Tech Spheres

Discussion of Web 2.0 Business Strategies (SaaS, PaaS, Strategy, Enterprise, Small Business, Flex)

Is SaaS Broken? Fixing the Rising Costs of SaaS Sales

Posted by Alex Chriss on December 29, 2008

There have been a couple of articles recently bemoaning the increasing COGS of SaaS solutions and questioning if this is the downfall of SaaS. Evangelos Simoudis of Trident Capital warns against rising sales costs and a move to field sales and Jeff Kaplan of ThinkIT Services, warns against VC’s getting cold feet.

So, is the SaaS model too good to be true?  Sort of!  

Software as a service is a phenomenal business model, but it’s not foolproof.  Luckily, it’s not rocket science either.  Why are COGS increasing?  For the same reason they increase in traditional ISV’s – there’s an imbalance between Sales & Marketing – that MUST be corrected.  Look at the breakdown:

 Traditional ISV’s: Marketing buys targeted lists and generates leads through targeted campaigns (trade shows, Direct mail, etc.)  Sales is broken into two segments: 1) inside sales: low cost “churn & burn” team dedicated to qualifying out the targeted list and passing the “qualified leads” to the outside team.  2) Expensive outside team dedicated to closing business.  

Successful ISV sales & marketing teams are well oiled machines.  They know ahead of time when they need to open the funnel and they know when the quality of the leads are going down.  Each step of the pipeline is measured and monitored and has an OWNER that is accountable to a number. 

Early SaaS Players: Simple apps with simple concepts that can be adopted at low costs by early adopters – i.e. Constant Contact or Vertical Response.  The concept of e-mail marketing (as an example) is pretty simple and the apps are very simple and very powerful, so getting up and running is easy.  Customers can see value within hours of “trying” – a sales team is not nearly as important as good customer support.  Marketing’s job is to drive as many targeted eyeballs at the lowest cost possible.  Easy and fun Saas model that makes VC’s silly happy. 

New SaaS Players:  Here, the apps are getting more expensive and more complex.  There is a need for a “solution sales expert” to help explain the value proposition – and here is where the model breaks down.  Marketing drives leads via SEM with “targeted keywords.”  Inside sales is inundated with huge quantities of “targeted” leads that are not really targeted and not really qualified.  The sales teams struggle to qualify the leads because the old rules don’t apply anymore.  Everyone can afford a free trial and most people can afford the monthly rate (at least for a little while), so no one gets qualified out.  Everyone is a potential customer!  With no focus for sales or marketing, conversion rates plummet and companies have to start discounting deeply to drive sales.  

The move to an outside sales team is not going to solve this.  SaaS solutions can be sold very well with a high quality inside sales team, but they have to be ruthless about qualification.  And marketing has to be held accountable for lead quality – i.e. just because they clicked on your generic keywords does not make them a good lead! 

The Solution:  Two trends that will lower COGS for SaaS players and bring profitability to new SaaS players: 

1)      Enterprise sales: High quality marketing & inside sales teams re-learning how to qualify leads in a SaaS world.  Expect more content before registration to whet your appetite and a more onerous process once you’ve decided to “try”.  (i.e. lengthy signup forms, credit card before “free trial”, phone call activation, etc.)  SaaS vendors have to become ruthless qualifiers to figure out who to spend time with to raise conversion %. 

2)      Small & Medium businesses: Expect consolidation of marketing platforms.  It’s just too expensive to try and reach a fragmented audience via SEM, so we will see an emergence of app marketplaces (i.e. what we’re building at Intuit).  The SaaS offerings themselves will need to be drop dead easy to get up and running, but if the vendor can dramatically cut marketing costs, they can focus on conversion and customer support.

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3 Responses to “Is SaaS Broken? Fixing the Rising Costs of SaaS Sales”

  1. The points are very valid. I’ve been working in the SaaS space for the past 7 years and we’ve seen a very clear shift to hard core qualification by inside sales teams before a lead is considered ‘worthy’ of the investment in a field sales persons time.

    One aspect I didn’t see you mention but which we’ve experienced is the impact of financial market regulations (directly or indirectly) on the SaaS vendor. By this I mean vendors who are forced to live up to the audit and disclosure/reporting standards of public companies before they are really ready to do that.

    The biggest issue with this is revenue recognition. One of the great promises of SaaS is the whole pay-as-you-go model. But many investors can’t handle/tolerate this model which forces the vendors to move to a pre-paid model – Salesforce is doing this. So how is the Salesforce subscription model where they force you to pay 2yrs in advance any different to the old license model?

    So one of the great promises/advantages of SaaS – make them earn your business every month – is being replaced by investors who demand “absolute” revenue certainty…

    • Mark – I think that’s a valid point. And I agree with Jeff Kaplan here, that investors need to realize this is a different game – the metrics are different and the results are different. Lock-in to long-term deals is good, but can be a problem too. You still have to recognize revenue over the course of the subscription (or at least you should be), and the annual renewal changes the game from great customer support to great customer support & renewal sales efforts.

      I think annual subscriptions might raise COGS which would be pretty short-sighted if investors are demanding that.

  2. Good post – The sales model is something that gets much less consideration in SaaS than it should. I agree that “marketplaces” are going to have to emerge – especially for SMB verticals. I think in the long run it will go two ways – one being pure markets and the others being platforms like Intuit that both provide a marketplace and provide some level of integration between providers for “suites” and mashups of various types. If SaaS apps (and companies) don’t leverage the network they ride on – they are dead coming out of the gate!

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