By Kevin Dobbs

Montclair Advisors, LLC

Now that many software companies really feel that the risks associated with a second recession are firmly in the rearview mirror, it now seems like everyone is looking to grow their businesses.

I read a great post yesterday by Bruce Cleveland at InterWest Ventures about the Value of Growth for SaaS Companies, which I thought really accurately captured a challenge that many software firms face when transitioning to a SaaS model.   This is a subject that is near and dear to me given my background as a reformed marketing executive and someone who was responsible lead generation at Oracle years ago during the Tom Siebel and Marc Benioff era.   I think it was Tom Siebel when he was running Oracle’s inside sales team that told me “I want it to rain leads from the sky!” At the time I was actually shocked because he was asking me to literally drown his sales team with qualified opportunities who wanted to buy Oracle’s database products.

As I have come to learn that he knew exactly what he was talking about and his track record demonstrates that productive sales teams deliver amazing revenue growth results.  Bruce’s post highlights that a SaaS company without meaningful growth is not worth very much and probably will fetch the low-end of the valuation curve, which is still pretty good in today’s crazy market (See last week’s post about the SaaS Bubble).   So how are high flying SaaS companies like Salesforce and SuccessFactors achieving CAGR’s in excess of 30% every year?   Check out this chart I put together on some of the leading publicly traded SaaS firms (sans Salesforce because they will skew the chart):

As you can see the companies with the higher growth rates are also the ones that have high market caps (valued more highly by Wall Street).  What is really interesting is that SuccessFactors was able to grow by almost 50% for the past three years, even through one of the worst recessions in the last 100 years.  The value of growth can also been seen by a company that recently went public, Cornerstone OnDemand, they have been rewarded with a market cap that is over $800M even though the company lost more than $40M last year.  Seems crazy right?  But they have a great organic growth story along with a major channel relationship with ADP which could also signal even faster growth in the future.

If you talk to any software sales rep they often complain about their pipeline and the lack of quality leads. Reminds me of those coveted Glengarry leads  from Mitch and Murray downtown.    So at the heart of all of these companies and their rapid growth rates is that they have all developed a core competency to generate high quality leads and build pipelines quickly.

(click on picture to see clip)

Here are some tricks that I have learned along the way that will help you to build out your SaaS lead generation strategies:

• Use a Portfolio Approach - Depending on your product, buyers, and market there may be many ways to generate interest.  Campaign elements of a typical lead generation strategy are a combination of organic and paid web traffic, email campaigns, webinars, customer programs, social media and targeted events.   Don’t put all of your investment in a single demand generation approach, but reward the tactics that generate quality leads at an affordable price.
• Test and Test Again - With the portfolio approach you will need to continually test your messaging, packaging, value propositions, and price points.   The best-in-class SaaS firms are continually testing and refining their lead strategies.  This is important as most SaaS marketing organizations are trying to lower and optimize their Customer Acquisition Costs (CAC).
• Automate Where Possible -  There are a lot of great Sales 2.0 tools available today that can give you a real unfair advantage in the lead generation process.  Companies like Marketo, Pardot, Eloqua, Constant Contact, NetSuite and even Salesforce offer many tools to help you automate and analyze your marketing efforts.  I would definitely recommend implementing a lead nurturing or drip marketing program to continue to work your lower quality leads, this is a great way to build your pipeline over time with little direct human intervention.
• Track Everything - Make sure your sales operations and marketing teams are tracking and analyzing all of your lead activities and conversion rates.  You don’t need to be overly complex, but just tracking some basic things like lead scores, lead acceptance rates, leads converting to opportunities and close rates can help your organization to fuel your high growth SaaS sales engine.

With Cornerstone OnDemand’s recent IPO (NASDAQ: CSOD) and their high valuation based on a negative EBIDTA, many are starting to ask if we are headed for a second Internet or SaaS Bubble?

I do agree that some of the valuations at this point are a lot higher than a reasonable person would expect, but this is probably just pent up interest in the technology sector. It doesn’t help that Facebook and LinkedIn has seriously pumped up the valuations for Internet/Social Media firms, but today’s SaaS companies are very different from the Dot Bombs of 1999/2000.

Remember these companies?

All of these companies were built on bad business models, too much money and expectations that were out of control. And by the way are all out of business.

But not all of the Internet companies that were formed during this period were bombs; in fact there are a number of firms that are now pillars of the technology industry including these firms:

It would be safe to say that each of these companies struggled during and after the Dot-Com collapse but they were able to modify their models to take advantage of the efficiencies that the Internet provided. Amazon has built a business that can effectively compete against the largest retailer in the world, Walmart, even though its sales are only 1/12^th their revenues.

