Customer Acquisition Spending: Lessons from Workday

According to a business adage, you need to spend money to make money.

According to a SaaS business adage, you need to spend a lot of money to make money.

Workday recently made public its S-1 filing in advance of an initial public offering. The document reveals what it takes to succeed in a market dominated by Oracle and SAP. Specifically, it illustrates the need for software-as-a-service (SaaS) companies to spend money - lots of it - on customer acquisition.

In its early years, Workday spent well in excess of its annual revenues on sales and marketing. In 2008, it spent 2.5 times more on customer acquisition than annual revenues, and in 2007 it spent nearly 18 times more than annual revenues.


With only $455,000 in revenues in 2007, Workday funded a direct sales force and a professional marketing effort costing more than $8 million. I saw first-hand the company's significant presence at that year's HR Technology conference, where the company's booth and a front stage presentation by co-founder Dave Duffield made for an impressive coming out party.

Sales & marketing costs still represent the single largest expense for Workday. It's selling a critical solution via an expensive direct sales force to large enterprises, and usually competing against well-entrenched competitors. A typical sales cycle can extend over 6-9 months.

Though the cost of customer acquisition relative to annual revenues has declined steadily, on-going customer acquisition expenses will continue to keep Workday in the red for some time. According to the S-1, "we do not expect to be profitable for the foreseeable future."

So what is Workday getting for its money?

What's the payoff from this significant and on-going investment in sales and marketing?


High growth: Workday's revenues grew at a compound annual growth rate in excess of 300 percent from 2007 through 2011. The company has attracted about 325 customers over that period, mostly large enterprises with thousands of employees.

Strong customer lifetime revenues: Most of Workday's customers are on 3-5 year contracts. And in addition to the subscription fees, many pay for implementation, training and other professional services. (It would be helpful to calculate the average customer acquisition cost relative to customer lifetime revenue, but the S-1 filling doesn't appear to provide the required data.)

Visibility and credibility: Its high marketing spend has established Workday as a leader among SaaS ERM providers. When large enterprises consider potential solutions, Workday is usually on the short list.

Success requires funding, courage and patience

Here's one important lesson we can all take away from Workday's experience:

SaaS companies that want to grow need to spend money, sometimes a lot of it, on customer acquisition.

Often SaaS companies will need to commit to high sales & marketing costs even at the expense of profitability, at least in the short or medium term. Companies with an effective customer acquisition plan in place, however, can generate high, sustainable, and eventually profitable growth.

To put a sharper point on this lesson:

SaaS companies without the funds, courage or patience to pay for a well-functioning customer acquisition effort over a sustained period will have a difficult time growing their business.

This work by Peter Cohen, SaaS Marketing Strategy Advisors is licensed under a Creative Commons Attribution 3.0 Unported License. Images obtained via iCLIPART.com.

Subscription price and customer acquisition costs

Here's an inquiry from the SaaS Marketing mailbox:

Dear SaaS Marketing guy,

Do software-as-a- service (SaaS) solutions with a high subscription price per customer have a better chance of success than solutions with a low subscription price?

Sincerely,

Earnest, but Confused SaaS Solution Developer


Dear EbCSSD,

Here's the good news: Whether your solution carries a high subscription price or a low subscription price, either one can succeed.

Here's the bad news: Either one can fail.

Companies like Carbonite and Dropbox have been successful selling lower priced subscriptions at high volume. And others like Taleo or Workday have been successful selling higher priced subscriptions to large corporate accounts. There's even a third group of SaaS providers like Salesforce that have been successful selling low-priced solutions to small accounts and high-priced solutions to enterprise accounts.

Subscription cost by itself is meaningless

The key to success with any of these approaches isn't the price of the subscription. It's the subscription price relative to the cost of acquiring customers. Or to be more specific, it's the revenue derived from the customer (a function of price, number of subscribers, and length of the subscription) relative to the cost to acquire and retain that customer.

For most SaaS companies, the customer acquisition costs will be the single largest on-going expense for their business. Once the product has been launched, success will depend largely on efficiently building visibility, attracting prospective customers, converting them into qualified opportunities and buyers, and retaining them as long term customers. (See "Three deadly SaaS marketing mistakes.")

The subscription price by itself - whether high or low- doesn't mean much. It's useful only in relation to costs, especially customer acquisition costs.

Different prices means different acquisition costs

Different prices do tend to require different approaches and customer acquisition costs vary accordingly.

Low-priced solutions that are simple to understand and easy to purchase generally require lower customer acquisition expense. Customers can quickly evaluate them on their own, perhaps even try it out with a free trial, and use a credit card to make a purchase. No need to interact with a sales person at all.

