Over the years we have met and worked with many software companies. As the software-as-a-service business model has come to dominate the landscape, more and more of them have been SaaS companies.
For those companies that are in the earlier stages of developing and/or rolling out their product or are in the process of transitioning from a licensed or on-premises platform to a SaaS platform, we see a wide range of business models, breadth of management skills, engineering and sales expertise, and industry and domain knowledge. And while these attributes are wide ranging, they all have one thing in common: valuation expectations are high. But when we come across companies who have gotten it right, their company or product exhibit many attributes that are common with best-of breed market leaders. The following list of winning attributes is certainly not all-inclusive, but it’s a good start:
- The management team is experienced in the industry vertical with a reasonable split of both engineering and sales/marketing talent. Serial entrepreneurs increase the probability of success and we like to see at least 80% of the domain expertise and required background/experience in the hands of the current team.
- The Company’s product:
- Has been well designed, is user friendly, comprehensive, and addresses a significant pain;
- Is a “must have” as opposed to a “nice to have”;
- Is “sticky” and, once it becomes embedded in a user’s daily routine, makes it difficult to switch away from, either due to cost or convenience…churn is a killer;
- Has quantifiable customer acquisition costs that are well below the lifetime value of the customer;
- Is proven to be scalable and robust;
- May allow outside software developers who see value in the product and the Company’s user base to access APIs that allow them to develop value-add applications to complement and enhance the value of the core product; and
- Has at least a North American focus with capability of being easily being adapted for international markets.
- The Company’s market is defined, large, and growing.
- While competitors in the market can provide market validation, the product is not the fourth or fifth player in an established market. Coming late to the party with a “me too” offering is a recipe for disaster.
- Management has not predicated its business plan on being acquired by a large, deep-pocketed competitor looking to acquire customers or geographical presence. Companies that were established on being a “local” version of Groupon, expecting to be acquired by Groupon at a premium based on the build or buy rationale, generally learned a tough lesson.
The ability to expand into new verticals can substantially increase the value of the business. A good example of this would be a content management platform that is initially targeted at social media but can also morph into a valuable tool in the financial services, lead management, or customer engagement space.
More often than not, companies that attract the highest premiums are those where a customer is willing to pay for the product. Freemium models should have a clear path and strategy of moving users towards a paid, premium model. Obviously, companies like Facebook and WhatsApp prove the value of users versus paying subscribers, but in Canada scale is a huge issue. We see too many Canadian companies that are simply not growing fast enough and attracting a large enough user base to attract the amount of capital required to be a global player. Take a look at Brad Feld’s blog “The Rule of 40% For a Healthy SaaS Company” for some additional thoughts.
Business models based on advertising revenues run the risk of being disintermediated by changes in ad server algorithms or new advertising modalities. Remember the days of pop-up ads and eyeballs? We recently met with an app company that saw its daily visits drop by over 70% when Facebook made certain changes to its algorithms and it took almost six months to recover. Don’t be one of these companies.