All of these Internet Survivors had to develop a real business model that would deliver solid margins, profits and growth. They each had to assemble experienced management teams, learn how to deliver superior customer service and build trusted brands. Not easy to do, but they did it.

Fast-forward to today and we have a whole new set of Internet and Software-as-a-Service companies that have emerged and gone public including these firms:

(1) CSOD IPO: March 17, 2011

(2) SREV IPO: March 25, 2011

As you can see most of these companies were founded before the Internet Bubble burst and were forced to create real business models that could deliver profits.

At Montclair Advisors, we specialize in SaaS business advisory services and we know many of these firms quite well and they all have strong management teams, growing businesses and staying power. Unlike the Internet firms that went IPO in 1999 or 2000, most of these firms have had to build up their businesses over ten or more years and are based on some form of recurring revenues.

Major differences between the companies on this list versus the early Dot Bomb firms include:

• Proven Over Time. As you can see most of these firms are at least ten years old and have weathered the economic changes through the last two recessions.

• Businesses at Scale. Most of these companies are over $100M in annual revenues, which means they have been successful in selling into multiple markets and geographies.

• Recurring Revenue Streams. Anyone who has been involved with a company that has developed a subscription business can tell you how hard it is to create a meaningful recurring revenue stream. The advantages of being a SaaS software company based on subscriptions means that revenues remain consistent so there is a high degree of transparency and visibility.

• High Degree of Customer Satisfaction. All of these companies are dependent on satisfied customers that want to renew their annual subscription agreements and purchase more services. This is quite different than the ‘drive-by’ relationships many of the early Internet companies developed with their customers.

• Strong Management Teams. After the Dot Com crash it became much harder to file for an IPO and manage a company in the post Sarbanes-Oxley world. These next generation of Internet companies have attracted leading management expertise that knows how to innovate and rapidly scale viable businesses.

So are the valuations of companies like Cornerstone OnDemand and Servicesource, Facebook and LinkedIn too high? Are we beginning to see a SaaS Bubble? Maybe, but all of these companies have been built for the long term and will be around long after any correction, unlike their early Internet cousins Web Van or Kozmo.com.

By Kevin Dobbs

The last few months have been quite active in the SaaS market and here are some things that caught my attention:

• Who would have believed that we would be seeing Initial Public Offerings after our recent recession but new offerings include SciQuest (NASDAQ: SQI), Qlik Technologies (NASDAQ: QLIK), Ancestory.com (NASDAQ: ACOM) and Financial Engines (NASDAQ: FNGN).  There are a number of upcoming IPO’s including Talent Management provider Cornerstone OnDemand.

• You can tell the SaaS and Software markets continue to gain momentum based on the number of M&A deals over the past 90 days including Oracle buying Art Technology Group, hardware company Dell purchased SaaS integration firm Boomi, Deltek buys government market research firm INPUT, talent management leader SuccessFactors buys analytics firm Youcalc, Taleo purchasing Learn.com for $125M, recruiting firm Kenexa acquired Salary.com and even PE-owned SumTotal Systems buying Softscape.

• Firms that are making good progress in their SaaS transitions include Callidus (NASDAQ: CALD) and Plateau Systems.

• Software companies who seem to be having more trouble with their current subscription and license models include Concur (NASDAQ: CNQR), MicroStrategy (NASDAQ: MSTR), Manhattan Associates (NASDAQ: MANH), and SAP (NYSE: SAP).

• The Venture community continues to fund SaaS and Cloud Computing firms, several who have been profiled by this blog have received funding in the last six months (congrats!) internet billing firm Zuora lands $20M, Cloud management platform RightScale grabbed $25M, multi-tenancy Cloud platform firm Nimbula raises $15M, marketing automation provider Marketo, Bill.com, social platform provider Jive Software raises $30M, Gooddata and Cloud9 Analytics.

• SaaS, Software and Cloud Computing firms have also made some interesting management changes over the past few months including; ex-Oracle president Charles Phillips (video) moved over to become the new CEO at Infor, Taleo lands a new CFO former Palm executive Douglas Jefferies, Saba has added a SaaS-experienced CMO Karen Steele, SuccessFactors brings in seasoned President from Salesforce.com - Doug Dennerline, PeopleclickAuthoria Chairman Charles Jones returns as CEO to run company and well-respected analyst Ray Wang joins Constellation Research.

