SaaS Business Model Working Explained

Have you ever used G-Suite and Zoom?

Most likely, given the pandemic situation we’ve been experiencing for the past 3 years, who wouldn’t use these apps?

Well, when you used these apps for the first time, you experienced what a SaaS (Software as a Service) is.

In this article, we’ll discuss what SaaS stands for and how this buzzword came into effect to become what it is today – a trending business model.

What is SaaS?

SaaS, or Software-as-a-Service, is a software distribution model in which businesses host their software on servers and make it available for end users through subscription.

In this delivery model, centrally hosted software is licensed to customers via a subscription fee.

The SaaS business model is not as easy as it sounds; managing it requires quite a lot of effort on the company’s part. The SaaS company has to manage the servers, database, and other applications necessary to deliver excellent software services to the customers.

Software is called service as it is not a one-time transaction, instead, it is offered to customers on a subscription.

Customers who pay after regular intervals use the software through the web or on their mobile devices.

The best part?

End consumers, whether they are businesses or a customer, do not have to download or install the software to the system; they can simply log into their accounts to benefit from the service.

Common examples of B2B and B2C SaaS are Mailchimp and the popular OTT platform – Netflix respectively.

Now let’s explore this concept in a bit more detail.

How does the SaaS business model work?

Differentiating the SaaS business model from other business models is important as the former has many peculiar features. The working of the SaaS business model is explained below.

Continuous payments

Unlike other businesses that require customers to pay in one go, SaaS companies offer their services for a lifetime when the customer fulfills the criteria of recurring payments. In short, customers have to shell out money at regular intervals as opposed to only once.

The recurring payments received by SaaS companies are known as MRR (Monthly Recurring Revenue). In the SaaS business model, companies may get some cash upfront, however, they can’t term it as absolute revenue.

The generated revenue can only be said to be absolute when the services for the money received are delivered. Until then, the money is a liability– customers can ask for a refund at any point if services don’t reach them.

“So, the accounting concept of revenue recognition is fundamental in the SaaS business model.”

High Customer Retention

The customer is referred to as the king in the business industry. This especially holds true in the SaaS business model that generates maximum profits solely by retaining clients with quality services.

For example, if the customer who wishes to enjoy Netflix services subscribes for a total of 12 months, then he must be offered exciting and premium services along with 24/7 customer support.

Failing to do so can force her to withdraw and ask for a refund before 12 months, leading to a loss for the SaaS company. As a result, the SaaS business model put tremendous effort into cultivating healthy customer relationships.

Regular Updates

Regular updates on new and existing services are important to keep the customer interested and engaged with the company. SaaS companies have an edge over this as they already host their services; they can regularly push out notifications whenever they need to, release new services, and introduce new product enhancements.

By pairing this with effective communication, a SaaS business model can thrive successfully and earn sky-rocketed results.

Stages of A SaaS Business

A SaaS business goes through a number of transformational phases to make it big in the business industry. If you are planning to offer services with the SaaS business model, keep this SaaS Growth Phases” template handy.

Pre-Startup

Similar to other businesses, the first stage of a SaaS company is ideating and brainstorming the idea. Aspiring SaaS companies must consider what services they will deliver, who their target market is, and how they will raise funding to get started. Now, this is just the developmental stage of the company, and there might be no clients for your idea already.

Start-Up

After the skeleton of the SaaS business plan is ready, the next stage is implementing the strategies. At this stage, a core team selects and manages the product to generate leads. They are also responsible for creating proposals and getting customer feedback for service refinement.

Being updated about the current news and industry trends is equally important as it helps expand your horizons and outlook. Don’t fear any change or modification at this stage; the advantage of a startup is that you have the chance to mold your goals according to the situation.

Growth

This is the stage where you can confidently assess what’s working and what’s not. SaaS companies are responsible to optimize customer acquisition, retain and engage customers, and implement changes to their services. In addition, the company should not hire unqualified members at this stage. Instead, it should aim for a team that is flexible and goal-oriented.

Also, growth involves pitching services to different types of clients. This helps in striking a balance between the number and the profits generated.

Maturity

If your SaaS company makes it through the previous stages, then now is the time to take things up from here i.e. scaling. Being at this stage implies you have a good-performing service and an ample number of buyers. The next step is to define what’s your end goal with the SaaS business. It can be anything ranging from going global to planning for an IPO listing, adding new products and services, etc.

Many businesses commit the mistake of taking things easy and slow at this stage. They believe the ball in their court can never go off-court to someone else. So, make sure your mature business doesn’t relax and go easy; it can jeopardize your position.

Keep yourself familiar with ongoing trends and innovative techniques to meet client expectations.

Pros And Cons of the SaaS Business Model

Like anything else, the SaaS business model has its own set of advantages and disadvantages. Let’s have a closer look at some of the pros and cons of using the SaaS model in today’s time.

Pros

Maintenance

Maintenance is, perhaps, the best pro of having a SaaS business model. It offers automatic access to patches and updates. A subscription-baed model means that the publisher will automatically handle license updates and rolling out of new versions.

Flexible and Mobile

Flexibility and mobility are the two most crucial aspects that every business strives to incorporate into its working process. By having SaaS, businesses don’t need to rely on physical tools and equipment to conduct business. Instead, they can work from anywhere in the world as long as they are connected to the internet.

