Study uncovers best practices for SaaS (and open-source) sales operations

I'm in the middle of a fascinating study by Robert Breza of RBC Capital Markets entitled "On Demand Evolution, Volume II: Insights and Best Practices at Leading On Demand (SaaS) Providers." The research details the characteristics and best practices of successful sales operations and R&D at SaaS companies. I share some of its central findings because many of the same principles apply to open source, as both leverage subscription-based business models.

Just as barriers to open-source adoption continue to go down, so, too, do barriers to SaaS adoption. Indeed, some of the same factors may be driving increased acceptance of subscription-based software purchases. Forty-four percent of RBC's survey respondents indicated "no major concerns with SaaS adoption," which is up from 35 percent in a similar survey from Q1 2008.

But someone still needs to sell these products/services. One suggestion from the report is that subscription-based vendors should segment "hunters" (new license salespeople that are paid a higher commission) and "farmers" (renewals and upsell salespeople, generally paid a lower commission) early in the company's growth. Such vendors should also focus more on the long-term value of a customer, not the short-term initial contract payout:

The company is more concerned with farming the customer than they are with negotiating that initial contract. An effective and "sticky" product coupled with an efficient sales model should be able to drive customer retention above 90% while revenue retention is at or above 100%. (10)

Many of these companies (Omniture is a prime example) opted to start with "mid-grade" salespeople early on (Think: inside sales), later moving to "high-grade" sales people once the market opportunity was better defined. The idea is to start with more junior, hungry salespeople to prove out the market, and then bring in more expensive headcount to "reap" in the market once it has been established.

Also, rather than rapidly expanding one's sales force, the report suggests a gradual increase in headcount as a way to preserve opportunity for new employees while providing outsized returns for top performers that have been with the company for longer. This gradual approach also enables the company to weed out the bottom 10 percent of performers more easily and constructively (i.e., you won't have to make mass changes), but also to keep a smaller sales team focused on understanding the company's products really well, and selling them accordingly.

Intriguingly, the report suggests that over time the optimal contract length for subscription-based business is one year, rather than the oft-coveted multi-year agreement. Why? Because one-year agreements tend to be discounted less and given the higher-than-expected switching costs, subscription-based businesses actually have more renewal stability than many believe.

Additionally, successful subscription-based vendors focus more on dollars renewed than on customers renewed. It's great to have a 90 percent customer renewal rate. It's even better to have a 110 percent dollars renewal rate. In other words, the more successful companies sell deeply into existing accounts and push the value of renewals higher than 100 percent. At Alfresco, for example, we regularly are able to turn a $50,000 annual contracts into multiples of this by selling longer-term contracts, additional support/CPU subscriptions, etc.

To improve the dollars renewed figure, most successful SaaS vendors seem to lean heavily on a direct sales model (at least, in North America, which is where most successful SaaS companies derive at least 70 percent of their sales - RBC suggests US-based vendors not look overseas until they've hit $30 - $40 million in annual recurring revenue), rather than working through a channel. One primary reason? Given the paramount importance of renewals, subscription-based vendors need to keep tight account control. As one CEO noted:

I look at this industry similar to a life insurance policy - I'm more worried about farming customers than I am with the initial sale - and this often times differs with how channel partners work. (14)

In other words, the customer's importance begins after the initial sale, not before it. Contrast this to a typical proprietary, packaged software model where the critical sale is the initial license sale. It's also difficult to entice a channel with the decreased services opportunities that SaaS affords.

That, in essence, is the lesson from this study: SaaS (and, by extension, other subscription-based businesses) need to focus on a long-term sales strategy. The relationship begins with the sale, and how you structure your sales team (and associated commissions, etc.) should reflect this. It's a customer-centric business for the long haul.

[mike88888]

Thanks for the post. Could you elaborate on what you believe the source is for the " higher-than-expected switching costs" leading to renewal stability?

[Matt Asay]

Data lock-in. It's easy to leave the application...but not easy to leave the data that is largely trapped inside the application.