The hole in the SaaS bucket

Scott Francis
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Jason Cohen often shines a light on basic business model issues – with software, with consulting… and this time with SaaS businesses. In this case he’s picking on Marketo:

Marketo filed for IPO with impressive 80% year-over-year growth in 2012, with almost $60m in revenue.

Except, they lost $35m.  WTF?

You have to wonder about the hole in the bucket.  But honestly he could have been writing about any number of SaaS businesses, some of which are still struggling to break out of this spiral of increasing losses, even after going public.  I always think that if these businesses were run by consultants, these holes in the bucket would get plugged. Culturally, consultants don’t like to do things to which customers don’t assign enough value to earn a profit doing it for a living.  And culturally, SaaS firms are a lot more like consulting firms than the SaaS firms like to admit – after all, it is all about customer service, retention, and reducing churn…

Jason debunks the thinking behind loss-leading SaaS business models like this point-by-point – and summarizes with a few good points:

There’s a tacit assumption that if only we just stopped spending to grow, we’d be profitable.  Thus, this “really is” a profitable company, and the only reason it’s not is growth, which means market domination, which is a Good Thing.

The fallacy is: That time never comes.  No company stops trying to grow!  The mythical time when growth rates are small so the company reaps the rewards of having a huge stable of profitable customers never arrives.  When do you “show me the money?”

I recall another person I respect saying that “making money is a habit” – and if you wanted your company to be profitable, it was important to get in the habit of making money early, and staying there.  Similarly, being a frugal company is a habit.  If you don’t make a practice of running your company lean, you’ll find it hard to turn on the switch when you need to without losing your culture.  Like Jason, I don’t buy this “if we only just stopped spending to grow, we’d be profitable” argument.  No one would buy that argument in normal enterprise software.  No one would buy it in services.  I’m not sure why anyone should buy it in SaaS.

One of the stats Jason gives as an example (apparently an accurate one) from industry stats, was a 75% annual retention number.  This might sound high at first glance, but truly sticky services are more like ADP’s 95% customer retention rate on payroll services.

When I see this 75% number, I see a company that isn’t delighting customers (enough) or that isn’t providing a service that is critical (enough).  Retention needs to be higher, or this isn’t a real business in the long run.  Jason has some remedies that are awesome if you can pull them off – paid upgrades, viral growth, reduced customer acquisition costs, and higher margins (or as one commenter put it – undo the effect of cancellations by having a reliable useful product that people don’t want to cancel!”).  But don’t be fooled than any of them are easy – they’ll all require hard work, experimentation, and measurement.

On a more personal note, it is early in BP3’s life to calculate useful stats on our repeatable service offerings.  Because we’re a B2B services firm, largely for the Fortune 500, we don’t have the volume of statistics to look at that a WPEngine would have, for example.  But we already track these statistics and look for ways to improve on our results.  Even when you don’t have statistical significance, you can still do your best to hustle and work hard to keep the numbers up.  This goes back to BP3 “doing the things that don’t scale” in my book…