Migrating to SaaS Readiness

Gartner reports that aggregate Software-as-a-Service revenue reached $9.2 billion in 2010, up more than 15 percent from the previous year (compared to a paltry 1 percent for on-premises), and forecast higher growth in 2011. Other analysts make similar projections of strong growth. To capitalize on this trend, traditional enterprise ISVs moving to a SaaS model must modify their organizations’ culture, support, business and go-to-market models. Given the growth in the market, most would see this as a fait accompli for vendors, but in reality it is much more difficult to execute than to propose.

Development

No department faces more challenges due to this change than development. They must modify their processes to provide functional releases each quarter, versus the year-or-so timetable common to the on-premises world. The quarterly release schedule requires agile development (another skill to meet faster development cycles) over traditional waterfall development. Not only is this change in delivery scope a challenge, but the skills required internally must change to application, user-focused engineers over “stack management” skills in order to support and certify releases on platforms and operating systems, etc. On a positive note, this helps retain the focus on core application knowledge and differentiators, which often dilute resources needed to support an on-premises model. Development still has the challenge of supporting multiple legacy revision levels to retain the base while also trying to resource for a SaaS delivery model. The challenge has fueled the rise in lower-cost, offshore development for vendors to profitably fight the battle on both fronts.

Best Practice – Consider PaaS (platform as a service) choices to expedite development on emerging platforms (e.g., force.com, Azure), which can dramatically speed time to market for new SaaS modules

Business Model

The paragon vendor of the SaaS model has been and remains salesforce.com. Yet few remember or realize that it took several years for them to become a profitable organization. Since SaaS is a front-end-loaded cost model, revenue needs time to surpass operational costs. This is perhaps the biggest drawback for traditional ISVs morphing to a SaaS model. The “revenue before expense” model of licensed software is much easier to swallow than the deferred gains offered by the SaaS model, and it highlights the change in mindset and expectations. Alternatively, the enterprise model often risks an entire reporting period’s performance during the last week for deals to come in, often at unpredictable, highly discounted rates. Surely, vendors that have the stomach for this chaotic revenue model can weather the deferred gains offered by the SaaS model. Recurring SaaS-based revenue not only provides the predictable performance to operate the business but is much preferred by the investment community.

Best Practice – Have a SaaS strategy with a business plan and deliberate marketing strategy. A good entry point is with modular offerings attractive to the base and for entry into new markets. Two ISVs could have the same objective by delivering a SaaS offering, but the one that is more successful will have completed its due diligence. The strategy to retain or acquire customers, or some combination, must be spelled out up front and reflected in a forecast.

Go to Market

The recurring pay-as-you-go model brings with it a change in the go-to-market model that many ISVs have struggled to overcome, with subscription pricing being a disrupter to selling strategies that were common for a long time. Lower price points bring smaller operating margins, a different cost structure, different sales skills and modified compensation. In a rush to market, this is often overlooked, as the existing sales structure cannot be sustained with a (lower) subscription model. This is exactly what happened to an enterprise software company that realized a new, lower-cost channel was needed a year after its SaaS offering was released. That discovery carried with it all the consequences of being late to market. Further, a residual-based sales compensation model, to match recurring revenue rather than the upfront commissions, needs to be in place along with appropriate sales skills and behavior. Another issue is that pre-sales organizations are conditioned to “show and tell” demonstrations that are more oriented to a customized on-premises enterprise applications. The SaaS demonstration model emphasizes configurability, less complexity and more solution finesse, another frequently underestimated issue.

Best Practice – Enterprise license vendors with a SaaS offering should start with a separate sales channel (online, telesales, reseller, etc.) that complements the traditional model. Also, sales and marketing need to be trained to understand the break-even points, reduced resource requirements and investment models that SaaS offers so they can build this into the sales script that should focus on core, product and business benefits.

Support

Enterprise vendors have traditionally counted on a strong, resourced client IT department to manage the on-premises application, servers and integration requirements. This was precisely the case and challenge for an enterprise vendor when a growing portion of its base began the SaaS migration. Legacy on-premises customers provided a strong source of maintenance revenue (at 20-plus percent of list license price per year) to keep the company afloat during the transition to SaaS delivery. Front-end-loaded costs, mentioned earlier, are most concentrated in the break-fix and upgrade model. Now the vendor bears responsibility for uptime, availability, feature upgrades and integration to adjacent systems. This has given rise to an industry of PaaS and IaaS vendors (Infrastructure-as- a-Service) that partner with SaaS ISVs for delivery. The upside is that the vendor can focus support resources on its core -- application knowledge and functionality -- similar to what the development organization does mentioned earlier.

Best practice – Negotiate SLAs with delivery partners that meet or exceed the performance your clients are accustomed to, and ensure they pass thorough security reviews such SAS-70 type II certification and Safe Harbor certification for data privacy, particularly important in the EU with its strict regulations. Make sure provisions for IT management tasks like disaster recovery are clear and in place. The recent Amazon outages have given this issue more attention.

Finance and Administration

Often the finance organization is the last department that must be consulted when transitioning to a SaaS model. However, the concepts of invoicing, contracts, forecasts and margins are all areas they are accountable to report. Modifying processes to invoice and provision application instances is much different from what the department knows in the enterprise license model. Modifying contracts, revenue recognition and reporting, legal terms and SOX compliance (for public companies) are underestimated in their complexity.

Best practice – Be sure the business plan includes these details. They are just as important as the external market opportunities that usually get most of the attention.

Conclusion

This is just a summary of the steps and hurdles to overcome. As noted, there is much the enterprise license provider has to learn to become a SaaS-enabled ISV. Organizations like Saugatech and THINKstrategies have published readiness assessments, which are of good use to ISVs making the transition. A legacy base that supports the organization in its transition reaps rewards and benefits, as the startup without a base has none of the baggage. However, the established ISV has the intellectual capital, expertise and brand recognition, all of which work to their favor if they patiently and properly plan their transition. It all, of course, starts with the right leadership setting the goal of becoming a SaaS organization by design and not by default.