will tell you, oh, I own 100 workday shares, but they have no conception of the dilution that comes with it. And that needs to change. Shareholders need to uh scrutinize stock-based compensation. And I'm sure, you know, with um the losses that some of the shareholders are now sitting on, more scrutiny will come to that topic.

SPEAKER_00 29:12

Yeah, absolutely. Well, super interesting stuff, David. I really enjoyed this podcast a lot and appreciate you joining. I think you have a lot of thoughts that are very compelling and more in depth than a lot of people in this space. So really appreciate it. Chatting with you and would love to keep in touch. I guess maybe one last question would just be: how can people reach you? How can they look up you or SaaS group?

SPEAKER_01 29:29

Best probably to reach out via LinkedIn or via um the addresses that you have on our website. But you can also always email me at david at sas.group.

SPEAKER_00 29:41

Amazing. Thank you so much.

SPEAKER_01 29:42

Nicholas, thank you so much for having me.