Understanding the SaaS Business Model
Sep 23, 2022
How to capitalise on the unique business model presented by Software as a Service and Cloud Computing.
Software as a Service (SaaS) is one of the internet age’s most established business models, yet in the broader world of business, it is a completely new structure and model.
Powered by cloud computing, with many benefits to the user, the SaaS business model is a unique offering in the way a company can be structured, but has careful considerations to be accounted for when looking to take advantage of the recurring revenue it provides.
First defined by John Koenig at the SD Software as a Service Conference in 2005, SaaS refers to software which is licensed to users that access the service via the cloud. In this sense, SaaS products are not downloaded to the end user's computer, instead, they are hosted on the provider's server and are accessed either via browser, mobile application or desktop software.
The software provided to a user is paid for in one of two ways. Users can opt to pay monthly or on a pay-per-use basis, though it is much more common to implement a subscription model.
In exchange for monthly, recurring subscriptions, users expect regular updates to their software, and a lightweight, intuitive platform interface.
All this, means a high startup cost to ensure a platform that users will pay a recurring subscription to for sufficient time to recoup the initial investment. In time, SaaS companies can boast some extremely high valuations (think in terms of hundreds of millions!), but getting there means successfully navigating a fairly new business model carefully and with forward planning.
For companies that implement a growth strategy successfully, there are great rewards in terms of customer loyalty, long term growth and strong margins. So let’s look more closely at the model for Software as a Service, to best understand what it is a SaaS company offers.
As we’ve spoken about in the introduction, SaaS is a popular offering in cloud based computing, and well established in technology, but in the broader business world, the model it uses has some unique features which aren’t found elsewhere.
When utilising a SaaS offering, customers (users) do not buy the software or hardware, instead, they pay a subscription fee for access to it via a network.
This means receiving recurring payments from customers using the software on a monthly or termly basis. However, it’s important to pay attention to accounting when considering a SaaS business model, as subscriptions will have different lock-in periods and are not a guarantee of receiving the money.
Clients who are dissatisfied with the service may opt to terminate their subscription, meaning money that may have been accounted for is no longer going to arrive.
Likewise, the high initial cost of a SaaS business will be offset in time with customer volume, but this must be balanced against the cost of maintaining the software or platform.
The customer is the heart of every business model, generating revenue which brings cash flow and growth.
Traditionally, there are two paths for a customer focussed strategy; acquisition and retention. In all business models, acquisition and retention are important, but with SaaS business models, there is a weight of emphasis on retention, because of the subscription nature of revenue generation.
In SaaS models, it is usually the existing customer who spends more money than the new one, so in this sense, unlike many other business models, SaaS places much greater importance on retaining customers who use the service.
Since users of software are paying for it on a repeat basis via subscription, updates are the catalyst for retention and revenue in a SaaS business model.
Customers who pay monthly for a service will expect to see the service develop, grow and improve as they spend more time with it. This means regular updates and maintenance of software for the provider.
The distinction between maintenance and updates should also be noted here. Maintenance means keeping software code clean and bug free, enabling users to utilise all the features of their particular software without encountering any errors. Updates, by contrast, provide users with additional features or upgrades to the product, improving it based on user data, environmental or business factors or simply usability updates.
Consistently providing maintenance and updates is vital for a SaaS model to operate with success.
Customers of the SaaS business model should also benefit from using cloud based software if the above criteria are adequately addressed.
Technology has conferred upon us the ability to utilise cloud based software to experience a number of advantages.
Software as a Service offerings should be pre-configured with no installation, meaning end users will be able to experience the full power of their software with no underutilisation at the start.
SaaS users will experience a much lower cost in implementing software by renting it. The bill for custom software can easily reach five or six figures, so by paying monthly, the cost can be spread, if not reduced entirely.
Software offered as part of a subscription is expected to be used at scale, meaning customers do not have to worry about increasing their usership of the software. Similarly, constant updates mean and kinks are addressed for them, streamlining their work flow.
We now understand the model of business provided by Software as a Service, and the expectations end users of the product will have when considering the revenue stream. So let’s examine the advantages of the Software as a Service business model and some careful considerations to take into account for a business looking to implement it.
Once your product has been created, deployed to users and is well established, SaaS providers stand to benefit from customer loyalty. This should be due to the indispensability of the product provided in the day to day workflow.
As discussed, Software as a Service is usually billed in a subscription format, meaning a business utilising this model should expect a certain number of subscription payments each month, making accounting easier.
Along with the advantages the subscription system has for providers in terms of revenue and loyalty, there are considerations which should not be ignored for successful implementation of Software as a Service.
Starting up is always expensive for a Software as a Service provider. This is because to entice users into paying a monthly subscription, the product must get their attention.
This means a refined end software with clear usability and stable, scalable performance. It should also be lightweight on the user end and secure on the server end.
Ensuring a well developed product is expensive, but SaaS providers should be aware these costs are likely to be returned if their products are consistently strong.
The caveat to the loyalty and regular revenue provided by customers is that they in turn, expect a constantly evolving product. This means not just maintaining the product as discussed earlier, but also refining and improving it. SaaS providers cannot expect to keep their customers without innovating.
Types of SaaS
In understanding how to succeed using a SaaS business model, it can be useful to examine the different business sectors which are dominated by SaaS and some brands that have successfully navigated the early startup phase of software as a service.
Customer relationship management giants Hubspot and Salesforce are both examples of success utilising SaaS business models to offer CRM systems.
Sage and Netsuite both provide hundreds of businesses worldwide with Electronic Resource Planning software they can rely on.
Accounting software can be expensive to establish, which is why companies such as Quickbooks have successfully implemented a SaaS business model with success.
This list is far from exhaustive, and SaaS offerings vary in scale and scope. The hope though, is that they give some insight into how the model might be achieved with success, in spite of potential early barriers to entry regarding setup costs.
Relying on the monthly or termly subscription charge can be reductionist for a SaaS business model, as there are other revenue streams which should be explored when considering this particular offering.
Alongside the termly subscription should be regular upselling, where it is important to offer value to clients. This might take the form of extra storage or faster connections.
Likewise, SaaS providers should consider interoperability as a premium feature, with API’s to connect to other software in the industry. Further, support tiers can be introduced at a premium, alongside data analysis and reporting.
Implementing the SaaS Business Model
We’ve established that starting out is the toughest barrier to overcome for a SaaS business, but hopefully we have also provided some insight into how we should navigate that early period and maximise the chances of offsetting the set-up costs involved.
WQA provides supercharged digital product development for growth driven companies around the world. Working with Startups, Scale-ups and Enterprise, we design, build and scale digital products, experiences and platforms used by millions of people.
If you want to learn more about navigating the challenges for a SaaS business, you can chat to us or email us for a conversation and assessment of your unique digital context.