SaaS Cloud Software Services and Their Investment Potential
Do SaaS cloud software services have good investment potential? One of the problems with cloud services is they tend to be paid monthly, as opposed to regular software packages that are paid up front. So what’s the difference, and why should there be an issue with SaaS (Software as a Service) market? Let’s find out.
If you started a company offering a service whereby customers made payments on a monthly basis, would you expect it to make a profit? You might think so, because you are sure of payment every month for as long as the customer uses your service. But consider for a moment: a lot would depend on the initial outlay or investment required to create and market the service. Also, would new customers involve the same level of initial investment prior them becoming profitable service users?
This is a situation that many SaaS cloud software services are facing now. It has been widely publicized that cloud software companies have been delaying their initial public offerings (IPOs) and also that such IPOs have been performing well below their expected levels. In fact, a large proportion of the recent downturn in performance of the technological market in general has been attributed to cloud software and the firms that offer it.
Monthly Payments Issues with SaaS Cloud Software Services
Software firms have rarely had profit issues in the past, which points to the SaaS model as being responsible for this. By offering software on the cloud as a pay-per-month service, companies believed that they could improve their ultimate income from individual software applications over the one-off license purchase model that had been historically offered.
They now appear to be suffering from the initial investment required, which takes time to recover when clients are paying monthly. In fact, many firms are finding that as they are beginning to make profits from existing customers, the investment needed to fund new customers is outstripping the profit from earlier users of the service.
In fact, when the entire cloud software market is analyzed, it is apparent that only a few SaaS companies are actually profitable! It would appear that such companies have taken their eye off the ultimate goal – to make money; to generate income to enable themselves to expand and their investors to profit! This should not be the case, given the market for such software services.
Performance of Cloud Software Companies
So who are these companies that are failing to make profits from cloud software services? The biggest is Salesforce, with over $4 billion gross income. With that amount of revenue, they have not yet made a profit! Second is Workday, with $470 million – yet they made a $173 million loss. As you go down the list the story is the same. High gross figures but net income of less than zero! Why is this? It gets even more unbelievable when we consider that each of these two firms is trading at over 10 times their revenue!
Let’s take a closer look at the top guy in the list: Salesforce. This company offers a number of cloud-based software applications. Among them are the PaaS (Platform as a Service), the Chatter Sales Cloud and the Service Cloud (the Salesforce SaaS application.) Salesforce is currently regarded as the biggest player in SaaS cloud services yet it is failing to make a profit!
This company enjoys over $4 billion in revenue yet it makes a loss! In fact, it has around $2.5 billion debt, in spite of its reported losses being down $232 million for 2014. The Salesforce annual report offers investors little hope for profitability in the foreseeable future. So what’s wrong? Why are such companies not making the huge profits their turnover should suggest? In fact, why should investors continue investing in such companies? What’s the attraction?
Does SaaS Offer Longer-Term Investment Potential?
The major viewpoint is that such investments should be regarded as longer term. The justification that SaaS cloud software services offer for a lack of profit is precisely that we suggested above: the effect of immediate payment vs. monthly payments. Initial cash flow difficulties lead to borrowing, and such third-party capital must be repaid.
When monthly income fails to cover the costs of interest repayments and the cost of developing and introducing new products, then there are sure to be issues. When it takes 1-2 years to recover the costs of a software solution from a client, then there are sure to be problems. Yes, once the initial costs have been paid the resultant profit is likely to be high and rise with each successive monthly payment – but a major problem occurs if such ‘profits’ are insufficient to cover the costs involved in servicing new customers.
Reliance on Venture Capital
Practically every new SaaS company has been largely reliant on venture capital for their initial funding. One of the main issues involved in this is that most cloud software companies were founded by people with a high level of technical knowledge, but little financial acumen. Many of these took the view that capital would always be available, and that their ideas must make profit at some time in the future. Meantime, “let’s create more because we are sure to be making money soon.”
When this approach reaches its obvious ultimate conclusion, and investors demand some return on their investment, techies would sell their company by one means or another. This has been a realistic exit strategy up till now which has benefited both owners and investors. The problem is, once such strategic buyouts or public investment strategies fail to find takers, then what is going to happen?
At the moment, investors are changing the way in which they regard cloud software service providers. They are seeking evidence of a cloud service strategy that is designed to make profits before they are willing to invest. Existing SaaS companies might also succeed in acquiring venture capital if they can adjust their current strategy towards one which is more likely to make profit.
This switch in focus from a reliance on future venture capital to a determined plan to make profit will benefit the entire cloud software and file storage industry. It will also ultimately benefit the users of these services, and will certainly benefit investors.