Friday, August 29, 2008

Inside Software

Fitzgerald says software path is paved with SaaS

By James M. Connolly

With experience that dates back 30 years in the enterprise software market, Michael T. Fitzgerald’s advice to those who want to jump into that field boils down to “don’t!” For startups, success is more likely with point products delivered in a software-as-a-service model.

“The enterprise software market is a consolidating market. Oracle, Microsoft and SAP own it. They keep expanding their footprint, and they have enormous power. Enterprise software is very expensive to develop, and you bump up against those large vendors who can give away what you are making.  It’s just too tough,” said Commonwealth Capital Ventures general partner Fitzgerald in a recent interview.

Fitzgerald is a convert. He got into the computer industry in the 1970s selling minicomputers and bundled software for IBM Corp., and later ran a supply chain software company. Moving into the venture business, he worked with a mix of hardware, software and networking companies. Two of those companies, launched in 1999, evolved into SaaS-based models. Those companies were e-Dialog Inc. — sold to GSI Commerce Inc. earlier this year — and Constant Contact Inc., which conducted an IPO in 2007.

SaaS is a new business model, and it has Fitzgerald excited.

“Enterprise software is complex, and it has to be managed by the IT department. With software as a service, all you need is a browser and a high-speed Internet connection. In a small business, it’s particularly effective because you don’t need a large IT staff,’’ he said. With a traditional enterprise package, updates  must be made at every location, perhaps hundreds of sites, and the customer pays a high purchase price, plus up to 20 percent annually in maintenance, even if the application is seldom used. With SaaS, Fitzgerald notes, “what you are paying for is the tip of the iceberg and you get all the benefits.”

That means less risk for the customer. If they don’t like the software, they don’t use it and don’t renew their subscription.

As an investor, Fitzgerald sees a benefit for the software maker in a SaaS model. An enterprise suite means a complex selling process. “If I’m selling a million or two million (dollar) software package, think of the process you have to go through, and how many people have to touch that decision,” he said.

Meanwhile, SaaS tools tend to be less complex — point products that fit around the edges of an enterprise suite. “As a software sales guy, I should be able to close a sale on every call, and tell people, ‘Here, try it for 60 days at no risk,’” he added.

For the investor and company executive, SaaS also enables predictability in that the subscription model produces a recurring revenue each month. While enterprise software sales can be spikey, SaaS allows managers to know “almost precisely” what their revenue stream is for the next month or quarter.

However, SaaS-based software does have its limits. Fitzgerald  notes that customers often don’t want confidential data being processed outside of the company’s own systems, and that customers are unlikely to throw out existing enterprise systems. He also notes that while it may be easier to build up a customer base, a SaaS-based company needs to keep recruiting new customers to keep revenue growing. He notes that Constant Contact recently passed the 200,000 customer level.

Fitzgerald estimates that SaaS models represent 5 percent to 6 percent of the software market today, and that the share will exceed 25 percent five years out.

“SaaS is still in its infancy today, but everyone is getting more used to it,” he said.