As we describe in our best-selling book, Modern Monopolies, software alone is a commodity. Where once it was eating the world, it’s now something one can buy from the shelf.
Eventually, there’s nothing to stop a competitor from coming in and building software better or cheaper. Features are extremely easy to copy, meaning software simply isn’t a sustainable competitive advantage anymore.
Pure SaaS companies are especially pressured by the threat of commoditization as they often have longer payback cycles on their customer acquisition costs. New, cheaper competitors will always spring up to undercut their LTV and leave the company’s balance sheet in bad shape.
Ultimately, in every industry, SaaS companies face this existential threat and need to find a source of sustainable competitive advantage.
Ultimately, the software isn’t what matters; it’s the network that accompanies it. Networks are much harder to duplicate than features and they provide SaaS companies with a durable, defensible advantage.
The best way to build a sustainable software business is to build a network.
The best network opportunity for any SaaS company is to build a development platform around its core software product.
A good example of this kind of opportunity is a development platform like Salesforce’s Force.com.
In the early 2000s, Salesforce practically created the SaaS category with its CRM software, which undercut oldschool, on-premise solutions from companies like Oracle.
Yet, over time, Salesforce’s larger competitors started to create SaaS offerings, and Salesforce needed to continue to differentiate itself. What was its answer? Build a development platform and a resultant network.
Salesforce created its Force.com development platform and AppExchange app store, which launched in 2006. The company heavily invested in creating a third-party software ecosystem around its core applications.
Today, its app store has millions of app downloads and is an important part of Salesforce’s value proposition (and their revenue stream).
Other cloud software industries have evolved in a similar manner, such as cloud data storage and so-called infrastructure-as-a-service (IaaS) companies. Both Google App Engine and Amazon Web Services have robust development platforms with thousands of available apps and integrations, most of which were built by third party developers.
Successful startups in other SaaS industries, like Slack, have also started to move toward building development platforms. Everyone who uses Slack loves it because of the nigh countless integrations, apps, and bots that can be added.
What all of these companies realized is that the best way to build a sustainable software business is to build a network of users. For most SaaS companies, the most straightforward and effective route to dominating their category is by building and scaling a development platform.
In the same way that development platforms like iOS and Android dominate mobile, companies like Salesforce and Slack dominate workplace productivity.
As each SaaS industry opportunity matures, it will have one or two dominant development platform players with thousands of third-party developers, making the ecosystem entirely customizable and providing it with a sustainable edge on its competitors.
Whether it’s HR, recruiting, enterprise resource planning, e-commerce, or any other business function that can be fulfilled by a SaaS, there is an opportunity for a platform to dominate that vertical and potentially leak into others and capture market share.
Other SaaS companies will be left behind and watch their margins shrink as the development platforms capture more and more of the market at the top and low-cost competitors undercut them from below.