Here is our updated Public Company SaaS interactive spreadsheet.  Enjoy!

Last week I participated in the annual Kenexa Analyst meeting in really hot Philadelphia. I had profiled Kenexa last year (July 2009) about their rebranding and active transition to SaaS, so this was a great opportunity to peak behind the curtain and see how they are doing.

Company Update

The last 18 months have been difficult for many software firms, especially those who are moving to a subscription based business model but Kenexa seems to have been doing well during this period:

• Revenue guidance for 2010 is between $162-169M
• 4,000+ customers, adding about 30 new logos per quarter
• Top 80 customers are spending about $1M+ per year
• The CAGR from 2003-10 has been 25%
• 65% of all recent deals have been multi-component deals
• The average Kenexa customer has 58K employees

Some new customers in 2010 include Accenture, Aetna, Facebook, Novo Nordisk, Saudi Aramco, SAP, Walmart (with 2M employees) and Whirlpool. Customers who bought additional products from Kenexa this year include Conagra, Deloitte, General Dynamics, Johnson & Johnson, Unilever and Volvo.

Even with this solid progress, Kenexa was still finding it hard to compete for mindshare against their two other SaaS talent management competitors SuccessFactors and Taleo. I was also told that Kenexa is also considered a very solid competitor in the Recruitment Process Outsourcing (RPO) market, but my focus for this profile is on SaaS. Let’s take a quick look at this SaaS TM market basket:

• SuccessFactors (NASDAQ: SFSF). Shares in the last 12 months are up by more than 200%, with a market cap of $1.45B
• Taleo (NASDAQ: TLEO). Shares in the last 12 months are up by 30%, with a market cap of $950M
• Kenexa (NASDAQ: KNXA). Shares are flat over the last 12 months, with a market cap of $270M

The stock market currently values SuccessFactors more than 5X and Taleo more than 3.5X than Kenexa. Why is that? Because transitioning to SaaS is difficult, especially when you are a public company. But they are making progress.

SaaS Transition

Kenexa has done more than 20 acquisitions of both technology and services companies over their history. They have also purchased many overlapping technologies in recruiting (e.g. Webhire and BrassRing), which usually causes concern and confusion among customers. Unlike Taleo, who acquired Vurv, Kenexa is offering their customers business and product choices including transitioning to their latest products on the 2X platform as well as staying put. Rudy Karsan, Kenexa’s Chairman and CEO, even said for some customers who really want to stay on old, decommissioned products, his company will work out an arrangement to give the customers a copy of the source code and they can maintain their own products. Not the easiest solution but it shows that Kenexa is trying to work with their customers to help them be successful, which is unique among the leading talent management providers.

The company has been quietly working on building out their next generation integrated talent management platform, Kenexa 2X, for the last few years. This project included investing $40M in R&D, building out a new technology center in India and creating their next generation multi-tenant SaaS platform. This type of project is very difficult to successfully manage and similar next generation technology projects have sunk other companies like Authoria and SAP has invested almost $1B in Business ByDesign. All Kenexa 2X applications are SaaS-based and delivered out of their two data centers, one in North America and the other in Ireland.

We saw a brief demonstration of some of their new mobile capabilities on Kenexa 2X, but the real test is not with a room full of analysts but how well these new solutions are accepted in the market by customers and prospects.

As Rudy said during the meeting, he has felt like the last 10 quarters they have been walking through the desert but now they feel like they are coming out the other side.

For those of us on the outside, the technology is just one part of Kenexa’s business; they also offer a robust RPO service as well as a variety of assessment and analytical services for their customers.

Progress and Promise

As I just mentioned the major milestone for Kenexa is that their new 2X platform is generally available in the market. Like all big projects this platform transformation will take several years to rollout across their entire suite of technology products but they now have something to rally around. The 2X Recruit and 2X Onboarding products were launched in Q1 and the balance of the products will be rolled out over the next 24-36 months. Kenexa is following an Agile development process for their SaaS platform and applications which will allow for faster releases of products and capabilities.

Because this is a big initiative, I think it was really positive to see a roadmap prioritization of the products that were being transformed and launched. The product priority seems clear: recruiting, onboarding, training and development, succession, workforce planning, performance and compensation and learning. As they Kenexa progresses with the 2X transformation, we can expect to see small functional bundles as products are made available and then at some point out in the future, their full talent management suite.

