Chaotic Flow

Streamlined angles on turbulent technologies

In an earlier post, I listed my top three sure-fire marketing tactics that work for on demand software.
Here are my top three that don’t…

1. Extensive offline marketing
2. Chasing elephants
3. Premature channel development

Offline marketing is almost always expensive, and as an on-demand service your revenue/user is usually far  too low to cover it.  Second, if a prospect is not online, he or she is missing a very fundamental qualification criterion for signing up for a Web application—they aren’t online!  I say extensive, because sometimes there are focused events or offline promotions that can provide a real return, or have ancillary benefits such as showing industry presence and credibility.  It really depends on your industry, product and target prospects.  But, they are few and far between. 

Chasing elephants is by far the biggest mistake an on-demand business can make.  You find a prospect that has cash. But there are missing features, a long sales cycle and special legal requirements, etc.  When you need cash this direction is tempting.  But, one too many stumbles away from your core strategy and you wake up to find that you are a ten customer consulting business constrained by the special needs of a few powerful customers—not a rapidly growing web application.

Finally, no one wants to resell your product or service either as an affiliate or a full scale VAR, unless they can make money at it.  Until YOU are making money at it, you will have a hard time convincing a channel partner to invest precious time and resources building specific capacity to do so.  It may be that your ultimate distribution model is fundamentally channel-based, by you almost always need to kick-start revenue yourself to prove your potential.  And, you will need to share the unique aspects of marketing and selling your product with your channel partners—which you can’t do if you haven’t been through it yourself.

I recently did an interview on vator.tv for ivybrain.com that focused on marketing tips for entrepreneurs in on-demand software (soon to be posted). This is the first in a series of posts that summarize the ideas covered….enjoy!

1. Create and deliver a focused, high value product. Don’t try to solve every problem; keep the value proposition simple.
2. Choose a big market, so you can choose your customers. Don’t chase customers that need features you don’t have or would naturally sign up later in the adoption cycle. Ultimately, your value proposition has to draw customers to you…and the integrated product has to allow them to sign up and get going on their own.
3. Strive for 100% self service acquisition/deployment/maintenance and work rigorously to eliminate obstacles that require and hand-holding. Put people in place initially to do the hand-holding, e.g., education, sales, service, support…but recognize that while their tactical function may be to close a sale, the more important strategic function is learning. These folks are a direct line to your prospects that provide critical feedback to get the product just right and understand the details of what is stalling growth. Then, make it your company’s habit to use this knowledge to eliminate these obstacles through automation.
4. Develop online marketing prowess and creative PR. SEO, SEM, email marketing, and affiliate marketing are commodity skills; you must be a master at these (or outsource to a master) just to be competitive, and then you should be good and creative at more cutting edge marketing vehicles like blogging, social media, viral media and syndication. Plus, don’t underestimate that one incredibly great marketing or PR idea while mastering the basics…often that one creative blockbuster, viral marketing or PR idea can generate 10X demand. But, you can’t count on that long shot…so mastering the basics is a given.
5. Flexibility. You won’t get it right out the gate…so all of the above should be designed to create a flexible, rapid response to quickly zero in on your sweet spot, accelerate adoption, and grow rapidly. Expect failure. Learn from it. Move on.

Here is a picture I find myself drawing often. It is closely related my last B2B SaaS post regarding old enterprise habits, but it is actually much more general. Most Web application / Software-as-a-Service companies will find themselves spending up to 50% of revenue on sales and marketing. But, how much should you spend on sales vs. marketing. And, how tightly integrated do these two functions need to be? Of course it is common wisdom that sales and marketing need to work together, but this need is acute for most Software-as-a-Service companies. In enterprise software, where the price point is $100-500K per transaction, the marketing organization is only loosely coupled to revenue through lead generation, messaging /collateral / website, and generating awareness through events and PR. Contrast this with a consumer application, where the tables are turned completely and what sales does exist typically takes the form of partnering and business development—which may be revenue generating, but is not aimed at closing revenue directly, i.e., getting more users.