Solutions carrying high subscription prices, by contrast, tend to require higher customer acquisition costs and longer sales cycles. Because of its price and its strategic impact, the prospective customer is likely to scrutinize the potential purchase more carefully. The SaaS provider may need to present in-person demos, run pilots, negotiate terms and conditions, and make other substantial investments.

Matrix Partners' David Skok, who has provided excellent insights on this topic, maintains that as sales complexity increases, customer acquisition costs increase exponentially. A direct sales model, relying on highly-compensated account executives and field sales support professionals, could be 1000 times more costly than a "no touch" sales model that requires no sales people at all.

Build what you know

Though it's critical to match subscription costs to CAC, I'm not certain that SaaS developers should make "high price" or "low price" the very first consideration in deciding what kind of application to build. They're probably better off focusing first on a problem that they understand very well and a market where they know there's an opportunity.

If someone has deep knowledge of the construction of aircraft carriers, for example, and the passion to build a solution that makes the process more effective, go for it. I'm assuming that a solution like this would require a high subscription price and would involve a long and expensive customer acquisition process. But if that's the market the developer knows, don't dismiss the idea out of hand.

Once they've determined that they can build a better solution for an unmet need, then they can work through the process of matching the subscription price to CAC.

Or better yet, as they build the application, think about simplifying it in order to reduce the complexity, speed up the sales cycle and reduce CAC. In other words, build-in a lower CAC from the start. (See "If it's hard to use, it's hard to sell.")

Tip of the hat to Justin Pirie and Nadim Hossain for their insights on this topic.




This work by Peter Cohen, SaaS Marketing Strategy Advisors is licensed under a Creative Commons Attribution 3.0 Unported License. Images obtained via iCLIPART.com.

When lead generation is a bad thing

Most marketers are fixated on generating leads. It's not uncommon, in fact, that their compensation is related to how many leads they bring in.

This fixation on leads is particularly true for us software-as-a-service (SaaS) marketers. Cost-efficiency and a high return on marketing expenses are critical to a successful SaaS business model. (See "Ten Essentials of SaaS Solution Marketing.")

But generating leads isn't always a good thing. You can get too much of a good thing. Here's how:

Unqualified leads

Leads that consist of people that are unqualified - that is, they have no real need for your service - aren't worthwhile leads. The fact is these leads don't make you money; they cost you money.

Think about it. You're spending money on SEO, pay-per-click, PR, webinars, or other marketing programs that bring people to your door. But if those people have no need for your service and no compelling reason to purchase anything, the money you spent to attract them has been wasted.

That's not to say that 100% of leads should convert into actual buyers. But most leads should at least be potential buyers.

One clear sign that you're generating unqualified leads is a low ratio of qualified opportunities-to-leads. It indicates that few leads convert into real opportunities and eventually paying customers.

Here's a second sign. In an organization that sells through a sales force, you'll hear about "worthless leads" loud and clear from the sales people. You won't even need to check the ratios!

Leads that get stuck in the pipeline

If you've spent all your money and effort bringing leads in the door, much of it will be wasted if there's no process in place to nurture those leads into opportunities and paying customers. Those leads get stuck in the pipeline.

To get them "unstuck" requires building a system that moves prospects through the complete acquisition process - from initial interest to lead to qualified opportunity to purchase to renewal. Generating leads is only the first step.

Again, tracking the leads-to-opportunities-to-paying customers ratios is one way to identify a pipeline problem.

Remember: Generating leads isn't the goal; paying customers is the goal.




This work by Peter Cohen, SaaS Marketing Strategy Advisors is licensed under a Creative Commons Attribution 3.0 Unported License.

SaaS acquisitions: It's about money and genes

Another week, another software-as-a-service (SaaS) acquisition.

To be more accurate, it's really "another week, another four SaaS acquisitions." Software Equity Group reports that in the first quarter of 2012, 64 SaaS companies were acquired.

Among the more prominent purchases, Oracle bought Vitrue, following its acquisitions of Taleo and RightNow.

Keeping pace, SAP purchased Ariba for $4.3 billion, while it's still digesting its earlier multi-billion acquisition of SuccessFactors.

Besides the usual suspects - CRM and talent management solutions - the purchased companies offer anything from cloud-based education and engineering solutions to security and web analytics.

What are they buying?

When they purchase SaaS companies, part of what the buyer gets is a revenue stream. Better yet, it's a consistent revenue stream, driven by subscriptions. It's one of the more attractive features of the SaaS business model.