There are some new platform capabilities that will add value to their traditional applications, including mobility. We were able to see the new mobile applications they are launching for the Blackberry and iPhone around recruiting, onboarding and performance management transactions. These mobile apps appeared to be simple to use and are based on basic approvals and routing, which make a lot of sense for busy managers and executives. The Kenexa 2X platform also supports complex workflows, like those required for their new onboarding application as well as support for 37 languages.

Kenexa also discussed the growing market opportunities for their recruiting and talent solutions outside of the US. In fact, their China business alone has grown by 4x in the last 5 quarters. They have also seen solid growth in the Middle East, Latin America and India. This strategy of focusing not only on the US but also new high growth markets should help Kenexa to continue to grow at a brisk pace.

The last area and possibly the most interesting has little to do with Kenexa’s technology products. Kenexa has several other service businesses, which are also growing including their RPO and Assessment practices. In the book ‘Crossing the Chasm’, one of Geoffrey Moore’s key tenants was for technology providers to listen to customer requirements and deliver a ‘whole product’ that doesn’t just consist of technology but contains services, integration, data, content and whatever else the customer needs to solve their business problems. The technology provider who can deliver a whole product solution can easily differentiate themselves from other providers and deliver more value to their customers, making their solutions ‘sticky’. If you need an example of delivering a whole product, look to Apple and the iPhone and iTunes.

Maybe by focusing on delivering complete, whole product solutions, Kenexa can become the Apple Computer of global recruiting and talent management.

After our post on January 26th we got several great comments about the cost of starting a SaaS company.  It definitely takes a commitment to build a true SaaS company, especially when you consider some the following facts about the 15 public companies that I tracked in my high level analysis:

• Average Start-up Capital Required:                                   $44M
• Average Time Required from Start-up till IPO:                 7 years
• Average Capital Required per Year till IPO (Burn):             $6.8M
• Average IPO Proceeds:                                                    $76M
• Additional Capital Raised After the IPO:                           $243M
• Average Total Capital Raised:                                          $363M
• Average Market Capitalization:                                      $1,262M
• Companies Who are Profitable:                                            8

The costs of getting a SaaS start-up off the ground are substantial but only about half of the firms we tracked actually started out as a pure SaaS company.   These other Cross-Over firms started out as either Application Service Providers (ASP’s) or were traditional On-premise ISV’s that move to SaaS through a combination of organic migration or through a series of acquisitions.  Companies like Concur, Kenexa, Taleo and Ultimate Software have all transitioned to SaaS from an on-premise heritage.

Montclair Advisors - SaaS Start Up Costs - Pre IPO

The shortest time to go from start-up phase to an IPO was 4 years and the longest was 13 years.  Most of the firms we tracked were founded between 1997 to 1999, which was prior and during the Internet Bubble.

When these firms went public they raised a range between $30M (LivePerson and Ultimate Software) to over $150M (DealerTrack and NetSuite), but on average they raised about $75M.  All the firms then went on to do additional capital raises from $32M (LivePerson) up to $750M (DealerTrack) but on average each raised $243M!   The total capital raised, when considering both pre IPO, IPO and post IPO capital raised, these firms raised between $100M (LivePerson and Ultimate Software) to close to more than $500M (DealerTrack, Salesforce.com and SuccessFactors).

Montclair Advisors - SaaS Start Up Costs - Post IPO

After going public, this SaaS market basket of companies have done well as a group.  The majority of the firms are profitable, which makes for solid cash flow performance, revenue visibility and overall stability of the company’s stock, for the real SaaS firms.

The most valuable company, based on their Market Cap is Salesforce.com at more than $8B and there are at least 4 other SaaS firms with valuations over $1B (Blackboard, Concur, NetSuite and SuccessFactors).  When comparing the amount of capital raised to the market valuation, the 5 best performing firms are Salesforce.com (.09), Ultimate Software (.13) , Concur (.19), RightNow (.22) and LivePerson (.31).

Montclair Advisors - SaaS Start Up Costs - Market Caps

This year, as the economy improves, promises to launch a few new SaaS IPOs and we will continue to track this core group as well as a larger group of Hybrids and Cross Overs and will periodically report back with our findings.

When speaking with entrepreneurs and investors about the investment required to start up a new Software-as-a-Service company, I often refer back to this list.   At Montclair Advisors thought this would be a handy reference for those looking to start a SaaS company during 2010.

Looks like you might need a money tree to start a SaaS company, but for those that reach critical mass and go public, there is a tremendous payback.  This is information has been gathered from various sources including Wachovia, CrunchBase and Google Finance.