Loyalty

Customers tend to remain more loyal to businesses that run on a SaaS business model.

This is because a SaaS business model gives primary importance to customer satisfaction. They know how to nurture healthy customer relationships through their main and after-sales services. Furthermore, customers also get comfortable with a service once it fulfills their needs, they do not think of shifting their focus to their alternatives on the market.

As a result, customer loyalty is an amazing benefit offered by the SaaS business model.

Cons

High Upfront Costs

The upfront cost of starting a SaaS company is usually high. Sometimes, costs can also go off limits. This happens because a SaaS company works to build a large user base in the initial phases causing a major outflow of cash. However, in usual cases, these costs are covered once the SaaS company enters the third stage– the growth stage.

Insufficient Data Security

This is one of the main cons of adopting a SaaS business model. Data security issues like identity and access management nag businesses and need to be addressed before trusting any third-party service provider. This is particularly serious in the case of accessibility from a mobile device.

Low Performance

A browser-based application might face performance issues in a remote data center as compared to a similar application running from an employee’s desk. As a result, companies having a SaaS business model need to invest in high-speed internet connection to negate such effects.

Types of SaaS Business Models

There are different types of SaaS business models. However, they can be categorized into 2 broad categories:-

SaaS revenue model
SaaS pricing model

SaaS Revenue Model

As the name suggests, SaaS revenue models tell us how to earn a profit from the SaaS business model. With this type of SaaS business model, you can determine how to monetize your services and the cost of the same. In addition, it also gives clarity on who will the target audience be and how to advertise the service to them.

Here are some of the categories under the SaaS revenue model.

search intent in SaaS business models — *Source: Wordstream*

Ad-Based Revenue Model

There’s nothing complicated about this one. A website or app that receives a lot of traffic can be turned into an advertising platform. Rather than charging your clients, you sell their views to another company.

Generally, you can expect to earn a couple of dollars per 1,000 page views, but if your viewers are key demographics and very motivated to spend, you’ll earn ten times as much.

Implementing this system is easy, which is its biggest advantage. As a result, you can monetize your product more quickly because you don’t have to spend time and money on market research.

There are, however, obvious disadvantages. The number of views needed to make a significant amount of money depends on one thing: the number of views.

Affiliate Revenue Model

Your popularity is used to generate revenue in the same way as ad-based revenue models. Affiliate links allow you to drive sales elsewhere instead of earning revenue directly from visitors.

If your affiliates do not feel authentic to your image, you risk losing viewers. Even though this can earn more money than ads (and you can also earn money in addition to ads), you risk losing viewers.

Channel Sales

Channel sales include outsourcing your service if the profit margin allows rather than trying to sell it yourself. Agents sell your services to their clients in exchange for a cut of the pie.

In the case of very specific customers, this is a common method.

Direct Sales

Direct sales refer to selling your own service to the target audience. Alternatively, you are in direct contact with the customers who are willing to purchase your product.

The positive side of this SaaS revenue model is that you don’t have to share your revenue with any other seller. However, you need to hire a sales team to make sufficient sales for you.

Freemium Model

In the freemium SaaS model, SaaS companies offer a free service to potential leads interested in their services.

It is a known fact that customers love to try services and products for free before they invest their hard-earned money into a service. With this SaaS business model, you can achieve exactly that– the trust of your potential customers.

Subscription Revenue Model

Subscription-based SaaS revenue model is the most common type of model that helps businesses generate revenue through recurring payments.

The customers are charged a certain amount of fee processed at regular intervals. Some of the most common examples of SaaS companies that use subscription-based revenue models are Netflix, Hulu, and Amazon Prime.

SaaS Pricing Model

The pricing of the product should be an informed decision as it directly affects the financial health of any company. The same is true for SaaS companies. You can finalize the pricing by analyzing your competitors, creating customer avatars, etc.

Here are some of the most successful SaaS pricing models.

Flat Rate

A flat rate is the most common pricing model. In this, the customer is charged a monthly or annual fee. No customization is provided initially. However, the price can change as the traffic starts pouring in.

Per-User Pricing

The idea of this pricing model is relatively simple ie. when you price your service per user, the price hikes. The per-user pricing is suitable for small and mid-sized businesses as it can be a little expensive for large enterprises.

Tiered Pricing

Tiered pricing is a SaaS pricing model in which the price is divided into different plans. Furthermore, the pricing of each plan depends on what is offered in it. The more features a plan offers, the more costly it is to the customer.

SaaS companies that wish to adopt this pricing model should ensure that each plan satisfies the needs of different customer avatars.

Pay-As-You-Go

This type of pricing model is prevalent in cloud-based providers such as AWS and Azure. This idea followed here is: “Pay for what you use”. In short, services are rented and the amount is calculated accordingly. This is very similar to the electricity bill that you pay regularly.

Conclusion: Is the SaaS Business Model Worth It?

All in all, the answer to this question is a big YES!

The SaaS business model, although expensive to set up in the beginning, is worth it in the long run.

It offers endless business opportunities.

Last but not least, many businesses around the world are adopting it and making it big in the business industry and you can too. So, take the first step towards your SaaS business dream!