Buying DNA

In addition to the revenue stream, though, the acquiring companies are getting an infusion of SaaS experience and knowledge. They're buying a different perspective on how to run a software company. They're getting the benefit of people who understand how the SaaS business differs from the on-premise model... people with "SaaS genes."

This SaaS DNA applies across every function of the business:

Development: People with SaaS genes know how to run a product development group that delivers frequent enhancements to the solution. They understand the need for a solution that's easy to learn and easy to use.

Operations: People with SaaS genes know how to run an operation that ensures that the solution is secure and reliable, capable of supporting many users with heavy usage at peak hours.

Customer support: They know that customer support goes beyond providing help; It's critical to renewals, upsets and retention. (See "Customer Support is Actually Marketing")

Marketing: These people in the acquired company understand the unique challenges of marketing a SaaS solution - the faster pace, the different target markets and messages, and the need for ultra-efficiency. (See "SaaS Marketing Essentials")

Finance and Legal: People with SaaS genes understand the particular financial and legal requirements of the SaaS model. (See "Getting Deals Unstuck from Legal and Procurement.")

As traditional on-premise software application providers move toward offering a SaaS solution, they will need an infusion of these SaaS genes. They will need to quickly absorb the notion that SaaS requires a new approach across the entire business, and they need people who know how to think and act like SaaS people.





This work by Peter Cohen, SaaS Marketing Strategy Advisors is licensed under a Creative Commons Attribution 3.0 Unported License.

Don't waste marketing money: all thought, no action

I pulled up behind a step van at a stop light and read on the back door, "Need a spark? Call Mark. Mark Olsen, Electrician"

OK, it's not Shakespeare. It's not even Ogden Nash, but kinda catchy. I thought it could work for other tradesmen too. "Sprung a leak? Call Dominique." "Need concrete? Call on Pete."

(OK, it was a long light.)

The silly tagline did part of its job. It got me to think.

What it didn't do is get me to act.

Why not?

There was no phone number. No 1-800-SPARK-ME, no 1-800-POWER-UP, no nothing.

Here I've been invited to "call Mark," but haven't been given an easy way to actually do that. He got me to think, but not do. Mark the Electrician never closed the circuit. (Sorry.)

SaaS marketers can't afford to waste time and money

SaaS marketers sometimes make the same mistake - not closing the circuit, not connecting thinking to doing. And for SaaS companies, where maximizing the impact of every marketing and sales effort is critical, this kind of mistake wastes precious time and money.

We pay good money to reach the right prospects - execute a search engine marketing program, run an email campaign, host a webinar.

We successfully capture the attention of a prospective user, present a compelling value proposition, invite them to contact us.

Missing the next step

But then after all the up-front work and expense, we miss the next step.

We don't offer a clear path for the prospect to do something: call us, sign up for a free trial, download a paper, subscribe to our newsletter, whatever.

That's money wasted, prospects squandered, revenues lost.

The problem often comes from forgetting about the overall goal of the customer acquisition process, namely to acquire customers. (See "SaaS marketing, baseball and the batting order.")

Instead we fixate on a single portion of the process: build a beautiful website, host an inspiring webinar, deliver a clever tagline.

But that's just part of the process. They get prospects to think.

Now we need to make it easy for them to act.





This work by Peter Cohen, SaaS Marketing Strategy Advisors is licensed under a Creative Commons Attribution 3.0 Unported License.

SaaS profits: who cares

There's a story about accounting that wouldn't really pass as funny - even by accountants' standards- but it is instructive.

A CEO was interviewing two candidates for an accounting position. He provided each with the company's most recent financial data and asked each of them: "What would you report for our company's profit?"

The first candidate pored over the numbers, pencil and calculator at hand, carefully constructing an accurate income statement. After that protracted exercise, he dutifully walked the CEO through his arithmetic, subtracting expenses from revenues. The remainder, he proclaimed, would be the company's reported profit.

The second candidate kept his pencil and calculator in his briefcase and, in fact, never even glanced at the numbers. He looked at the CEO and said, "The company's profit is whatever you want it to be."

So much for the unassailable truth of whatever is reported as "profit." Calculating it and interpreting it can be much more elusive than the cold, hard numbers would suggest.

"Profit" isn't especially meaningful, in particular for SaaS companies

Interpreting "profit" is even more elusive when assessing software-as-a-service (SaaS) companies. The problem is timing. Profit is calculated by subtracting costs incurred during a given period from revenues generated during that same period.

