Chaotic Flow

Streamlined angles on turbulent technologies

I’ve recently been asked a lot of questions like the following:

• Are there some applications that don’t fit the SaaS model ?
• When is the SaaS model appropriate ?
• Is it possible to have a “mixed” SaaS model ?

Mostly these are asked by startups that are struggling for growth or profitability and having difficulty actually achieving my Top Ten Dos and Don’ts of SaaS in practice.

To answer these questions accurately, it’s essential to have a strong understanding of how SaaS creates economic value over in-house, licensed or home grown software.  If you can create value, then the model is appropriate.  If you can’t, then in-house software is an equal or better choice.  And, as a SaaS vendor you will have no competitive advantage.

Be warned, that there will be few fluffy marketing tips in this post and the series to come, and you are likely to encounter some very specific economics terminology.  This is SaaS microeconomics 101! It’s going to get a little heavy.

The only difference between software and software-as-a-service is that SaaS is delivered over a standards-based network called the Internet.  Therefore, all new economic value and competitive advantage must flow from this difference.  SaaS economic value over software comes in two Web-enabled flavors:

1) A lower cost structure from economies-of-scale that derive from aggregating customers via the Web onto a single, vertically integrated infrastructure i.e., hardware, software, maintenance, etc. This cost savings is generally passed on to the customer through a low subscription price and is generally referred to as the SaaS lower total cost of ownership (TCO)

2) Reengineering business processes by leveraging network automation e.g., online trial, integrating local offices, support chat, etc. and network effects, e.g., crowdsourcing, support forums, revenue-sharing monetization, etc.

Both of these sources of value can create sustainable competitive advantage for the SaaS vendor, 1) is a low cost advantage and 2) is a source of product differentiation.

However, when the nature of your customers, application or technology limit your ability to create value from either of these sources, then you have reached the boundaries of the SaaS model for your business, because beyond these limits there will be no competitive advantage over in-house software.

Some markets have customer’s whose needs are so unique and applications that are so complex that they are intractably fragmented and customers cannot be aggregated onto a single, uniform infrastructure. For these customers, SaaS would simply be a foolish choice.  Alternatively, a market may be appropriate for software-as-a-service, but the SaaS vendors may not be building their product to leverage the potential of customer aggregation and the general principle that their SaaS offering is part of the Internet.  In either case, the only possible business result is failure.

If you read between the lines of my Top Ten Do’s and Don’ts of SaaS, you will see one or both of these economic truths shining through.

This will be the first post in a (thankfully) short series where I try to hone in on the economics of competitive advantage in the SaaS model.  The next three posts in this series will dig deeper into each of the following economic factors that can determine the long term success or failure of a SaaS business.

• Aggregating customers for a low cost advantage
• Leveraging the Internet for differentiation
• Reducing adoption and switching costs

Expect a new SaaS Model Economics 101 post each week in December (minus the holidays)
…and a surpise final post right after the new year!

JY

It has taken almost a decade for the software industry to absorb all the ramifications of moving from perpetual license pricing to SaaS subscription pricing. The longer payback period for investors, the headaches of high acquisition costs, and the upfront pre-revenue investments in infrastructure being just a few of the issues with which SaaS entrepreneurs and VCs have had to wrestle.
So, why go out on a limb looking for new revenue and higher margins by experimenting with even more unconventional monetization models? Won’t this just make a bad situation worse?

To temporarily borrow a well known trademark, the reason is simple: it’s the network. If there is a common theme emerging from this short list of dos and don’ts then this is it. It’s the network. It’s the Web. SaaS is not software. New business value arises from the characteristic that your software-as-a-service offering, unlike licensed software, can become a network hub that can connect any business entity, user or system it touches to any other: your prospects, your customers, your partners, your customers’ customers, your customers’ vendors, your customers’ partners’ customers, and so on all the way out to the edges of the Web. Given that value is created by the network, it follows that new network-based monetization opportunities are also created. Here is a quick (and very incomplete) list of new monetization opportunities open to software-as-a-service businesses.

Network-enabled services

• Advertising
• Syndication (content/applications/data)
• Benchmarking and market intelligence
• Integration
• Cloud services
• Marketplaces

Revenue models beyond subscriptions

• Referral fees
• Transaction fees
• Consumption-based pricing
• Performance-based pricing
• Reseller margin
• Revenue sharing

The monetization opportunities open to you will depend on many factors, including the nature of your business, the attitudes of your customers and the sophistication of your product. But most importantly, it will depend on your own creativity.

In the first post in this series, I presented a somewhat trick question in the hope that anyone who digested the entire series would have no difficulty coming up with the right answer.

Quiz: What is the most successful enterprise SaaS application to date?
Hint: It’s not Salesforce.com

For those of you who have read all 5 posts in this series, thank you for your patience. And, if you haven’t guessed it already, the answer is…

Answer: Google Adwords

If you own, manage or are considering starting a software-as-a-service business, then you can’t afford NOT to check out these fundamental rules of the game and cutting-edge tips for success.
Hot off the presses!

Enjoy,
JY

Quiz: What is the most successful enterprise SaaS application to date?
Hint: It’s not Salesforce.com

It is ironic, but the unfortunate fact is that most SaaS vendors see the Web as little more than the browser through which they deliver an enterprise software application. In fact, the phrase itself software-as-a-service, creates a subtle bias toward viewing the business as simply a piece of traditional software delivered on-demand over a network. Connecting an application to the Web unleashes disruptive economic forces that go far beyond multi-tenant architecture and reduced TCO. It enables viral organic growth, low cost customer acquisition, business productivity gains across-the-firewall, and new monetization models to augment simple license subscription. That is why the most creative SaaS vendors are realizing that the real opportunities for business innovation lie outside the firewall and are transforming their SaaS offerings into Web 2.0 businesses.

