or how do you know when you have an incredible product?
The next few editions of Verticalized will be more theory then practice. And the reason is pretty simple: Software is ubiquitous. So how do you know whether any particular software product is worth investing time, energy, and resources into? Assuming you believe in a more Verticalized world, how do we measure or design the impact of software? Of course there are economic considerations. How big a product will get will certainly depend in part on the market it is tackling. What I am really after is a framework for determining value creation for an industry not on the product’s terminal value (although of course this is hugely important). What we need is a framework to discuss why a particular vSaaS product will win its market. Today we turn to baseball motifs to point us in the right direction.
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Workflows run the world. After all, there are all types of tasks that need to be performed to create successful businesses. And to accomplish these, we rely on workflows to ensure repeatability, reduce errors, and create operational efficiency.
Horizontal SaaS (hSaaS) revolutionized businesses by finding the common denominators across multiple industries and developing software to solve these general workflows. This was a massive unlock.
A piece of software could reliably help you and your team work out of the same database with the exact same processes. In turn, SaaS conquered the world. Workflows became far more efficient, automated, and quantifiable.
One other big thing happened: as workflows went online, so did the data. Now, data previously siloed in spreadsheets was online and ready to be utilized.
So when founders looked to create a business, they often looked for workflows that characterized all industries to solve. This approach made sense for two key reasons:
Plenty of infrastructure required to build SaaS products had to be developed in house and this compounded the complexity of development, the potential of solutions, and the appetite for targeting niche workflows.
It wasn’t really understood how big the SaaS market could be and thus targeting all businesses rather than a select vertical made far more sense.
It made sense to focus on cross-vertical workflows and capture these in a highly generalized software solution to mitigate both the cost and pain of development and to go after the largest possible group of companies that might be willing to try a SaaS product.
Over 20 years later, it is now possible to see both the success of the software movement and its shortcomings.
The problem of course is that mapping a specific business’s processes and workflows to these generalized horizontal solutions can be quite difficult. Every new hSaaS product has to birth an army of consultants who go into businesses and map these generalized workflows to business needs.
This is mostly fine if you generate tens of millions of dollars and can afford the consultants. It is far less fine if you are a small business owner most likely responsible for doing the implementation yourself.
But, not only is implementation usually quite painful given how generalized these software products are, they usually don’t play quite well with each other. Routing data from one workflow product to another requires a lot of effort. Again if you are a mid-sized enterprise, this too can be solved, but if you are a small business? Good luck.
In contrast to the first approach, quite a bit has changed. But for direct comparison:
Infrastructure businesses have sprouted up, offering startups the opportunity to mature faster, create businesses around problems that previously didn’t get attention because of the complexity in development.
SaaS markets appear quite a bit bigger and there are plenty of verticals and workflows that have not yet found the optimal solution.
This is where the bet on vSaaS stems from. It is now possible to build verticalized software businesses with infrastructure advances and these markets are large enough to support billion dollar companies.And because this infrastructure has made building more expansive software products easier, vSaaS businesses can spend the time to create products that serve many workflows in a way that is uniquely tailored for an industry. No armies of consultants needed.
Importantly, while this gives us a reason to believe that implementing vertical SaaS may be less painful than implementing many hSaaS products, it still doesn’t quite give us a reason why any particular vSaaS product will create more enterprise value. It just demonstrates the inadequacies of the current solutions. If I am unsatisfied with my inability to cook a nutritious and delicious dinner from disparate ingredients, ordering a cheap but ready made Happy Meal from the Golden Arches is a poor alternative.
We will not judge vSaaS off the shortcoming of hSaaS. The real question for us: If I am a business, does a vSaaS product with many workflows and processes create more enterprise value than disparate hSaaS solutions? If the answer is yes, I will implement the vSaaS product and rip out my previous solutions.
So how should we determine what value here looks like? My preferred route is a detour into baseball metrics.
The Sabermetrics Revolution
If you are somewhat familiar with Moneyball, you may recall Brad Pitt (okay Billy Beane) and the Oakland A’s revolutionized baseball with a new method to determine players that were undervalued relative to the rest of the market.
At the time, players were mostly valued according to their ability to generate first-order effects - things that were directly observable. Scouts mostly evaluated questions like: Does this player hit homeruns? How many hits can I roughly expect per game?
And while the rest of the baseball universe chased after players that could hit lots of dingers, The A’s began to focus on players that generated second-order effects. They evaluated players on combinations of metrics and asked questions like: Does this player have a better chance at getting on base (not just because of hits) relative to his peers? If I adjust for the caliber of pitching in any given year and the ballpark my star plays in, how many runs does he actually create per game relative to the rest of the league?
And thus the Dark Sabermetric Arts were created. Suddenly, the guy who had a tendency to get on base even it was through walks started to look hugely undervalued even if he never really hit home runs.
