If your enterprise software brings revenue it is worth a lot more than if it just cuts costs – the revenue model shift from Subscriptions to Transactions June 4, 2014Posted by bernardlunn in Corporate Strategy, Enterprise Sales, SAAS, start-ups, Strategy Workshop.
Tags: b2b2c, crossing the chasm, revenue sharing partnerships
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Historically, the objective of enterprise software was to make employees more efficient by automating tasks. The software industry moved from cutting G&A costs to making people at the front line more efficient through software such as CRM, Marketing Automation, Business Process Management and Collaboration.
In all cases, the business model was licensing. The licensing model moved from perpetual to periodic (monthly or annual). Seen in this context, SAAS is just an evolution of the old licensing model (plus bundling the hardware into the price). Consumerization of software is a natural response to the risk/reward shift of periodic pricing in SAAS. When vendors got all the money upfront, they could afford an expensive sales process. SAAS shifted the risk to the vendor who got investors to fund the cash flow gap. Investors were happy funding that cash flow gap because periodic SAAS revenue is more predictable and therefore more valuable. To reduce the cost of sale and therefore minimize dilution, entrepreneurs created consumerized services and Freemium.
That about brings us up to date.
So, what’s next?
What’s next is usually an evolution when it comes to enterprise. There may be a disruptive 10x technology shift driving the change, but big companies tend not to make big disruptive shifts. There are exceptions of course, the most famous being Intel’s shift into semiconductors under Andy Grove. That is such a compelling story (told in Only The Paranoid Survive) and so many enterprise executives reference it in glowing terms that we can easily believe that it is the norm. It is not the norm; it is “more honored in the breach then the observance”. Enterprises have built-in inertia, because senior managers are incentivized to optimize short-term profits.
The next iteration will continue the risk/reward shift that was started by SAAS. This will change the revenue model from licensing to % of transaction/revenue (in any shift we see hybrids of old and new so many ventures will mix subscriptions with transaction revenue). I am observing a few innovators who are combining digital consumer marketing techniques with selling a partnership model to enterprise. This is where the puck is going. These ventures get their revenue from a % of the transaction/revenue. This is obviously highly scalable. These ventures take on more risk and have to generate more value before they get paid, but if they can get there they have great scalability and moat.
The idea is simple. You create a consumer service and get enough users that you prove the proposition. Then you scale by partnering with enterprises. One way to look at this is as a technique for crossing the chasm. You can easily find early adopters online. (I say easily, it is of course not easy, but the techniques for doing so are well understood and documented). However, scaling beyond that is hard. Only a tiny % of ventures, blessed with great virality and addictiveness, cross the consumer chasm. As always exceptions (such as Facebook) prove the rule while blinding us to the rule with their brilliance. Many other ventures will cross the chasm by partnering with enterprises. One reason that enterprises are so big is that mainstream consumers trust these large enterprises.
If you prove the proposition directly with consumers you have created a lot of value. You can exit at that point. You can sell to a company that can cross the chasm to the mainstream consumer. Or you can partner with the enterprises that have access to those mainstream consumers in a shared revenue model and scale to become a large enterprise. You will typically be making one or more of these propositions:
- Get more revenue from their existing customers. You are accessing their customer base and they are using your service to get extra revenue from those customers.
- Bring them new customers. This is where the big $$$ prize lies. If these new customers represent the early adopters, the enterprise will be worried that eventually their mainstream customers will “see the light” and want to switch to your model. If they see that they will buy you for a big premium or partner on terms that are more advantageous to you; in this situation you have real clout.
You can create these partnerships on a white label or co-branding basis. Obviously you get higher margins if you get co-branding. There is a spectrum of co-branding. The more traction you have with consumers, the more clout you will have in those co-branding negotiations. Once again, Intel was the thought-leader, with their Intel inside campaign. These negotiations are fundamentally about “how big is my logo vs your logo?” Screen real estate is precious, so this matters. If you have 1 million consumers and the enterprise has 1 billion consumers you have reasonable clout if your 1 million represent early adopters and they can see their 1 billion moving to your model at some point. If you have only 1 thousand consumers, you will be limited to offering a white label service.
Back in the days of the Dot Com Boom/Bust era we saw the concept of B2B2C. Like many concepts from that era, it is easy to ridicule this one, because it did not happen then. That may simply be related to the % of people online. Now that more than 50% of the global population have mobile phones, the concept of tiny ventures getting millions of consumers directly is no longer a pipedream. However it is not wise to ignore the power of the incumbent enterprises. Rather one should get enough traction with consumers to have some clout when negotiating revenue sharing partnerships with those enterprises.
Tags: adjacent markets, bowling alley, crossing the chasm, enterprise software, marketing, niche markets, sales, whole product
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For years Crossing the Chasm was the closest that Silicon Valley startups had to an operating manual. It fell out of favor when the focus was on digital consumer ventures, but people are dusting off their copies as we are now in an enterprise software renaissance.
“Market momentum picks back up in the Bowling Alley phase, as early pragmatists in certain
customer segments overcome their reluctance toward discontinuity and adopt the new
technology to solve niche-specific problems. By their nature, pragmatists are reluctant to
adopt new technology and prefer to follow the herd. Early pragmatists are forced out of
their comfort zone to find solutions for broken, mission-critical business processes.
