As the saying goes, timing is everything. We are at a unique time in history for software entrepreneurs, companies and investors as the market moves aggressively to favor the cloud computing space. There are already roughly three dozen public cloud companies, and there are dozens more that will follow as the market transitions from the legacy client-server model to cloud, and from the suite vendors like the SAPs and Oracles to best-of-breed cloud providers.
In fact the cloud market has experienced massive expansion since 2009 when SandHill.com published our “Bessemer’s Top 10 Laws for Cloud Computing” for driving success in the cloud. Our intention with the 10 Laws was to share our insight as the earliest pioneers in the cloud market and how our investment strategy evolved along with the market. (BVP has one of the largest and most successful cloud portfolios in the entire venture industry — check out the Bessemer “Cloudscape” to get an idea of the breadth and depth of our investments.) At the time we published the 10 Laws, the Software-as-a-Service (SaaS) arena had matured through the 2000s and was the most active layer in the cloud stack.
As we predicted, the cloud market has since evolved to also support the deeper layers of the stack and we have seen rapid growth within the Infrastructure-as-a-Service (SaaS) and Platform-as-a-Service (PaaS) layers as well.
A snapshot of the market today
Many of the aspects we focused on in our first version of Bessemer’s 10 Laws have played out very positively for the market including four key themes:
1. Very active IaaS and PaaS space. Amazon Web Services (AWS) is now a runaway success for consumer Internet companies and is starting to have success with business-to-business entrepreneurs as well. All enterprise players worth their salt have tried to respond — most notably Microsoft with Azure, as well as Google, IBM, Rackspace, major telcos and dozens of others. Quite amusingly, even Oracle at its recent user conference listed an entire suite of products that are suddenly in the cloud.
The activity in the application (SaaS) layer and the infrastructure (IaaS) layer has created a lot of opportunity for entrepreneurs to build platforms in the middle PaaS space, and this is the area where we see the most new activity as we head into 2013. As technology investors, we are very excited about the explosion of activity in the middle layer of the cloud stack. As this key slice of cloud computing matures, it will unlock the cloud market to an entirely new set of developers and entrepreneurs.
Companies such as Twilio, Box, SendGrid, Shopify, Zapier, CrowdFlower and DocuSign are leading the platform revolution and have programmatic interfaces that allow developers to build on top of them. Hundreds of thousands of developers — both within large companies and at the cutting edge of brand new companies — are now able to quickly build powerful applications by integrating on demand platform services from dozens of sizeable PaaS companies. We expect to see the continued explosion of PaaS companies and look forward to the opportunity to work with many of them!
Cloud layer lines are blurring. Some blurring of the lines between the IaaS and PaaS layers is starting to occur as AWS continues to offer new services and redefine the lines for everyone. There is a wonderful arms race of pricing and services among the leading vendors — including Amazon, Microsoft, Google and Salesforce.com — that is constantly giving new companies access to new services at even cheaper prices. This makes it very difficult for private companies to compete in the IaaS layer, but these trends work to the benefit of small companies building PaaS or SaaS solutions on top of the other platforms.
This market is still relatively young and we expect to see more lines blurring in the next two years as the competition increases in these multi-billion dollar markets.
2. Legacy mega software package vendors are playing catch up. Just a couple of years ago Oracle and SAP were doing their best to create resistance to the cloud wave entirely. SAP had some very public failings with their Business ByDesign effort and flushed hundreds of millions of dollars in false starts there. Oracle has been working through the Fusion rewrite for years, trying to get an integrated architecture with the PeopleSoft acquisition and across their platforms; so they had their hands tied for some time. Larry was very public in trying to slow down the cloud adoption rate.
Without exception, all the megavendors and legacy software companies have now entirely changed their messages in support of cloud computing and are scrambling to remain relevant as the market shifts around them. Building for the cloud has presented real challenges for the larger players, so they’ve started to get more acquisitive, trying to buy pillars of the ecosystem to remain relevant. SAP, Oracle, Adobe and IBM have now all thrown around billions of dollars to try to buy their way into SaaS through the acquisitions of companies like SuccessFactors, Ariba, Omniture and Taleo.
It’s a unique, challenging time for the incumbent software vendors because their legacy “on premises” software business actually present significant resistance to change and thus disadvantages them relative to pure-play cloud companies.
3. Startups have major advantages. It’s a great time for software entrepreneurs and startups. They can architect from the ground up for cloud-oriented products, take advantage of the tailwind of customer adoption of the cloud and aren’t burdened with legacy baggage of old models. Their infrastructure costs are significantly reduced because IaaS vendors are beating each other up to provide commodity-like pricing and forward-price their capabilities to drive adoption.
