M&A in a SaaS world

People often casually talk about mergers and acquisitions in the SaaS space. Some say this space is "ripe" for M&A. There is already enough statistical evidence that M&A has more chances of failure than success. SaaS company acquirers should take this data point even more seriously.

There may be several reasons to acquire a company in the SaaS space e.g. to buy your way into a market, buy innovation through acquisitions etc. But the most critical part is the post-acquisition integration. Since SaaS is still an evolving space there are no clear SaaS platform leaders. In fact there are hardly any SaaS platforms in the market.

Without a standardization or maturity in the SaaS platform market, every SaaS vendor has a purpose built platform for their product. This applies to any company out there including Salesforce.com, SuccessFactors, NetSuite, Concur etc. Imagine integrating the platforms of these companies if they were to merge. It is a non-trivial problem and should be a huge consideration for the acquirer for one simple reason - margins.

The margins for a SaaS company is very heavily dependent on how scalable their SaaS platform is. By scalability I don't mean only technical scalability. It is also the cost of scaling. If the cost of scaling is high then the business is not scalable. I can easily imagine a cost-of-scaling metric that will eventually be used to value a SaaS business just as customer acquistion cost and customer churn numbers are key metrics used to measure a business like Netflix.

Integration becomes a challenge with highly custom platforms and without integration the benefits of economies of scale become a dream. I don't think there is a realization of this fact in the industry. So I think major M&A activity in the SaaS space is nowhere near. And the ones that do get acquired by bigger players like PayCycle by Intuit, will forever remain independent operations without ever achieving the benefits of economies of scale.

Future of cloud computing and SaaS

Cloud computing is the next BIG thing with all the major platform players aggressively going for the land grab. Each player has a different approach and are trying to provide their offering at different levels - from raw computing and storage to application fabrics and SaaS platforms. Amazon, Google, Microsoft, Salesforce.com, IBM are some key players betting big on this trend.

There is a lot of confusion and debate about which platform will prevail and what is the best approach on cloud computing. My take is that it is going to follow the path that the internet economy has taken. Broadly 3 layers are likely to emerge. These layers of clouds with current day analogies are mentioned below:

• Infrastructure clouds - Provide raw infrastructure. Current day Amazon EC2 similar to an older day Savvis. There could be any number of providers in this category primarily differentiating on cost.

• Development framework clouds - Provides application development framework. Current day Microsoft Azure similar to an older day Windows + .Net combination. Infrastructure cloud will be included and could be outsourced to a strategic partner. There will be a less than 5 cloud providers this category with limited portability amongst each other.

• Application clouds - Provides higher level abstraction to build applications. Current day Salesforce.com similar to an older day SAP. There could be any number of providers here. But the likely scenario would be a 2 tier system where large application companies like SAP and Oracle have their own cloud and other smaller application vendors sharing clouds or are part of other eco-systems. The platform with a better eco-system will emerge as an eventual leader - similar to Google in search-ads and eBay in auctions. The ability to reach a wide number of target users or customers will eventually be the key driver for application cloud adoption rather than ability to build applications. The ability to build applications will eventually be similar on most major platforms.

Another trend likely to emerge is the creation of special purpose clouds. This would be similar to special purpose social networking sites or radio channels. There will be aspects around data security, workflow, availability, SLAs and eco-system that will be better suited for market segments like legal, government, finance, insurance etc. These will be built as value-added-clouds using the infratructure and application clouds.

Microsoft's strategy for search and cloud

This piece was triggered by a couple of The Motley Fool articles regarding Microsoft's plans on Cloud Computing, SaaS and search. This is one of my favourite websites but I was disappointed with the lack of depth in these articles and the superficial content.
http://www.fool.com/investing/value/2008/12/30/an-open-letter-to-steve-ballmer.aspx
http://www.fool.com/investing/value/2008/12/29/microsoft-just-doesnt-get-it.aspx

I think the Motley Fool should sharpen their research on the longer term strategy with Microsoft Azure. Microsoft is going to win in the cloud computing race as being one of the leading cloud computing platforms. I don't think anyone will have the dominance that Windows has in the PC market. Microsoft is going to make it possible for the existing developer community to develop, deploy and maintain cloud applications with little or no retraining.

Standards would emerge forcing the cloud computing players to provide portability across platforms. Today all the providers have emerging platforms with Amazon being the leader in the services offered. But providing utility services is not the only goal that these platform players are looking at. There is the utility/infrastructure services and then there is the Service Delivery Platform services. These two capabilities combined is a tremendous value to application developers and customers of the platforms.

On search, I don't think search quality is the issue with Microsoft search anymore. The lead Google has in the search space is due to the eco-system and network effect its search has. Indexing more web pages better and providing minor improvements to the search results is not going to be a game changer. Microsoft will have to build the network effect and that is the toughest challenge to overcome in the viral web marketing environment

The next big innovation in SaaS

One of the biggest technology innovations in the coming years is going to be how to protect information regardless of where it resides. Software as a Service (SaaS) has come a long way and technology advances have made the complete SaaS eco-system viable. Some key elements that have transformed this space:

• The access points: Multiple access points providing information anytime anywhere.
• The network: The spread of broadband and wireless internet access at affordable prices headed in the favorable direction.
• The backend infrastructure: This is a complex domain and the success depends on building an infrastructure that can scale infinitely. Companies like Amazon, Google, Microsoft and T-systems are on the forefront of the innovation here.

In all of the above, the innovators already know what it will take to serve the next generation and have set things in motion.

Perhaps, the most important innovations in this area have yet to come. Today companies and individuals alike are paranoid about keeping their data in the cloud. Three big factors that will determine success in this area:

• Trust: There are various trust issues related to data storage, processing and access. Providing flexibility and access to information while protecting the information is a non-trivial challenge that needs to be solved. The solution needs to be end-to-end. It is not enough to protect the data stored on the server.
• Education: Today, it is too complex to understand how data gets protected at various levels.
• Simplicity: The key to mass adoption is to make it simple – simple to understand and simple to use.

There is a lot of ground to be covered in this area. If there are innovations in this area that can win trust and are simple to understand and use, we will look back and call them the ones that put SaaS adoption on the fast track.