For most SaaS companies, though, they incur expenses in the current period, but the revenues are realized over many periods in the future. Costs now yield revenues... but not until later. (See "SaaS market consolidation: Blame Wimpy.")

The largest of those costs tend to be for customer acquisition. Sales and marketing expenses in a given period can often exceed 50% of revenues during the same period. Adding in support, operations, development, general & administrative costs, and other expenses, there's not a lot left for profit. In fact, a reported loss is far more common.

If not "profit," what really matters?

So if profit isn't a useful measure of success for SaaS companies, what is?

Metrics like "cost of customer acquisition/customer lifetime revenues"(CAC/CLV) can give a much better picture of a SaaS company's performance. For every dollar that the company invests in sales and marketing, how many dollars in revenue are earned? And how long does it take to earn them? (See Joel York's "SaaS Metrics Guide for SaaS Financial Performance" or David Skok's "SaaS Metrics" for additional metrics appropriate for evaluating SaaS companies.)

To amend the story about the CEO and the accountants, the best answer to the question "What would you report for our company's profit" wouldn't be "revenues less costs," or even "whatever you want it to be."

For a SaaS company, the best answer might be, "Who cares?"




This work by Peter Cohen, SaaS Marketing Strategy Advisors is licensed under a Creative Commons Attribution 3.0 Unported License.

SaaS acquisitions can be tricky

Having lived through several acquisitions during my career in technology companies, I have some idea of what the folks at SuccessFactors (acquired by SAP last year) and Taleo (acquired by Oracle a few weeks ago) are going through. Some of these combinations go well, others not so well.

One reason behind the acquisitions of software-as-a-service (SaaS) companies is the high cost of sales and marketing. In essence, it helps to be bigger and richer.

Under the SaaS business model, companies pay for sales and marketing now, but don't collect revenues until later. I call it the Wimpy effect, after the cartoon character who promises "I'll gladly pay you on Tuesday for a hamburger today. (See "SaaS market consolidation. Blame Wimpy.")

Early in its life, for example, SuccessFactors actually spent more for sales and marketing than its entire annual revenues. Even well-established SaaS companies typically pay 40 percent or more of their annual revenue on customer acquisition.

The need to make that kind of large investment over a long period favors companies with deep pockets (as well as strong stomachs.) Hence the advantages of being acquired by a much larger, richer company.

The unique challenge of marketing both SaaS and on-premise solutions

From what I've seen, all tech company mergers and acquisitions run into speed bumps of one kind or another - departure of key people, cultural clashes, loss of focus, and other glitches.

When established companies buy SaaS companies, it's even trickier. They need to figure out how to sell and market the newly acquired SaaS solution alongside the existing on-premise solution.

It is possible for one company to sell both on-premise and SaaS solutions simultaneously. Lots of companies do it, and in many cases it makes good business sense.

For one thing, keeping two horses in the race means there's no need make an abrupt switch from on-premise to SaaS. That kind of switch can be painful. Some brave companies like Concur have done it, even as a public company, and they have come through it successfully, but I don't imagine it was easy.

Second, companies often prefer to sell both on-premise and SaaS in order to offer their customers a choice. "Choice" is so much more attractive to customers than "my way or the highway."

But offering customers a choice doesn't come without a price for the solution provider.

In some ways, offering two different solutions - an on-premise solution and a SaaS solution - means running two different companies.

The differences span the entire business: finance, operations, support, development, sales and, of course, marketing. (See "The Ten Essentials of Software-as-a-Service Solutions Marketing.")

Different audiences, messages, & processes

For SaaS marketers, we may be talking to different audiences. For example, while we may not have paid much attention to existing customers for on-premise solutions, those folks and their continued renewals are vital to our SaaS business.

The messages we deliver about the SaaS solution may differ as well. Unlike an on-premise solution, we're not just talking about the features that are delivered at the time you buy; we're talking about the on-going stream of functionality that the customer will get over the life of the subscription. And we're talking about the entire experience - reliability, security, deployment, upgrades, etc. - not just product functions.

Even the marketing processes for SaaS solutions may be different. We may be delivering enhancements more often, which means we'll need a way to keep our marketing material up to date. And we'll need to be super-efficient. Not that we can spend carelessly to market on-premise apps, but we need to be especially careful to get our money's worth when we market SaaS solutions.

I'm sure we'll see lots more acquisitions of SaaS companies, and there's lots of speculation about which companies will be bought next. Just as interesting is what will happen after they're bought.





This work by Peter Cohen, SaaS Marketing Strategy Advisors is licensed under a Creative Commons Attribution 3.0 Unported License.