A strong financing environment adds to these favorable market dynamics. The venture capital and angel community is eager to fund smart teams that are active in the cloud computing space, and valuations have increased dramatically. This means that capital is very inexpensive for entrepreneurs in private markets. So, they can bring a cloud company to market with modest dilution and achieve a very short time to market.
4. The cloud is a win-win for customers and vendors. Today, there is a high-quality SaaS application for just about every business need and, in most cases, multiple application options. Prospective customers are oriented to cloud first and many issue requests for proposals that are primarily focused on cloud providers. What was a headwind six years ago, and maybe neutral three years ago, is now a tailwind for cloud providers.
The cloud benefits customers, broadening their product choices past bundled software suites. The cloud allows them to decouple those suites, paying for the products they actually use. What’s more, this reduces net costs as the quantity of system integrators and professional services necessary is reduced.
The SaaS space is a true win-win that the software industry has aspired to but seldom achieved before the cloud. System integrators are the ones who find themselves exposed in this transition, and thus a new breed of leaner and more nimble consultancies have started to emerge in their place.
Monetizing data assets. One of the common sayings in venture capital is that “early is the same as being wrong.” In the initial version of our 10 Laws, we predicted that application providers would begin to focus on downstream opportunities for selling benchmark templates, data services and best practices. We’re still in the land-grab phase of the market where software companies are selling applications to cloud-thirsty customers and therefore have been “wrong” with this prediction. We continue to believe that data will be an important and valuable part of the cloud story over time, but vendors are still enjoying massive success pursuing low-hanging fruit and therefore haven’t needed to package up best practices templates and data (yet).
In 2009, we thought the notion of monetizing data assets was right around the corner. We were early, and it’s still probably three years away; so we’ve deleted it from the latest version of our 10 Laws.
A new Bessemer Law: grow or die
Despite the explosive changes in the cloud market since 2009, the key tenets in our initial version of the 10 Laws are still relevant today. We recently released our updated version of Bessemer’s 10 Laws. Two notable areas of significant enhancement are:
- Management Metrics. We refined the thinking around the financial and sales metrics for a business and expanded on the concepts of customer acquisition cost and how to scale the sales team.
- Company building. We added several points related to building and driving a software company. One of the key themes is the importance of an organization’s culture.
We also introduced a new law that we titled “Grow or Die.” There is currently a land-grab market opportunity around cloud that is at least a once-in-a-decade phenomenon. Growth and innovation are crucially important as there’s another player in the space waiting to take market share if a company stagnates.
There is a window of opportunity to be aggressive, and we’ve tied this back to our laws about metrics. Being aggressive with investments doesn’t mean investing blindly in sales capacity when a product and/or the market isn’t ready. But if there are compelling business economics, then it is irresponsible not to invest in growth to capture the full market potential — because someone else surely will.
In our current version of the 10 Laws, we also mention a core concept: the legacy suite vendors are disadvantaged. We believe the industry will witness the death of the software suite and best-of-breed applications will lead the next wave.
We tie the Grow or Die Law to Aaron Levie, the CEO of Box. The startup has visibly raised a significant amount of capital and is extremely aggressive at capturing market share. They want to dominate what was previously the Microsoft SharePoint ecosystem. Aaron, Dylan and Dan could have sold Box long ago for a very attractive outcome and moved on, but they believe there is an opportunity to build a very large company.
Given the tremendous tailwind in the cloud market, the replatforming opportunity of software overall, and the unique window of time where startups are actually advantaged relative to the incumbents, entrepreneurs see the opportunity for market dominance and really want to build a category-defining company. These factors combine to make it a great time to be a cloud entrepreneur, and a really fun time to be a cloud investor.
Startup valuations
To make things even more compelling for founders and executives in the cloud market, the funding, acquisition and IPO valuations have all moved up quite significantly.
With several dozen cloud companies, Bessemer may have the single largest cloud portfolio in the venture space right and thus we’re benefiting along with our teams from these trends. We are having to pay higher “market” prices to get into the best new deals, which is obviously much better for the founding teams than the investors; but in many cases the rich prices can still be justified given the massive market opportunities. We therefore continue to look for world-class teams going after a massive market with some unfair advantage, either by a combination of brilliant insights they have, execution capability or product capability that will trump others in the market. We look forward to continuing to work with the leaders in this great cloud revolution!
Byron Deeter is a partner at Bessemer Venture Partners. Byron joined the firm in 2005 and focuses on investments in the cloud and Internet sectors. He led Bessemer’s investment in numerous cloud computing boards including Cornerstone OnDemand (CSOD), Eloqua (ELOQ), Box, Twilio, DocuSign, SendGrid, Retail Solutions, Intacct, ClearSlide and Adap.tv. Prior to Bessemer, Byron was the founding CEO of Trigo Technologies, sold to IBM in 2004. Byron was named to the Forbes Midas List in 2012.