The problem with being SaaS

Autumn 2015

The ability of the SaaS business model to generate revenues is compelling. So much so it has launched a thousand narratives from Venture Capitalists peddling the opportunity to invest in these magical unicorns of the networked age.

Just one glance at the chart and anyone can see, even compared to the disrupted old Client Server Model (e.g. Peoplesoft), once you get the model right with this new networked SaaS model (e.g. Salesforce.com) the sky is the limit.

Here is the chart that disrupts the magic thinking. It shows the accumulated losses being generated by these publically listed SaaS companies.

The obvious question being why? Why is it so difficult to turn the SaaS revenue engine into a profit engine?

The first answer is the increased frequency of disruption.

By the time the SaaS business model in normalised (e.g. 7 to 10 years in development) it is being disrupted by the next wave of SaaS start-ups. In stark contrast to the Peoplesoft Client Server success story of the 1980/90's the vast majority of SaaS companies never break even on their costs of operations - Never mind deliver a return on investment to their unwitting investors.

The second answer is the increased cost of sales and marketing in the networked economy. e.g. Compared to the 1990's client server model of the Peoplesoft Enterprise Solution the subsequent generation of online providers have found their cost of sales and marketing (as a % of revenues) to be between 1.5 to 2x higher.

The high cost of marketing and sales, plus the costs associated with funding the R&D required to minimise the churn created by new entrants, means even a SaaS business model operating at optimal performance becomes something of a money pit. Rather than providing a "low cost of entry" for a new generation of disruptive software developers it requires deep pockets to fund growth. The reason being, as with all networked business models, discovery across the network and retention is the most expensive part of the equation.