Gartner reports that aggregate SaaS revenue reached $9.2B in 2010, up over 15 percent from the previous year (compared to 8.5 percent for enterprise software overall) and forecasted for higher growth in 2011. Strong growth projections are validated by others as well; multiple industry analyst organizations are on record stating total revenue from Cloud-based and SaaS applications will outstrip enterprise revenue in the next few years. However, many ISVs have not thought through their go-to-market strategy and modified their internal culture and expectations to compliment a SaaS, recurring-revenue model.
Given the growing maturity of the SaaS market, most would think this a fait accompli for vendors; but in reality it is a lot more difficult to execute than it is to propose.
What organizations should assess is whether departments and lines of business are aligned with the right people and processes to scale to a SaaS business model. It is one thing for Marketing and Sales to recognize the changing competitive conditions that challenge customer acquisition; but if the rest of the organizational processes and revenue model are structured around the legacy business, dependence on SaaS moving forward is fraught with risk and pitfalls.
What follows are some of the key issues that traditional, on-premises vendors should examine to successfully migrate their business to the SaaS model.
No department is more challenged with coping with this change than development. They must modify their processes to provide functional releases each quarter vs. the year-or-so timetable common to the on-premises world. The quarterly release schedule requires Agile development (another new skill to meet faster development cycles) over traditional Waterfall development, more common to the on-premises model.
Not only is this change in delivery scope a challenge but the skills required internally also must change to application, user-focused engineers vs. “stack management” skills to support and certify releases on platforms, operating systems, etc.
On a positive note, this helps retain the focus on core application knowledge and differentiators, which often dilute resources needed to support an on-premises model. Development still has the challenge of supporting multiple, legacy revision levels to retain the base while also trying to resource for a SaaS delivery model. The challenge has fueled the rise in lower-cost, offshore development for vendors to profitably fight the battle on both fronts.
Best practice – Consider PaaS (platform as a service) choices to expedite development on emerging platforms (i.e., force.com, Azure), which can drastically speed time to market for new SaaS modules.
The paragon vendor of the SaaS model has been and remains salesforce.com. Yet few remember or realize that it was several years until it became a profitable organization. Since SaaS is a front-end-loaded cost model, reliance on deferred, recurring revenue takes time before it reaches levels that outstrip operational costs.
This is perhaps the biggest factor traditional ISVs struggle with in morphing to a SaaS model. The “revenue before expense” model of licensed software is a lot easier to swallow than the deferred gains offered by the SaaS model and highlights the necessary change in mindset and expectations.
Alternatively, the enterprise model often risks an entire reporting period’s performance during the last week of the period for deals to come in, often at unpredictable, highly discounted rates. Surely, vendors that have the stomach for this can weather the deferred gains offered by the SaaS model. Recurring, SaaS-based revenue not only provides the predictable performance to operate the business but is much preferred by the investment community.
Best practice – Have a SaaS strategy with a business plan and deliberate marketing strategy. A good entry point is with modular offerings attractive to the base and for entry into new markets. Two ISVs could have the same objective by delivering a SaaS offering, but the one that is more successful will have completed its due diligence. The strategy to retain customers, acquire, or some combination, must be spelled out up front and reflected in a forecast.
The recurring pay-as-you go model brings with it a change in the go-to-market model that many ISVs have struggled to overcome, with subscription pricing being a disrupter to selling strategies that were common for a long time. Lower price points bring smaller operational margins, a different cost structure, different sales skills and modified compensation. In a rush to market, this often gets overlooked as the existing sales structure cannot be sustained with a (lower) subscription model.
This is exactly what happened to an enterprise software company I worked with that realized a new, lower-cost channel was needed a year after its SaaS offering was released, which carried with it all the late-to-market consequences.
Further, a residual-based sales compensation model to match recurring revenue rather than the up-front commissions needs to be in place along with appropriate sales skills and behavior. Pre-sales organizations accustomed to demonstrating solutions for enterprise applications are conditioned feature-based, “show-and-tell” demonstrations that are more oriented to a customized, on-premises application.
Alternatively, the SaaS demonstration model emphasizes configurability, less complexity and more solution finesse, another frequently underestimated issue.
Best practice – Enterprise license vendors with a SaaS offering should start with a separate sales channel (online, telesales, reseller, etc.) that compliments the traditional model. Also, sales and marketing need to be trained to understand the break-even points, reduced resource requirements and investment models that SaaS offers so they can build this into the sales script that should focus on core, product and business benefits.
Enterprise vendors have traditionally counted on a strong, resourced client IT department to manage the on-premises application, servers and integration requirements. This was precisely the case and challenge an enterprise vendor with whom I worked faced when a growing portion of its base began the SaaS migration. Legacy, on-premises customers provided a strong source of maintenance revenue (at 20%+ of list license price per year) needed to keep the company afloat while it was transitioning to SaaS delivery.
The SaaS model operationalizes support from a break-fix and upgrade model. This is where is front-end-loaded costs mentioned earlier are most concentrated. Now the vendor bears the responsibility for uptime, availability, feature upgrades and integration to adjacent systems. This has given rise to an industry of PaaS and IaaS (infrastructure-as-a-service) that partner with SaaS ISVs for delivery.
The upside for the vendor is that it can focus support resources on what is core … application knowledge and functionality, similar to what the development organization does, as I mentioned earlier.
Best practice – Negotiate SLAs with delivery partners that meet or exceed the performance your clients are accustomed to and insure they pass thorough security reviews (like SAS-70, type II certification) and Safe Harbor certification for data privacy; this is particularly important in distributing to the EU, where regulations are more strict. Be sure provisions for IT management tasks like disaster recovery are clear and in place. The recent Amazon outages have brought more attention to this.
Finance and administration
Often the finance organization is the last department that must be consulted when transitioning to a SaaS model. However, the concepts of invoicing, contracts, forecasts and margins are all areas they are accountable to report. Modifying processes to invoice and provision application instances is much different than they are accustomed to in the enterprise license model. Modifying contracts, revenue recognition and reporting, legal terms and SOX compliance (for public companies) are underestimated in their complexity for the finance organization.
Best practice – Be sure the business plan includes these details, which are just as important as the external, market opportunities that usually get most of the attention.
This is just a summary of the steps and hurdles to overcome. As noted, there is much the enterprise license provider has to learn to become a SaaS-enabled ISV. Organizations like Saugatech and THINKstrategies have published readiness assessments, which are of good use to ISVs making the transition.
A legacy base that supports the organization in its transition reaps rewards and benefits as the startup without a base has none of the baggage. However, the established ISV has the intellectual capital, expertise and brand recognition, all of which work to its favor if it patiently and properly plans the transition.
Of course, it all starts with the right leadership that sets the tone for becoming a SaaS organization by design and not by default.
Fred Landis is a product marketing and alliance professional with over 15 years’ experience in SaaS, CRM, competitive intelligence, market consulting and business development.