4
Since everyone is interested in SaaS funding and valuations I thought it would be helpful to tell you about an interesting Cloud Computing investor panel I attended at the recent All About the Cloud conference in SF. The session was moderated by Jason Green from Emergence Capital Partners and was joined by Gary Hromadko from Crosslink Capital, Mark McNay from William Blair and Evangelos Simoudis from Trident Capital.
So what did they have to say?
The market has finally changed for the better
2009 was all about survival and the venture community did less than half the investments than in a typical year.
This year is now about growing again and current investments are more focused on companies that have weathered the economic downturn. Their investments are focused on changing the slope of these types of company’s growth curves, by concentrating more on sales and marketing.
SaaS and Cloud companies are leading the way
Consumers have been driving the adoption of easier to use Cloud-based solutions like eBay, iTunes, Facebook, Twitter and LinkedIn. They are viral and can reach critical mass very quickly because there are low barriers to adoption.
With SaaS, the recession has really pushed the advantages of a subscription business model and moving from CapEx to OpEx software investments. It’s like leasing your car rather than buying it.
Lean start-ups are definitely in. Almost all early stage software investments in 2009-10 are Cloud-based because it takes a fair amount of capital to fund SaaS firms and it takes a long time for them to reach profitability. One interesting comment was that later stage on-premise companies are now being asked about what their SaaS/Cloud strategy is for the future, because without it, they may find funding might be difficult.
What the VC’s are looking for
SaaS 1.0 focused on a company’s income statement, expenses and cash flows than GAAP reported financials. One important measurement is a company’s incremental contribution margins (gross margins), which is critical for SaaS. Companies needed to balance capital efficiency with building a business that can scale.
Investors are looking for unique business processes that can only be built or automated through SaaS or the Cloud. Emergence latest investments are pure Cloud-based companies that have viral qualities like YouSendit, the files sharing company and Yammer and the enterprise micro-blogging firm, both of these companies are viral enterprise solutions. Yammer has more than 70,000 customers with at least 1 user and is signing up between 7-10,000 users a month and 10% are turning into paying customers. Crosslink invested in Carbonite, a backup and recovery company, has high margins and is the only other independent player in the category with Mozy, who is owned by EMC. They felt that scarcity of competitors and their ability to manage Customer Acquisition Costs were important in establishing the company’s value.
The panelists also said they are looking for companies that have a rigorous focus on metrics like Customer Lifetime Value and Customer Acquisition Costs. In fact CAC appears to drive business value because it has a lot to do with capital efficiency and the company’s ability to grow their business.
Exits, IPO’s and Valuations
Economy has recovered and CEO’s are ready to start taking on more risk, and it’s a real change in psychology because we are at the beginning of a macro trend that will last more than 10 years.
This is evident by more than 100 M&A transactions last quarter including high profile deals like IBM buying CastIron, Salesforce buying Jigsaw for $142M, Successfactors buying CubeTree for $50M. The current environment is right for deals, especially as SaaS is gaining enterprise momentum with recent deals like SuccessFactors’ mega deal with Walmart for 1.6M users. Transactions like Jigsaw, CubeTree, and CA’s purchase of 3Tera and Nimsoft for $350M all indicate a return to a healthy M&A atmosphere, that will probably last for the next 12-18 months.
Oracle and SAP won’t be aggressive on the M&A front until they come to the realization that they can’t build Cloud solutions internally. Because many SaaS companies have now crossed the $25-30M in recurring revenues threshold, these firms may become quite attractive to these larger ISV’s looking to make the move to the SaaS business model.
But these acquirers don’t want to take on the burn associated with many start-ups so it will be important to stay close to breakeven and you may have to sacrifice growth for profitability. Since the access to capital is still tight, start-ups will have to try and collect cash upfront and continue to tune their business models to improve cash flows.
Companies that seem to own a category have perceived scarcity value which will result in a premium on any transaction, especially if they are perceived to own a segment franchise. VC’s and acquirers are looking for a minimum of 40% CAGR to get a premium valuation.
On the other side of the liquidity front, the IPO window for SaaS companies is beginning to open up and firms like SolarWinds and LogMeIn have now been joined by SPS Commerce and Convio. At least before the recent stock market downturn, these companies had traded up by 15% since their IPOs.
The panel seemed to believe that the market is definitely getting better and that is good news for SaaS and Cloud Computing companies looking for funding or an exit!
