The Capital Needed to Create a SaaS Company

This is a follow on to my post on July 18th, 2008 titled “Does it Really Take $100M to Build a SaaS Business? Say it ain’t so, Joe!”. As part of some research I’ve been doing, I wanted to dig into the actual amount of capital it takes to make a successful SaaS company.

Wachovia Securities issued a report in May 2008 on the state of the SaaS market. On page 25, it shows amount of capital paid in prior to an IPO for 18 out of the 28 public SaaS companies. Here is that list below:

Platform as a Service – PaaS: What’s Not to Like?

Over the past year or so, PaaS – Platform as a Service - has emerged as a new and interesting strategy for Salesforce.com with Force.com and NetSuite with NS-BOS. The value proposition for developers is:

  • Object-oriented development environment for rapid prototyping and application development.
  • “Out-of-the-cloud’ integration with other applications developed on the platform
  • No need to invest in commodity operational infrastructure such as “ping, power, and pipe” and disaster recovery services which can be expensive to set up yet completely non-differentiating.

So, if you’re a SaaS application developer or investor, what’s not to like?

Well, first let’s talk about the SaaS business model.

Does it Really Take $100M to Build a SaaS Business? Say it ain’t so, Joe!

Sarah Lacy, a reporter with BusinessWeek just issued this article about On Demand/SaaS businesses.

I had an opportunity to meet and get to know Sarah in 2004 because she did a long story about me and Siebel’s entrance into the OnDemand market.  I have a lot of respect for her and her opinion. However, I take issue with a few of the conclusions one might reach by simply reading this article and taking it at face value.

On Demand or SaaS isn’t a panacea, it’s a business model. Companies won’t succeed simply because they are SaaS-based. You still have to build a compelling application that solves a real business problem that people will really use and pay money for.  However, what the SaaS model has done is to give customers the ability to try a few seats and then “walk away” with relatively few sunk costs when a vendor fails to deliver real business value. Under the traditional enterprise model most customers needed months/years to do a pilot — which seldom gave them a complete picture - and once they committed they were committed forever because of the psychological and financial investment. So big projects like Oracle, PeopleSoft, Siebel, etc. rolled on even when it was clear that the customer wasn’t happy with the expense or the value.

SaaS isn’t a Panacea for Success

No one has ever accused entrepreneurs of being stupid which is why almost every new B2B software company emerging today is SaaS-based.

This is good because trying to build a software company using the traditional enterprise software model is just too difficult and expensive. Over the past 15 years, enterprise IT has developed a gauntlet (e.g. internal architectural standards, purchasing processes, etc.) that prevents all but the largest brands (e.g. IBM, Microsoft, Oracle, SAP, etc.) from selling to them.

So, the only way to sell to these companies is to bypass IT — at least as much as possible — and go directly to line of business owners. And, since the SaaS business model obviates the need for IT and is success-based (customers can cancel any time) business leaders in these companies are becoming more open to using these solutions for non-mission critical functions. This is primarily why SaaS holds such promise for new and innovative start ups and their investors.

That said, SaaS isn’t a panacea for success for these new companies.

The Rise of SaaS and Departmental Applications

Market Overview

The enterprise software market, which includes a diverse set of software for different functions such as: HR, Sales, Marketing, Finance and IT is a mature market (with a range of 2% – 10% compound annual growth rate). This market is dominated by just a few global brands such as IBM, Microsoft, Oracle, and SAP. IT budget constraints and software complexity make it difficult enough for companies to support and maintain their current enterprise software let alone allow new vendors to enter the mix. As a result, IT organizations have created extensive policies to block new entrants, making it extraordinarily difficult for recent independent software vendors (ISVs) to break into the enterprise market. This, coupled with the high go-to-market cost structure of an enterprise software company has made the enterprise software market a relatively uninteresting investment area and caused innovation to stagnate in this field over the past decade. However, all of this may be poised to change due to Software as a Service (SaaS).