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The Death of Big-SaaS
Mar 24

SaaS -- Software as a Service.

What is it? Your firm signs up for a service - like an on-line expense report service, for example.

You pay a monthly fee based on the number of users you have. There are no computers to maintain. No hidden costs. Everything is on the "cloud." SaaS appears great on the surface.

In this post we use the term Big-SaaS to mean a SaaS service with twenty or more users.

But is it? Big-SaaS has a dark side.

It is based on exploiting a short-term benefit for the customer, while gaining a huge long-term financial advantage over the customer. The short-term benefit of Big-SaaS is "deployment-simplicity."

The dark side of Big-SaaS is its long-term cost to the customer. It burdens larger businesses with large recurring costs for software that only needs to be delivered once. Although small-business SaaS will continue to do well, we predict Big-SaaS will die or, at best, experience a major nose-dive.

Consider a multi-user business system that costs $40,000. The Big-SaaS will charge $40,000 in the first year and repeat that charge every year thereafter. The internal costs to host the system are nominal. Even with hundreds of users. Nevertheless, the Big-SaaS will repeatedly charge the customer $40,000 for the system they paid for in year one. That's a high cost compared to the industry standard of 15-18% annual for support. In affect, you pay about 400% more than you should after year one. And you're locked in. No option to simply pay a support fee.

Big-SaaS businesses get away with charging repeatedly for their first year costs because once a company selects a Big-SaaS they must pay a penalty in time-and-effort to switch to another product. This is known as "lock-in." Today's lock-in costs are extremely high. Higher than they have been in a decade.

High lock-in costs have created a safe environment for SaaS companies. At least for now. But the Big-SaaS business model is hyper-sensitive to declines in lock-in costs. When lock-in costs swing the other way Big-SaaS businesses will suffer a fatal blow.

Consider a Big-SaaS business with a five-year customer retention rate. In other words, customers stick around for five years, on average. When lock-in costs go down customer retention rates drop. Assume lock-in costs decrease resulting in a decline of customer retention rates to four years. This loss amounts to a twenty-percent decrease in business. The SaaS would need to double their business in a just a year to recover the lost revenue. And that's without a price drop. The lower lock-in costs put Big-SaaS in a real pickle.

What does the Big-SaaS business do when lock-in costs go down?

As we just saw, the Big-SaaS cannot lower prices. It would take too long to recover lost revenues. Instead, Big-SaaS must increase prices. A small increase in prices, despite the flight of some customers, increases revenues and fills the shortfall. It works. Executives feel good. Of course, in the long-term higher prices drive more customer flight which drives higher prices and even more flight. This cycle can continue for a few years until suddenly, to everyone's surprise, the Big-SaaS business collapses.

The mechanism described above has historical precedent. In the beginning of the 1980s the Big-SaaS business model was called Time Sharing. It was a multi-billion dollar industry. Even then. Businesses would rent time on mainframes for their accounting and business needs. Sound familiar?

Lock-in costs were high since software for PCs was difficult to build. But by the mid-1980s lock-in costs dropped sufficiently. In 1985 half of the entire time sharing industry collapsed. A few years later time sharing disappeared.

Big-SaaS is Time Sharing with a different name. It will collapse when today's lock-in costs plunge. We do not know when it will collapse. But we do know the death of Big-SaaS is an eventuality every company should be strategically considering.

Disclaimer: Every Big-SaaS business is different. Those including a sufficiently valuable recurring service will survive. But in general we expect the Big-SaaS industry to collapse. If you're looking to build out a long-term operational infrastructure we encourage you to think long-term. The health of your firm depends on it.

This blog article was posted by David Silverberg of Aestiva Software. Silverberg provides on-site strategic analysis to firms interested in identifying automation opportunities. Silverberg can be reached at Aestiva Software.


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