Below is a list of principles that can help you transform your low-cost, commodity SaaS into a high-value Web-based business.

Accelerate organic growth

• Master “free” online marketing tactics
• Streamline and automate the entire customer life-cycle

Reach out and become a hub on the Web

• Links, links, links
• Encourage community

Build the business into the product

• Automate the customer lifecycle
• Crowd-source new capabilities

Reach across the firewall to unleash disruptive economic forces

• Re-engineer external processes
• Integrate through the cloud

Monetize creatively

• Leverage the network
• Look beyond subscriptions

After I’ve had a chance to elaborate on each of these ideas in a separate post, I’ll provide the answer to my somewhat trick question above.  However, I’m hoping that the solution will emerge as obvious.

Because B2B SaaS roots are in enterprise or office software which have traditionally been delivered on a CD, i.e., like any offline commodity that is physically seperate from the business itself, the opportunity to change the game by building your business into the product is one of the most overlooked by SaaS vendors.

When you move your software product online into a software-as-a-service delivery model it enables you to connect the product directly to your customers on the outbound side and directly to your internal systems on the inbound side.  I’ll dig deeper into how you can leverage this for your customers to create disruptive economic shifts in the market in another post, but for now I want to focus on how this enables you to reengineer your fundamental business processes by building them out from your product.

Perhaps the best role model for building the business into the product is one of the earliest Internet success stories: Amazon.com.  Although most of what you can buy at Amazon is a physical product, the fact that it gets shipped to you is almost an afterthought–you could achieve the same purpose by ordering through an offline catalog.  What you are really buying when you shop at Amazon is convenience and credibility, and these capabilities are fundamentally features of Amazon’s SaaS application.  It includes affiliate referrals, product search, offers, recommendations, one-click checkout,  order management, support and nurturing. More specifically, it automates the buying process. Amazon’s affiliate programs spread points of entry (links!) all over the Web, and when you reach the Amazon website you are naturally led through every stage of the purchase cycle. These are the automated business processes you want to build out from your SaaS product.

Chances are that your business is different from Amazon’s in some fundamental ways, e.g., target customers, product complexity, community involvement, etc.  and you will need to tailor your approach to your market.  But, I’ll bet if you study this success story and fully understand the implications, you will find analogies that you can apply to your business. For example, crowd-sourcing has become a very popular approach to international translations, but Amazon was crowd-sourcing automation of the decision stage of the book purchase process10 years ago by encouraging customers to create reviews and top 10 lists.

This is post number three in a series of five.

For more on how to build your business into the product, check out…

• Software as a service is all about the product
• Build for the long tail and get the rest for free

For better or for worse, I am old enough to remember the reengineering craze of the
early nineties.  For those of you that are under 30, this was a monumental
hype cycle throughout the technology consulting industry centered on redesigning
business processes for order-of-magnitude gains in productivity by leveraging
new client-server technology.  It was codified in the famous book:  Reengineering
the Corporation by Michael Hammer and James Champy.

Brainstorming and out-of-the-box thinking were the order of the day,
because creativity was the key ingredient to realizing the potential gains.
However, creativity has not been the mantra of the SaaS revolution,
the mantra of SaaS has been lowering TCO (total cost of ownership).
Basically, take what you do now, make it multi-tenant, outsource it, and pay less.

While this is a great business proposition for customers, it places SaaS vendors
squarely into highly-competitive, price-sensitive commodity businesses.  If you
want to differentiate your offering, you must look beyond the client-server
application you are replacing and ask yourself: How can I revolutionize the current
business processes of my customer by connecting my SaaS offering to the larger Web?
Or, more concretely by connecting it to users and applications outside the firewall.

A key point of difference is that the business processes in question
are NOT internal processes (classic enterprise), but internal-external processes or even purely external.
While 90’s style reengineering was about employee productivity gains,
SaaS and cloud-based reengineering will center on prospect, customer, and partner processes
and will derive order of magnitude gains in productivity from integration, network effects,
user-generated content, and outsourced processing or data.

In earlier posts, I gave some specific examples that included Zendesk’s online support
applications and B2B2C platform plays.  But, I believe that opportunities abound and that they
will only increase as cloud computing becomes more the norm.  My poster child
for this concept is Google AdWords/AdSense.  This application is rarely
classified as SaaS, but it is clearly B2B(2C) software-as-a-service.  I think this is because it
doesn’t look like a traditional enterprise client-server application, like CRM
or ERP.   However, it does completely revolutionize a business process that crosses the firewall:
demand generation.  And, if you buy what I’m selling in this post, you will now classify them
as a new breed of enterprise SaaS CRM, just like email marketing platform can be considered as such.
The fact that Google and Salesforce recently announced partnership
and that Adwords is becoming more and more integrated into salesforce.com
provides evidence enough.

If you think outside-the-box or rather outside-the-firewall,
can you reach out across the Web to your customers prospects, customers,
and partners or to the cloud to other applications and data to
enable order-of-magnitude increases in productivity?  Can you envision
entirely new killer applications that have not be made before?  If you can,
then your have taken the first step toward breaking out of the SaaS mainstream
and the hard life of low cost-based competition to the Web 2.0 world of
innovation, differentiation and competitive advantage.

This is post number four in a series of five.