European VCs pumped €12bn into the sector in 2020, with Romanian SaaS giant UiPath becoming one of Europe’s most valuable tech startups. After raising $225m in July, UiPath’s valuation rose to $10.2bn, making it the region’s first SaaS ‘decacorn’ — and it also has an IPO in the pipeline.
The coronavirus pandemic appears to have had less of an effect on this sector than others. As businesses have been forced to accelerate digital transformation programmes, stocks in listed SaaS giants like Docusign (up almost 200%), Zoom and Twilio have soared. Europe is now home to a number of SaaS unicorns, including cybersecurity company Darktrace and German deeptech scaleup Celonis.
“If growth continues at the pace we’re seeing today, we estimate that cloud will overtake on-premise software by 2025, when the entire software market should be worth around $1tn,” says Philippe Botteri, partner at Accel.
So what is it that makes SaaS so attractive to VCs?
First and foremost, SaaS businesses provide predictable, recurring revenue. A monthly subscription to Netflix is a repeatable, secure form of income that can be grown by acquiring more subscriptions or increasing its cost, compared with a one-off payment to download a film. SaaS startups can take on as many subscribers as they want with more or less the same fixed costs, potentially creating huge revenue. It’s also easy to upsell to these existing customers, providing you get them hooked.
“When I invest in a SaaS company, the capital is the fuel for the sales and marketing engine. But you don’t put fuel in an engine that doesn’t work, so be ready to explain how the engine is working. Be clear about what your sales and marketing model is, what the metrics are and why you believe if you put more money in, the system will really accelerate,” says Botteri.
SaaS companies also tap into modern consumer attitudes. Rather than putting lots of money into a single purchase, consumers prefer flexible, lower-priced products that can be accessed instantly, but also cancelled easily. The market is already there for the SaaS business model.
What VCs want
Let’s start with the potential returns.
“SaaS companies are extremely capital-efficient. You can build a large, profitable business for less than $10m in funding,” says Sarah Nöckel, seed investment manager at VC firm Northzone.
“Secondly, there is a playbook for how to build and scale SaaS companies, such as which marketing and sales profiles to hire at what commercial maturity level. In SaaS — especially if you are a second time founder — you can control the go-to-market a lot more than what you can do in consumer,” she adds.
SaaS companies are extremely capital-efficient. You can build a large, profitable business for less than $10m in funding.
Dave Rosenberg spent 15 years working with VCs and is now head of marketing, business development and private equity EMEA at Oracle NetSuite. He agrees investors are attracted to the SaaS business model as a whole, not just the products.
“There are factors around how well SaaS startups serve customers that appeal to venture capitalists. They typically follow a logical pricing model in which customers pay for what they use. They can also deliver rolling upgrades and help businesses offset the need for their own internal infrastructure, encouraging customer retention. Plus, from the VC perspective, SaaS companies have the ability to scale to other regions relatively easily,” he says.
It’s certainly been a period of rapid growth for the SaaS sector. The Emerging Cloud Index (which tracks the valuation of software companies) regularly outperformed the Nasdaq in 2020, while the Scaleup Index from Beauhurst and the Scaleup Institute found SaaS companies provided the most scaleups (defined as business with a 20% growth in annual turnover or employees) in the UK, with almost 100 more than any other sector.
“The SaaS sector has probably developed as much in the last nine months as it would have done in 3-5 years without the pandemic as a catalyst,” SaaS revenue platform Paddle’s founder Christian Owens told Sifted last November.
So how can SaaS founders demonstrate their value to investors when pitching?
“It’s important to have a strong understanding of the US market as this is where the majority of SaaS companies need to be successful. Be prepared to talk about how you plan to do that,” says Botteri.
It’s vital to come prepared with ideas about how you plan to scale, from both a sales and human capital perspective.
“The questions startups will be expected to answer are: what is your ultimate goal for the business; which marketing channels get you the highest ROI; and do you have a great team to help execute your ideas?” says Rosenberg.
It’s important to have a strong understanding of the US market as this is where the majority of SaaS companies need to be successful.
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