There were a number of keynotes at last week’s All About the Cloud conference that focused on Public and Private Clouds and the market. What was interesting is that the typical hype associated with Cloud Computing appears to be calming down. It seems like it is no longer necessary to justify or explain the Cloud, or at least for the audience at that conference. According to Gartner the Cloud Computing market will be $150B in IT spend by 2013 as compared to $56B in 2009 and is the #1 Strategic Technology for CIO’s in 2010
The new Cloud attitude appears to be more about ‘when’ and ‘how’ enterprises will be utilizing Cloud solutions rather than ‘if’.
Coexistence is ‘In’
The other interesting change, which I first noticed at the end of last year at both OracleWorld and Dreamforce, was that everyone seemed to be talking about co-existence or hybrid uses of the Cloud with on-premise assets. This more reasoned approach is going to make more sense to CIO’s and business executives to who have spend millions building out their infrastructure over the past 10 years. Cloud can be complimentary. Starting with fringe or edge applications and then over time becoming more useful for mission critical functions.
The Consumer Cloud
Tuesday’s press panel with [insert names] focused mostly on the use of the Cloud for consumer applications like Facebook, Google, Amazon, eBay and future offerings like iTunes LIVE and Microsoft Office 2010 (launched on May 12th). Cloud is everywhere but the average consumer doesn’t even know they are in the Cloud. With the advent of ubiquitous broadband access, smart devices and massive data centers, there are all sorts of Cloud based consumer services emerging. But the market is still evolving because the Generation X’ers are plugged into the Cloud but as Kevin O’Brien from Oracle said in his session, ‘My mom still doesn’t know what the Cloud is’, and she is probably isn’t alone.
Private Clouds
There were many sessions that discussed how there is money to be made in the Private Cloud market. You can have many of the advantages of the Public Cloud without the security and control issues. IDC projects that by 2014, $11.8B will be spend on servers to create Private Clouds, considering overall IT spend in the US is approximately $1T, that’s not big percentage today, but it will be in the future.
Scared of the Cloud
Are CIO’s scared of the Cloud because of their potential for loss of control, security issues and resource impacts? Several sessions touched on this aspect of the Cloud Computing market including CIO’s creating hurdles to adoption.
Given the cost and scalability advantages why wouldn’t organizations like the State of California quickly adopt Cloud based solutions? What about the switching costs like decommissioning your own data centers, software and restructuring personnel. If you already own PeopleSoft and it is working, will you really be open to a Workday ‘rip and replace’ scenario? Enterprise organizations are warming up to the idea, just ask Flextronics.
One panelist cited a recent Google Docs deal that went sideways at UC Davis where they scrapped their trial for several thousand users. Maybe there were other considerations than the Cloud but most of the sessions agreed that the benefits of the Cloud outweigh the risks and CIO’s are starting to think in terms of intelligent trade-offs instead of just being against the Cloud. This is probably smart, given the recent economic conditions and every CEO is looking to optimize their IT spend.
Cloud 2010 and Beyond
Cloud is just the new thing. According to Bill McNee at Saugatuck Technologies, their most recent Cloud Computing survey indicated that 86% of the respondents thought that the Cloud would be part of mainstream IT by 2014.
There appears to be reasonable optimism that Cloud Computing is not a fad and its going to happen, it’s just going to be the way people are operating today in the future. The Google Docs business is adding 3,000 new companies a day, that doesn’t seem like a fad. According to Gartner, their Hype Curve for Cloud Computing showed that July 2009 was the peak and it really appears that the market is maturing about the Cloud.
Venture Capital firms are only funding Cloud-based start-ups and large technology companies like Cisco, CA and IBM are buying SaaS and Cloud based companies (like CastIron Systems) because they realize they need to overcome the ‘Innovators Dilemma’ around the Cloud. There will be an increase in successful SaaS and Cloud companies as the market continues to mature, as well as a lot more M&A activity.
As one speaker so aptly described the current market situation for many companies when evaluating Cloud Computing, ‘When a piano falling from the sky, you should be worried more about will it hit you not where it is while it is falling.’
Company: QuickArrow - has been acquired by OpenAir, a NetSuite company
Started: 1999
Located: Austin, Texas
Geography: Global
Market: Professional Services Automation
Products: Project Management; Resource Management; Time, Expense and Billing Management; Strategic Business Analytics
Key Customers: Salesforce.com, Genesys, Borland, HP and Symantec
Website: OpenAir
Twitter: QuickArrow Twitter
Recent News:
QuickArrow Unveils Next-Gen Integration with Microsoft Outlook®
QuickArrow and RTM Consulting to Host Webinar on Maximizing Services Business in a Down Economy
I asked Kevin Bury, QuickArrow’s Chief Executive Officer a few questions about his business and his view on the SaaS market in 2009.
