You may have heard of the term “SaaS,” but you’re not quite sure what it means or how it works. This article will explain the SaaS business model and how it works.
What Is SaaS and What Are Its Benefits?
Software as a Service (SaaS) is a business model where software is offered to customers over the internet. It’s a subscription service where customers can access and use the software from a remote location.
There are many benefits to using a SaaS business model. For starters, it’s a great way to get your software out there and into the hands of your customers. Because it’s over the internet, there are no shipping or installation costs involved. Customers can use the software immediately without having to wait for it to be delivered or installed. The rising market worth can judge the popularity of this business model. In 2021, the global SaaS market was worth around $146 billion. On the other hand, it is expected to reach $195 billion in 2023.
Another benefit of SaaS is that it’s scalable. This means that as your business grows, you can easily add more users and licenses. You’re not limited by the number of licenses you purchase up front. And because the software is hosted on the internet, you don’t need to worry about upgrading your hardware or software as your company grows.
Types of SaaS Business Models
Following are the types of SaaS Business Models:
- Data Management: Products that protect users’ data and provide data analysis.
- Humane Resources: Products that assist in tracing employee engagement, hiring process, and managing payrolls.
- E-commerce and Web Hosting: Servers that handle companies’ online presence remotely.
- Project Management: Software that assists employees in communicating while working on the same project.
- Invoicing and Accounting: Software that is dedicated to invoicing and billing.
- Enterprise Resource Planning (ERP): A SaaS product suitable for larger organizations.
- Customer Resource Management (CRM): Permits clients to manage customer data and track sales.
Understanding the SaaS Revenue Model
In order to understand the SaaS revenue model, you first need to understand what SaaS is.
SaaS means that rather than purchasing and installing software on your own computer, you access it (usually through a web browser) remotely. This removes the burden of software maintenance and updates from you, as the provider handles them.
The SaaS revenue model is subscription-based. You pay a monthly or annual fee to use the software. Depending on the software’s features and functionality, this fee can be pretty expensive. However, it’s usually much cheaper than purchasing and installing the software yourself.
SaaS Sales Approaches
Basically, there are two primary ways to sell SaaS. High-touch and low-touch sales. The clear difference between the two approaches defines whether you are selling to B2B or B2C prospects.
High-Touch SaaS Sales
Some potential customers require more convincing before deciding whether to utilize a specific product. High-touch SaaS involves employing human workers to persuade potential customers to use or keep the product.
Most high-touch sales in SaaS are B2B oriented. The sales teams are essential to this sales model’s success.
Low Touch SaaS Sales
A product that can sell itself is SaaS. The primary sales channels for SaaS products are their websites, emails, and frequently a free trial that is designed from the beginning for onboarding. Low-touch SaaS is often marketed as a monthly subscription.
Key Metrics of SaaS
Metrics, not only for SaaS, are a sign of the health of any company model. A few measures are more crucial than others regarding expanding your software business. Thus, you need to pay particular attention to the following:
The number of customers that canceled their subscriptions or departed within a given time frame is referred to as the churn rate. There is no SaaS business model without churn.
You can determine how pleased users are by looking at the turnover rate. However, if it’s consistently increasing, it means that your company’s fortunes are declining. The ideal churn rate for SaaS companies is 5-7%,
Churn Rate Formula
Customer Retention Rate (CRR)
Customer retention is a metric that determines the percentage of clients who choose to continue paying to use your product. In order to calculate the CRR for a specified period, you can use the following formula.
Customer Retention Rate Formula
Customer Acquisition Cost (CAC)
Customer acquisition cost is the calculation of how much time and money it takes to convert a lead. Once you have this figure, you’ll understand how much you need to invest in generating more revenue. Here is the formula to calculate CAC.
Customer Acquisition Cost Formula
Monthly Recurring Revenue (MRR)
This formula will help you determine how much you can expect to earn per month from your sales. MRR is helpful for analyzing your month-to-month sales. Use the following formula to calculate MRR:
Monthly Recurring Revenue Formula
Average Revenue Per Account (ARPA)
This formula will help you calculate the average revenue derived from one customer. You can calculate it monthly, quarterly, semiannually, or even annually. Here is the formula to calculate ARPA.
Average Revenue Per Account Formula
Customer Lifetime Value (CLV)
CLV is the average revenue you can generate from clients during a specified time they are subscribed. You can use the following formula to calculate CLV.
Customer Lifetime Value Formula
The Different Components of a SaaS Business Model
A SaaS business model is a newer way of delivering software to customers. It typically involves selling subscriptions to software hosted by the provider and accessed by the customer over the internet.
The different components of a SaaS business model are
- The application or software itself. This is what the customer subscribes to and accesses online.
- The hosting environment or the provider’s servers where the software is stored.
- The software’s support and maintenance are typically included in the subscription price.
- The software delivery is typically over the internet using a web browser.
Considerations for Setting Up a SaaS Business
Now that you know what a SaaS business model is and how it works, you should keep a few things in mind if you’re thinking of setting one up.
First, you must ensure that you have a product that can be delivered via the internet. This might seem like a no-brainer, but it’s not as straightforward as you think. For example, many software requires an installation process, which obviously can’t be done online.
Another thing to consider is your target market. Not every business is suited for a SaaS business model. If your target market is small businesses, for example, they might not be willing or able to pay for a subscription-based service. And finally, you need to ensure that you have the resources to deliver your product and support your customers.
Innovations in the SaaS Business Model
The SaaS business model has been growing and evolving since it first appeared on the scene. And one of the most recent innovations in the SaaS business model is the cloud-based delivery model.
This SaaS delivery model delivers the software to customers via the internet instead of being installed on their computers. This has many advantages, chief among them being that it’s much simpler and more efficient to manage and update the software.
Another significant advantage of cloud-based delivery is that it allows customers to access the software from anywhere in the world, as long as they have an internet connection. This is a huge selling point for businesses with employees who are always on the go.
Common Challenges Faced by SaaS Companies
There are a few common challenges that face most SaaS companies.
- The first is customer churn. This is when a customer cancels their subscription.
- The second challenge is figuring out a suitable pricing model. It would be best to find a balance between giving your product away for free and making it too expensive.
- The third challenge is scaling your business. This is when you need to increase your number of customers while also maintaining profitability.
- The fourth challenge is dealing with competition. Other companies will always try to offer a similar product or service.
- Finally, the fifth challenge is finding the right balance between product and marketing. You need to make sure you’re spending enough on marketing to reach new customers, but you also don’t want to sacrifice the quality of your product.
What’s Next for SaaS Businesses?
SaaS applications are almost endless, and with fundraising methods constantly evolving, there has never been a better moment to enter the area.
However, most prosperous SaaS businesses adhere to a few core business models principles, like relying on reliable statistics and utilizing the appropriate tools and solutions. If you apply the same concepts to your company, you could discover that you’re going in the same direction.