Editor’s note: Boris Wertz is the founder of version one ventures, and has invested in over 40 early-stage consumer and enterprise companies, including vertical SaaS investments in Clio, Frontdesk, Jobber and Top Hat Monocle. Follow him on his blog and on Twitter @bwertz.
We already know that the most profitable companies from the first wave of cloud software were players in the horizontal space. Companies like Salesforce and Workday replaced on-premise solutions and won huge markets. This is old news. What’s new is the fact that there’s a second wave of disruption in enterprise cloud computing coming, and it’s going to be in the form of vertical SaaS solutions.
When on-premise solutions were first being replaced by cloud software, on-the-ground sales forces drove customer acquisition. As a result, there was a high customer acquisition cost, which made it unsustainable to focus on smaller, long-tail markets.
In the new era of enterprise software, the winners will be purpose-built, vertically sliced tools. Here are four reasons why:
1. Narrow Focus = Better Products
When your product team is focused on a single market, it’s easier to deliver a solid feature set for that market. You have the freedom to go deep in understanding the specific needs of a user base and customize a solution for them.
Likewise, when your offering isn’t trying to meet the needs of a hundred different user groups, you can streamline the user experience to work for the most common use cases. The result is a more intuitive product that can be incredibly easy to use. That’s the beauty of vertical SaaS businesses like StyleSeat (business management software for stylists), CareCloud (health practices), or Clio (law firms). Ultimately, ease of use drives adoption, as even less tech-savvy people can use software products with little to no resistance.
In addition, the cloud lets vertical vendors deliver niche features as specific needs arise. For example, Jobber – business management software for field services industries – was able to add a chemical-tracking feature so landscapers and lawn care professionals could meet regulatory requirements by recording any pesticide and chemical usage.
2. Reach A Category-Leading Position Faster
The vertical approach helps companies capture a larger market share more quickly than if they were trying to build out a broad, all-things-to-all-people solution. Mindbody, vertical business management software, is said to have more than 60 percent market share in its core yoga and fitness vertical.
In the cloud, word of mouth drives adoption. Useful products are shared and recommended among employees, colleagues, vendors, etc. For example, Clio saw a rapid increase in its user base through word of mouth, as lawyers from different firms spread the word as they worked on shared cases.
By focusing on a specific vertical, software vendors can more quickly penetrate a certain market and become the de facto industry standard. This can lead to a “winner takes all” (or almost all) dynamic: category leaders do very well, while Nos. 2, 3, 4 and beyond struggle to attract customers and financing.
3. Better Customer Acquisition Metrics
With a heavier reliance on word of mouth, the cloud enables a more scalable marketing approach – with social media, search, and email complementing a lean and mean inside sales team. By narrowing their target audience, vertically focused companies enjoy even better customer acquisition numbers. That’s because there are no broad-based or vague marketing messages. These vendors can speak directly to a particular market about their specific needs and challenges. The specificity leads to more effective marketing and better results.
4. Expansion Into Long Tail
The economics of vertical SaaS solutions are particularly interesting. Not only are these solutions beating out existing on-premise software products, but they can expand the overall market by driving into the long tail of customers that previously did not have access to affordable software products. The affordability and ease of implementation of vertical SaaS are very attractive to SMBs with limited budgets and IT resources.
While total cost of ownership and ease of implementation were the growth drivers for the first generation of vertical SaaS companies, mobile will be the most important factor for the next generation. First, it opens up completely new use cases. Second, anybody with a smartphone now has access to software. Compare those penetration rates to traditional desktop software that was limited by the number of computers in an office. For example, Frontdesk mobile-first business management software helps SMBs schedule classes, book appointments, manage clients, and more from a mobile device.
Challenges Lurk For Verticals
Due to their narrow focus, vertical SaaS vendors enjoy lower customer acquisition costs along with lower capital requirements. They’re able to become the undisputed category leader faster than a horizontal vendor, creating significant barriers to entry in their particular markets.
Yet the vertical approach is not without its own challenges. Vertical markets can be limited in size. In order to scale, companies will need to enter into parallel verticals once they own their first. This is not always an easy undertaking. Fortunately, most enterprise software markets are ripe for disruption from purpose-built, superior solutions.