I just happened to see a post on LinkedIn referring to a strategic advisor’s page on SaaS strategy. The picture wants to focus the reader on stimulating growth to outpass the operational fixed costs of a start-up in SaaS. I agree that one has to ensure the turnover gets bigger than the operational costs. Not arguing that part of the picture at all. But … the same picture shows the biggest lie in the SaaS industry. The marginal cost is NOT near to zero. And that is really bad news.
The first months are all about servicing the customer to keep them
Let’s redesign the above picture to a graph that is closer to reality. Often, SaaS companies will offer their software as a service for free for a while. You can plan that part, and estimate the cost for developing and marketing the offering. That’s the guaranteed cash burn. That’s why you attract investors in the first place. The issue is, customers will not stay if you do not spend time with them. You have to help them capture the value from your offering, and that costs a lot of time. Huge amounts of time, in comparison to the price you are planning to charge for the software in the future. Marginal cost at that point is far from zero. It’s probably the unexpected and biggest cash burner for months in a row. That’s really bad news.
From a certain moment in time, you will decide that you have had enough of the free users, and want to start charging money. Of course, you will loose some users, but hey, you also gain money from the others, so why bother, because the biggest challenge in the planning is to estimate the turn-over for the coming months. Again, you do not want to loose clients, and by now you will have learned that these clients need services too. Be sure though, that the clients will also be needing much and much more services than you expected in the beginning. Do not forget, they are now paying for the offered SaaS, and you do not want to loose the scarce clients you have convinced to stay with you until this point in the history of your start-up. So be sure, again, the marginal cost will be huge, and much more than anticipated.
Result: the lie about marginal costs puts break-even beyond expectations
There is a way to cope with the marginal cost: include it in the financial plan from day one. Or, even better, sell customer value services to the clients, and add the SaaS subscription as a plus. That way, your client services generate a real gross margin, and your SaaS increases the repetitive character of the generated margin per client.
Yes, this is the business model that is Participium’s favorite. And no, it is not easy. As is no business model that ever leaves the academic books, and is put to the test in real life.
Participium 