Most B2B SaaS offerings and B2B2C Web applications (e.g., email marketing, Gadget platforms, online survey research, customer and channel support, etc.) tend to fall right in the middle of this graph. One reason for this is subscription/transaction- based pricing (as opposed to a three year, 1000 user enterprise agreement), as well as the general expectation of a Web or SaaS application to cost significantly less than software. The result is that SaaS companies must continually strive for reduced selling costs, increased marketing efficiency and tighter sales-marketing integration to create a revenue-generating machine—often by leveraging technology to automate as much of the sales cycle as possible from awareness to trial to acquisition and even through to support and add-on selling.

The software/Web/Internet industry is a tight community and SaaS vendors routinely recruit sales, marketing and engineering executives because they possess unique experience, knowledge and relationships within an industry sector, e.g., ERP, CRM, BI, retail, supply chain, etc. While this may often be a valid decision, every SaaS CEO should be aware of its pitfalls: old enterprise habits die hard. Knowledge and experience with the high volume, low cost approaches required to build a successful SaaS business, e.g., telesales, Web marketing and multi-tenant architecture, often hold greater importance, depending on the skills and experiences of the overall management team.

The wildly successful revenue model of enterprise software was built on solution selling, feature dominance, customization, and proprietary IP—all of which were expensive, because they were expected to delivery competitive advantage to the customer. Whether or not this was always the case may be debatable, but it is clearly not the case in B2B SaaS. The value proposition of SaaS is the exact opposite, which is why it poses a threat to enterprise companies. SaaS delivered under the value proposition of outsourcing non-strategic, commodity capabilities at the lowest possible cost. This is the essential conflict of the innovators dilemma in SaaS, and why you don’t see a lot of enterprise software companies jumping on the SaaS bandwagon.

When breakeven looks like it is years away, it can become incredibly difficult for managers to exercise the required discipline to avoid undermining the company’s long term strategy and inherent cost advantage. In the short run, it can quite sensible to pursue that six figure deal with unique functional requirements (after all the customer only needs this one thing!) , even if the sales cycle will take a little longer and the roadmap needs to be adjusted for this one customer. The enticement of this low hanging fruit can be further complicated by the strategic needs of the company. But, if these activities undermine the company’s attention and effort in building a low cost, high volume customer acquisition and product delivery machine, that million dollars in revenue will soon be overshadowed by multiple millions of dollars squandered in wasted effort.

Most software executives are familiar with the concepts of using the “bowling alley” strategy to usher a new product through early adoption to market acceptance as presented by Geoffrey Moore in his book “Crossing the Chasm.“ However, they may not be aware that this strategy has unique pitfalls when it comes to launching an on demand Web application. When you introduce a new product, the initial design often needs minor (or major) adjustments to gain general market acceptance. In addition, target customers may have requirements that are unique to their segment or that conflict between segments. In order to resolve these issues, a vendor will enter a number of iterative cycles of trial, feedback and revision of the offering with representative customers. Moreover, in order to “cross the chasm” it becomes critical to capture reference customers to begin the process of dominating each “bowling pin” segment.

In these early stages, the company must engage in strategies and behaviors that are the exact opposite of the ideals required to achieve the highly efficient, low cost, high volume, commodity-oriented execution required to deliver a successful on demand application. Salespeople may have to invest large amounts of time and effort in securing initial strategic reference accounts. Engineering may have to modify the product to satisfy the requirements of early adopters. And, the company runs the risk of being derailed by enticing short term revenue opportunities from customization and consulting services that are ultimately low margin and non-strategic.

In these early stages, it is critical to continually reinforce the longer term strategy and vision in order to highlight the fact that these actions are merely a means to an end, and not the end in itself. New feature requirements should be carefully weighed against overall market needs and only those that will prove useful to large groups of customers should be accepted in order to maintain a standardized product offering. Sales and marketing should carefully monitor the penetration of each target market segment, so that a conscious, smooth transition can be made from high touch, strategic account selling to high volume, transactional selling as soon as the initial critical mass of reference accounts and demand generation is achieved to knock down the “bowling pin.” And, managers must realize that achieving this smooth transition requires more than simply establishing a plan. It can become very difficult to walk away from a deal, a customer or a product idea once it has lost its strategic value, because people have established behaviors and made personal investments of time and energy.