The Bowling Alley phase takes its name from the market strategy that is appropriate. The
key to success is to provide a complete solution for one segment while identifying closely
aligned segments that could benefit from a similar solution. When the momentum from
successfully capturing market share in the first segment (the lead bowling pin) is felt,
this momentum is leveraged into adjacent segments. By dominating several segments, your
company may start to emerge as a sector leader.”
That describes the strategic mission – that is the easy bit. Actually winning those deals and delivering those move-the-needle projects is a lot tougher, particularly today after “enterprise software’s decade in a coma” has left many of those skills rather rusty from lack of use.
Each niche is like a foreign market. Literally, niches like this have their own lingo, the jargon that feels like listening to a foreign language. You can translate the jargon, study the subject, but you will still feel like a foreigner mangling French in a Parisian cafe getting supercilious stares from the waiter. The people in these niches all know each other
well, these are dense networks which spit out antibodies to reject outsiders.
You can break through into these niches but it requires creative selling techniques that have been forgotten in the last decade. Consumer start-ups don’t need to sell, they market online using their product. Consumerized SaaS startups believe that this is also the way to win the enterprise. It may be the way to get your foot in the door of the enterprise, but to really win the big tickets you have to solve really big pain points.
These creative selling techniques usually start with some variant of asking “what keeps you up at night?” You are looking for the kind of pain that is so acute that the customer will overlook the fact that you are a startup with radically new technology.
It is good to first read the guide books to this foreign land and talk to people who have lived there. You need some familiarity with the lingo of this niche market, understand “what makes it tick” and some theory of where the pain might lie that you can fix. Even open ended questions need a focus. But remember, “no theory survives first contact with a customer”, keep an open mind and stay light on your skis. Opportunity often lurks in the parentheses, the seemingly unimportant throwaway comment that shows you the real hot buttons.
You need more than a 10x proposition based on a technological breakthrough. You need that to be able to deliver the solution, but that alone only works if your 10x proposition is purely a cost-cutting proposition. That tends to be a tough sell in most enterprises because it involves rip and replace and that is too big a risk to take on a start-up. You can sell a 10x rip and replace cost-cutting proposition if your technology is down the bottom layers of the tech stack and you sell to data centers. For example if you have a way to 10x cut the electricity consumption by servers, Amazon, Google and Facebook will all listen intently even if you are a bunch of techies in a garage and sell one of them and you are off to the races….
However if your proposition is further up the stack, for example at the middleware layer or the application layer, well as they say in Brooklyn….fuggedaboutit. That’s when you have to find a business problem to solve that fits these three criteria:
1. A “big, bad problem” something that really, really matters, that gets the attention of the CXO level guys, that keeps them awake at night. Don’t worry, the Global 200 are going through wrenching changes thanks to the triple tsunami of globalization, digitization and the debt crisis, so there is no shortage of big, bad problems.
2. A problem that is ideally suited to your unique technology, that none of the incumbents can easily solve. There is no point in discovering a big, bad problem that can be easily solved by Oracle, IBM, SAP, etc. All that will happen is you spend a lot of time getting the proposal up the chain of command until a salesman from an incumbent spots it and closes the deal.
3. An internal “sponsor”. We used to call them angels, but has a different meaning now. This is your inside person, who keeps the message going after you have left the room. I think of him/her as an innovator with clout. They have to be innovators because you are an upstart with new technology, so they have to think outside the box and be ready to challenge orthodoxy and incumbency. You will easily find many like this and have lots of conversations where they bemoan how stupid their company is, how politics gets in the way of innovation, blah, blah. These conversations go nowhere. You need an innovator with clout, somebody who is trusted and respected by those with the power to close a deal.
So you have to cast your net really wide to find the few that sit at the intersection of this three-way venn diagram. Cast a wide net and then qualify like hell. Lots and lots of conversations, lots of active listening, lots of “see ya later” when you don’t hear the screams of pain that indicate these guys really, really need you. This has to be more like a guy who has had a
heart attack needing a surgeon than somebody with a headache needing an aspirin.
Once you have found the problem, the hard work starts. This is what I think of as the middle of the chess game. You have opened well, now it gets complex with lots of options and moving parts. Now you have to assemble a solution. It is an assembly job, great for Lego fans. You need these pieces:
1. Your technology at the heart. You will need easy interfaces to all the other bits as you are the newcomer and therefore the one who is most motivated.
2. The other components that deliver a total solution. This could be as simple as the hardware and networking if you are running behind the firewall (yes, that is technically simple but the incumbency innovation antibodies lurk here) or include software components up and down the stack. Remember, you are solving a problem, not selling technology. If you don’t do this hard work, the incumbency innovation antibodies will attack you; an existing vendor will show a “just good enough alternative”.
3. A team that can pull it all together, the system integrator. Your view has to be pragmatic; use your own people, or one of their approved integration vendors or an internal team. This is a key area where your Sponsor needs to guide you.
If you get through this part you are positioned for the end game, you are in the closing zone. That is the subject for other posts.