Industry Clouds: The Next Big SaaS Opportunity

Why is Industry Software a Big Deal ?

From Telecom, Banking and Insurance to Discrete Manufacturing, Utilities and Oil & Gas, every industry has evolved its own software stack over time. Each of these industry software ecosystems are filled with hundreds of vendors, driving tens of billions of dollars in total revenue.

In contrast to horizontal application software focused on productivity and enablement, industry software typically covers mission-critical, transactional processes related to how customers engage with the very core of the product or service offered by the firm. They are the systems of record holding all product, asset, transaction and customer data. They are also the systems of engagement that enable mission critical transactions between the company, its sales ecosystem, and its customers.

Take telecom as an example: It spent more than $25 B on application software in 2013, and is expected to top $34 B in 2018. This spend is larger than the size of the entire CRM software industry.

In verticals like banking, insurance, telecom, utilities and retail, industry specific application software spend exceeds horizontal application software by more than 10:1.

Gartner estimates that industry software companies generated more than $114 B in revenue for 2014, representing almost 30% of all software spend.

Who Are These Companies That Make Industry Software ?

Think Amdocs, Ericsson, Fiserv, FIS, McKesson, Infor and the like. While some of these names may not be well known to the general public, they are all massive firms with > $10 B in market cap. McKesson is a Fortune 15 company and Infor is the largest private software company in the world.

So, what are the strengths of these incumbents ? How did they become so big ?

1. They are purpose-built for their focus industry. They have deep domain expertise and are very familiar with the industry dynamics.

2. They know what it means to be mission-critical. They live it every day.

3. They do whatever is required to make it work. They take accountability for business outcomes, albeit at a steep price.

4. They supply software + services over multi-year terms. They blend product+ services + support+BPO seamlessly.

5. Some of them are industry conglomerates who sell software in addition to industry equipment. They bundle software with other offerings, act as an one-stop shop for customers to buy, and serve as a key distribution channel and access point to the industry for multiple vendors.

But… the incumbents also have several challenges and suffer from structural drawbacks.

1. They are expensive and tend to optimize the business model for the vendor. Customer’s cash outflows are typically not well aligned with value realized.

2. The implementations are heavily bastardized — meaning significant customization — and take many years to deploy.

3. Upgrading to newer versions means long and costly projects with massive time and cost over-runs.

4. They are mostly on-premise, adding significant IT tax in hardware, software infrastructure, networking and ongoing maintenance.

5. Once entrenched, these vendors tend to hold customers hostage and charge a hefty ransom for modifications. In fact, the more you invest, the deeper the hole you dig for yourself.

6. They are not built for the digital age: NOT (Cloud Apps, Cloud Platform, Natively Mobile, APIs, Metadata etc.).

As we witness the inexorable transition of CRM, HR, Financials and several other categories to the cloud, will industry software follow suit at scale?

While we already have a handful of multi-billion dollar industry cloud companies, it may just be the beginning. As cloud disruptors in large verticals better address current pain points and deliver better economics, we are likely to witness the creation of many large vertical SaaS companies over the next few years.

The incumbents do have great customer access and strong leverage. However, the scales are tipped against them as customers contrast the economics, convenience and ease of use of the cloud with their current systems.

How Can Industry Cloud Companies Beat the Incumbents ?

Here are top 6 considerations for new industry SaaS plays to break through and succeed.

1. Industry Business Processes vs. Thin Veneers

• Industry flavors of Cloud CRM software that represent simple modifications to UI / objects do not represent industry software. There is no paucity of integrators and vendors who have built thin industry veneers for platforms like Force. They offer limited value.

• Real industry software products address mission critical value chains with deep capabilities specific to that industry.
• New vendors should start with specific niches (or) scenarios where incumbents have deep vulnerability. These could be related to industry specific big data / machine learning plays, or specialized use cases that are better addressed with new technologies.
• Examples: RetailNext in Retail, OPower in Utilities, Synchronoss and Cycle 30 in Telecom, CodeObjects in Insurance, Euclid Analytics in Retail, Vlocity in Insurance and Telecom, BloomReach and Rich Relevance in Retail.

2. Focus on Customer Engagement and Digital Transformation in the Front-Office vs. Back-Office

Legacy industry software is back-office centric. But the larger opportunity for transformation and differentiation is in the front-office. New digital technologies are helping companies transform business and operating models, and disruptors can help companies re-imagine the core of what they sell, what they bundle, how they price, and how best to manage and optimize the customer relationship over the entire lifecycle.