Did you start out as a Software-as-a-Service company?
Depends on the buzzword… We started out in 1999 as an “ASP”. Then we were “On-Demand” for a few years, and now we’re “SaaS”. But yes - we’ve always offered a hosted solution, and since we got in ahead of the curve, we were able to avoid the challenge of transitioning delivery models that so many traditional software vendors are contending with these days.
Why do your customers buy from QuickArrow?
The short answer is: To reclaim their personal lives.
The vast majority of services businesses are still running on spreadsheets, and the time spent compiling manual reports is mind-boggling. Anyone who has ever worked in services knows that most of the time, nights and weekends are spent playing catch up. QuickArrow automates the process, and provides much better business visibility than any spreadsheet ever could.
What do you see as the key trend emerging in the SaaS industry?
There are several interesting trends taking place, like Platform-as-a-Service, and Integrations-as-a-Service, but ultimately, I think the biggest trend we’re seeing right now is that SaaS adoption is reaching the tipping point, or about 15%. That’s the point at which you typically see the hockey stick effect kick in. And lately, it’s easy to understand why the “pay as you go” message is resonating so well.
What is your outlook for 2009?
One of the critical drivers for SaaS success is retention. You have to protect the annuity while driving new sales to ensure predictable, steady revenue growth. So this year, we’re really focusing on ensuring that any initiatives that hit the roadmap are good not only for new sales enablement, but also for our existing client base. And thanks to our SaaS model – if we can do that, we should see continued growth in 2009.
Thank you to Kevin Bury and Thomas Meredith for contributing to this profile.
I was just at the SIIA On Demand 2008 conference in San Jose this week. There was a great panel discussion which covered one of my favorite SaaS questions; ‘How do I move over to a true SaaS business model?’
Just change the pricing model and host the product, right? Well not quite…
Some key things to consider when moving to a SaaS model:
* Changing the DNA of your company can be difficult but critically important to succeeding in this type of transformation. It is helpful to inject some fresh team members into the mix who have solid SaaS experience. Also be aware that an ‘A’ player in your old software business model might only be a ‘B’ or ‘C’ player in your new SaaS business. This is really important when it comes to transitioning your sales and development teams!
* Executive commitment. Make sure that your CEO and executive team are bought into making the move to SaaS. The initial financial fall off can be very scary for your company and its investors and a committed executive team is essential to crossing over the chasm.
* Different financial model for the company. There are new ways to think about revenue recognition, annuity streams, deferred revenues, bookings, GAAP rules, VSOE and pricing that need to be managed and rationalized against your current perpetual license business.
* Move Quickly. Once you decide to move, the sooner you make the changes the better. You won’t look back and regret the decisions you made, but only the ones you delayed. Don’t try and live in both models, it just won’t work.
Several approaches to building your migration strategy include:
* Cold Turkey. When the CEO, executive team and board just decide that staying on the old model will no longer work and they make the decision to move. This is the most direct approach and takes a nerves of steel to resist the on-going temptations of slipping back into the perpetual revenue trap in order to save your quarter. The best case study I know of is of Steve Singh the CEO at Concur. After the Internet bubble burst, he transitioned his firm over to a pure SaaS model and is today one of the leading publicly traded SaaS firms. Other brave firms who are using this approach are Ariba and Sabrix.
* Buy your way into SaaS. Acquisitions can be a fast way to get the product and people needed to begin moving your model towards SaaS. It is important that when you take this approach, that you firewall your existing and SaaS businesses and don’t try and to blend them. Over time as your SaaS business grows to scale, you can turn off or spin out your traditional business. Examples of firms who are using this approach are SAP’s purchase of Business Objects, and SumTotal’s acquisition of Mindsolve .
* Create a SaaS Division. When buying an existing business doesn’t make sense, you can build a separate SaaS business unit that lives by SaaS business rules and functions alongside your perpetual software company. This ’separate but equal’ strategy can work but executive management needs to support the independence of the division and be committed to building out a real SaaS team, because this is the beginning of your new SaaS company.
The model that really DOESN’T work, unless you are a multi-billon dollar firm, is to pursue a Hybrid Model that mixes both perpetual license with SaaS businesses. There are plenty of examples of software companies that have tried to leverage both models with limited or no success.
Ironically for some software firms, this economic downturn may provide the ideal time to move to a SaaS business model. Remember to work with your executive team to build a 12 -24 month plan, then find some new SaaS talent to inject into your business, then find the model that works best for your company.
For more pointers and ideas give me a call or drop me an email.
Back to top