The premise of the software-as-a-service or SaaS model is that a piece of software is hosted on a cloud infrastructure (i.e., operated through a web browser), and businesses pay a monthly fee to get access to this software. It often takes a good amount of coding knowledge, combined with a good amount of user interface design skills, to really make a SaaS product worthwhile.
SaaS businesses in general are probably the most complex business models in our explainer series.
The main difference between SaaS businesses and software companies is that SaaS is hosted in the cloud. Basically, this gets rid of the need for an end user license to activate the software and any infrastructure to host the software. Instead, the SaaS company hosts their membership. The customer just has to log into their account and they get full access.SaaS in Demand
As you can imagine, this is incredibly attractive as a service. Business owners that do not want to invest huge sums of capital in creating an IT infrastructure often use a SaaS solution, and that SaaS solution often becomes incredibly integral to their businesses – such as sales teams using SalesForce or customer service departments using Zendesk. The SaaS business eliminates this risk for the client that is using the service for their business, who usually only pays a small monthly membership fee.
Though there are many ways for a SaaS business to earn money, typically the bread and butter of a SaaS business is going to be its recurring membership revenue. Recurring revenue is most often set up in the form of annual and/or monthly recurring revenue (known as ARR or MRR). This membership fee is what gives the customer base access to the products and the features of the software.
When we get into growth strategies, we will dive a little bit deeper into other revenue streams a SaaS business owner can look at adding to their repertoire.
Before we do that though, it is important to make a note that valuing a SaaS business can be a little different than other business models that we’ve covered. This is because the huge reinvestment often needed to grow a SaaS business can eat through all the profits, causing many people to buy SaaS businesses based on their confidence in continued, stable growth.The 3 Periods of a SaaS Business
For every SaaS business, there are three main phases that they are going to experience. Most people understand the Startup phase, and then everyone dreams about the Stable Golden Goose phase when the money is just rolling in. One of the phases that is often not talked about, though it is one of the major stress periods for a SaaS business when they either make it or break it, is known as Hypergrowth.
Let’s dive into the three phases:
Startup – this includes getting everything going, programming a working product, and “going to market” with it to acquire your first few customers.
Hypergrowth – if the market likes your product, you likely experience an immense amount of growth very quickly as businesses adopt your software. While this sounds great, this usually is going to cost you more money, because you need to rapidly expand in data, store, bandwidth and all sorts of technicalities to support the newly acquired customers. Remember how customers of SaaS products often love the product because they don’t need to create an IT infrastructure for their business? Well, the reason why they don’t need to create one is because your SaaS product is providing that backend for them through their membership.
Stable Golden Goose – this is the stage when your SaaS business has leveled out. You are starting to turn a pretty healthy profit, and acquiring new customers at a rapid rate is not going to test your infrastructure limits, like it does in the hypergrowth phase. You will also become familiar with “churn”, which we are about to get into.
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