Many B2B SaaS businesses will succeed or fail based on the volume, cost and quality of inbound leads. The reason for this is straightforward: subscription price. If you are like most SaaS vendors, you are probably offering an annual subscription price that is 5%-25% of the equivalent upfront perpetual license of a traditional enterprise software vendor. There is a lot of analysis by VC firms etc. regarding what the real benchmarks for these numbers should be, but I’ll suggest we just go with the theory that you have to generate leads for A LOT LESS. If your subscription rate is $5000/year, then you need to acquire customers for anywhere from $2,500 to $7,500 total absorbed sales and marketing cost (the lower value if you don’t have a lot of cash, the higher if you can absorb a three year payback timeframe).

Therefore, you can’t afford expensive lead generation efforts in the $1,000/opportunity range, or direct selling costs in the $10,000/deal range, which are the bread and butter of traditional enterprise software, i.e., outbound telemarketing, print advertising, direct mail, trade shows, and heavy field marketing backed up by field sales reps making $200K/yr on $2M/yr in quota. While you may be able to apply some of these methods selectively for concentrated, high-need, high-value market segments, most SaaS startups will find them unprofitable. You must strive to develop marketing campaigns that bring customers to you and a sales model that can close a deal for around $1000. What are you to do?

You are a Web-based business—act like one! Your first plan of attack should be Website search engine optimization (SEO) and search engine marketing (SEM). Your Web site should be built for SEO from the ground up on the day you launch, not optimized (or sub-optimized) later on. Your competency in online marketing and public relations will be as critical to your success as your engineering effort. You should be leveraging every possible low cost, online vehicle including search optimization, search advertising, directory listings, affiliate programs, email, online articles, newsletters, online interviews, Webinars, blogging, social networking, banner advertising, podcasting, flash tours, free mash-up widgets, viral customer referral programs, free trial, and online purchase before you even consider direct mail or an expensive trade show. Why? Because you don’t just need leads, you need the Glengarry leads. Internet-laggards will be too hard and too expensive for you to close.

After this, your second order of business should be offline PR—because it is free. Opt for evangelism over outbound calling, speaking engagements over booth space, and online case studies articles, and interviews over advertising. Many startups fall into the trap of over-analyzing their highly-fragmented, SMB target markets and coming to the conclusion that a heavy field marketing effort is required to get in front of these hard-to-reach customers. This is not the case. The right answer is that your most important prospect qualification criteria is not industry sector or application need, it is comfort with the Internet. If your target industry sector is food service distribution, then your target prospect is food service distributors that are online, with broadband, and Web-savvy. You cannot afford to communicate and educate with late-stage adopters who are not 100% online today. These customers will come along as they educate themselves. If you visit the Web sites of successful SaaS companies like www.salesforce.com and www.taleo.com, you’ll see ten times as many online events as offline ones, and the offline events lean heavily toward road shows, local seminars, and user groups, i.e., prospects that came there just to see them! If you find that you are spending too much on offline marketing to generate leads or you aren’t getting enough leads, the problem is not the efficacy of your offline marketing program; it is your qualification criteria and your allocation of marketing expenses.

There are many roadblocks that can get in the way of getting leads in the door. But, before we consider these, ask yourself this: “Is my market really big enough?” You would be surprised at the number of vendors jumping on the SaaS bandwagon without a real handle on the size of the market they are really addressing, or the impact market size will have on their ability to deliver their service profitably.