It is important to note that customers pay tens to hundreds of millions of dollars per year for industry solutions that are transactional and mission-critical. For example, AT&T spends >$1B per year on one vendor (Amdocs) who is responsible for order capture and billing, and who processes a major chunk of the ~ $140B of AT&T’s annual revenue per year.

Industry clouds can also be non-transactional (e.g. citizen management in public sector, or trouble ticketing in telecom), but still need to work seamlessly with existing systems around products, accounts, assets and orders.

3. Align Value Captured with Value Created.

• Disrupt incumbent pricing by linking cost of software directly to value delivered — cost per order, cost per new enrollment, cost per bill, cost per claim, etc.
• Experiment with multi-layered economic models where varied dimensions of value ( # of users, scope of functionality, usage, # of channels, processed revenue, API volume etc.) are creatively arranged to align customer spend with adoption and success.
• Support private cloud and hybrid deployments with hosted and managed options. Several customer situations and country regulations demand it.

4. Provide a Platform, Community and Ecosystem, not just Application Software.

• Large enterprises want highly customized and tailored processes. A cloud based development platform is critical to deliver acceptable levels of cost and productivity over the deployment life cycle.
• Industry cloud vendors need to build their cloud apps on a leading PaaS (Platform as a Service) like Force or Cloud Foundry. With the exception of the large vendors, it is simply too expensive to build your own PaaS layer.
• Industry cloud vendors should offer a library of native connectors to the most popular solutions in the industry and also publish core APIs.
• Ideally, the industry cloud solution should enable the long-tail of industry solution innovation. A thriving ecosystem of ISVs and SIs aligned to the industry cloud can deliver a sustainable competitive advantage.

5. Optimize for Customer Success and Not Growth until Product-Market Fit.

• The vendor’s ability to build a product business in the long-term is ironically better served by its openness to investing in early customer success in the short term.
• Lack of customer success is the biggest risk that can dampen growth. Vendors who deal with it aggressively through integrated customer development teams and tight feedback loops are in a much better position to get to product-market fit and scale the business.
• Vendors need to step on the gas on building a SI ecosystem only after product market fit. It is crucial to get this timing right. Too early, you may end up with unhappy customers. Too late, high percentage of low-margin services revenue will drag the business down.
• Veeva Systems is a classic example of a company that has done this right. More analysis and links here.
• Companies within an industry are tightly connected and word-of-mouth is a huge factor. Successful vertical SaaS companies can achieve far lower costs of acquisition than many of their horizontal equivalents.

6. Connect Buyers and Sellers in Unique Ways by Enabling a SaaS Marketplace for the Industry.

• Considerations 1–5 are really about being cheaper, better and smarter than incumbents by delivering modern software on the cloud, shifting the focus to customer experience, and providing a subscription based business model.
• But, new industry SaaS solutions need not follow the templates of the past. They can also shift the game to new territory where incumbents are not present.
• SaaS Marketplaces re-imagine the ways buyers and sellers find each other and how communication and engagement occur for specific use cases. A few examples below of industry SaaS marketplaces:
• Cover is a mobile-first insurance broker that helps customers find auto and home insurance from over 40 carriers
• 42 floors helps corporate real estate owners and renters find each other
• Doximity helps physicians communicate with each other around a patient’s case
• Opentable helps restaurants accept new reservations
• Upcounsel helps legal firms find new leads at lower cost.
• Edmodo and Remind 101 help educational institutions and teachers communicate with students and parents
• Smartzip helps real estate agents find the best prospects

Marketplace for discovery + SaaS for productivity is a powerful combination to acquire and retain both supply and demand side participants within the industry. SaaS marketplaces also provide industry cloud vendors an opportunity to directly participate in transactions and act as a market maker.

Conclusion

While incumbents are also trying to jump on to the industry cloud bandwagon, history shows us that this is an incredibly hard act to pull off. Not only is it impossible to retool legacy technology from the ground up for the cloud, it is difficult to cannibalize existing business models.

So, watch out for the emergence of new industry cloud companies over the next few years. They are likely to redistribute billions of dollars in customer spend from old industry software companies to new SaaS players, create new market caps worth tens of billions of dollars in the aggregate, and lead to several attractive investment and M&A opportunities in both private and public markets.