Given that most of the Fortune 1000 IT departments are still trying to swallow the alphabet soup of enterprise software (ERP, CRM, BI, RDBMS, WMS, RFID, ASP, .NET, J2EE, etc.) they have purchased over the last fifteen years, you are unlikely to make much headway with this group as early adopters. For this reason, most B2B SaaS vendors have been honing in on the small to medium-sized business (SMB) market and small, independent functional groups within larger companies. This is the tried and true model of the companies that have been successful securing customers, such as salesforce.com and NetSuite. However, many SaaS applications are not as generic as CRM or ERP, and even these applications can have dramatically different requirements across SMB segments.

Most SMB’s do not consider themselves “SMB’s,” but instead identify closely with a specific, and generally highly fragmented industry sector such as retail fashion, toys, food distribution, hospitality, moving and storage, plumbing, HVAC, instruments manufacturing, and software startups to name just a few. Therefore, careful market segmentation analysis is often required to identify those customers with sufficient business need-ROI and business process-product function alignment with your SaaS offering to drive a purchase at a low enough acquisition cost that is profitable for your business model. In addition, all these “sweet-spot” segments must add up to a big enough mass market for you to achieve the inherent cost advantage of SaaS. It is your cost advantage that ultimately will motivate your prospects to switch over to your SaaS from their current way of doing things, be it manual processes, simple desktop applications, or a traditional enterprise application.

The overriding problem with most B2B SaaS vendors today is their inability to reach profitability. Customer acquisition costs in particular often run 50%+ of revenue, and while logic says that one day subscription revenue will overtake this as the market matures (i.e., all prospects are now customers, so they just pay maintenance and we collect the cash), this plan is not playing out in practice. Welcome to the Silicon Valley world of VC-backed software where growth is EVERYTHING. You will never reach a time where you have all the customers. Even if you do, no one will recognize it and there will be unrelenting pressure to spend MORE on acquisition and new product development to gather up that one last customer to increase top line revenue. You can do all the break-even and NPV analysis you like, the psychology of the industry will not let you follow through on this strategy.

A paradigm shift is required in the minds of both SaaS executives and VCs if on demand enterprise software is to reach the level of success of traditional licensed software: growth follows efficiency, not the other way around. Everyone gets excited about a stable subscription revenue stream, but they forget that the requirement of profitability implies a stable cost structure that is below that revenue line. If you’re annual subscription fee is $1000, then your average annual cost of sales, marketing, support, development, operations and administration better be under $900/customer. Too many companies and investors are trusting too much in the inherent technological economies of scale of SaaS and are waiting to see how the rest of the SaaS cost structure shakes out. This is foolish, because the subscription fee that your target customer (usually SMBs) is willing to pay for your service is completely unrelated to your technology or your cost structure. It is your job to make them meet at a profitable price. I believe SaaS vendors should be targeting and driving toward a stable, lower cost structure throughout their operations—from day one, or if not day two.

If you annual customer acquisition cost exceeds 50% of sales, you should focus on increasing the efficiency of your sales and marketing processes to reduce cost/lead (or increase leads/cost!), shorten sales cycles, and reduce or eliminate labor costs. The days of the high-flying, all powerful enterprise sales star are over. SaaS is a cost-reduction play and your organization must strive to be a customer creation and product delivery machine. Drive leads through low cost Web 2.0 PR and viral marketing techniques, develop an effective, low touch sales process with extensive self-service, and most importantly avoid prospects that are too expensive to acquire—they may look like your target market, but they are not, because you cannot sell to them profitably. Chasing risk-averse buyers in an early adopter market, over-marketing to prospects that are too difficult to reach, and wasting precious selling time on prospects that have requirements beyond your current product offering are all scenarios that must be routinely qualified out of your sales process.

One example I like to share with SaaS executives who believe this is a pipe dream is Atlassian. Demonstrating strong year-over-year growth, this company is selling what might be thought of as traditional license enterprise software under a shrink-wrap model at SaaS prices! How do they do it? By applying Web-centric, low-cost, prospect-driven, grass-roots sales and marketing techniques that creates a strong inbound lead flow and keep out-of-pocket marketing and sales labor costs to a minimum.