What’s important is that the questions the A’s and other teams since then ask aren’t directly attributable to one observation. Practitioners of the dark sabermetrics magic care about how multiple observations can be combined to render a more complete picture of a player’s output. It’s only when these observations are combined that hidden truths become apparent.
When these hidden truths become exposed, we can start to determine a player’s true value. In baseball, WAR, wins above replacement, captures this most closely.WAR gives us a way to gauge a player’s impact on wins. When WAR is high, a player cannot be easily replaced without a detrimental impact on wins. When WAR is low, a player can be easily replaced.
In software, pre-sabermetrics baseball looks a lot like hSaaS. hSaaS products are really good at pinpointing these first-order effects. Questions like: How many customers do I have? How much money did I make? Which ads got the most eyeballs?
Post-sabermetrics baseball looks a lot more like vSaaS. vSaaS products can focus far more on these hidden truths by capturing more workflows. Questions like: If I send an email advertising a special, how much additional staff do I need to optimize both guest satisfaction and total profits for the weekend?
In the same way, baseball has WAR (wins above replacement), we can distill vertical software value into VAHR: value above horizontal replacement. When VAHR is high, total enterprise value is far higher than the replacement solution (multiple hSaaS products).
To be specific, there are two indicators that VAHR is high.
The ability to generate second-order insights
The ability to render a business legible.
A thought experiment:
Imagine you own a valet company.Your essential workflow is a) schedule valets, b) have these valets park and return cars, and c) pay out insurance whenever an accident occurs. To facilitate scheduling, you utilize a horizontal scheduling and timekeeping tool. To accept payments, you use Square. Both of these are serviceable for their first order functions: schedule valets and accept payments. But they are in important respects limited to these first order functions.
For instance, you can’t really assess how many cars your valets are parking using these tools or even more granular data around peak rush hours. Nor do you have access to other workflows that may enhance the guest experience.
A guest can’t readily indicate that they want their car to be pulled up without going out to the stand themselves.And as a valet company seeking to maximize profits, you need other types of insights not directly by your current software vendors. For instance: do I pay out more claims at certain locations or on certain days? Who are VIP customers who tend to tip my valets at a higher percentage?
A truly great valet software product will be primarily focused on generating these second order insights. In the process, it will integrate as many workflows as possible and ensure running the business is entirely seamless. It would not only have scheduling functionality and payments capabilities but capture other workflows to generate higher ROI on services. VIP programs could be implemented to drive familiarity with guests at multiple locations serviced by one valet company. Scheduling could be more liquid to forecast trends around surges.
You could spend time developing integrations with event management and restaurant SaaS companies to better understand expected guests for a night as well as at what times they tend to happen around. A guest would be able to call for their car prior to arriving outdoors. And perhaps most importantly, a vSaaS company could embed insurance within the platform to create a better experience for both customers and valet owners. The value will be so obvious as to almost go unquestioned. This is how you will create a category-defining product.
Second Order Insights
Every single industry has hidden truths. And these hidden truths often hold the key for generating great businesses. An outstanding company will focus relentlessly on surfacing these hidden truths, optimizing every workflow to generate the maximum amount of second order insights, and in the process unlocking massive enterprise value for all companies they serve.
By integrating multiple workflows into one product, the value of using disparate horizontal SaaS solutions dissipates. Rather than simply solving first order problems, a tailored solution is able to offer second-order insights.
And this drives our final criteria for determining whether a product has high VAHR: Could an idiot successfully run the business using our vSaaS product?
Warren Buffett famously said:
“I try to invest in businesses that are so wonderful that an idiot can run them. Because sooner or later, one will.”
See, one of the most useful things a great vertical SaaS product will do is render all parts of a business legible. Anyone can poke around the OS and understand exactly how the parts fit together. In short, a high VAHR product will render businesses legible enough for even an idiot to understand.
Over the next decade, we will enter the great Generational Handoff. Business owners in stodgy industries will begin to retire and seek to sell their life’s work. A major problem is that the processes and insights that led to a healthy business are often not fully legible. This in turn depresses the value that transfers across ownership and correspondingly, the price at which a business will be sold. If information about how to run the business retires with the owner, value is destroyed.
Great vSaaS products will fix this problem. By unlocking central workflows, unleashing second order insights, and rendering businesses more fully legible, the next generation of entrepreneurs can acquire small businesses and carry their services into another era. For we should hope that idiots don’t run the next generation of businesses, but we should certainly make products that render businesses mostly idiot-proof.
Next time, we take a look at the kinds of workflows that haven’t come online yet, and how that informs vSaaS go-to-market strategy. It should be a blast.
Even in 2014 when SaaS was far better understood than the early 2000s, the IDC was predicting that in 2018, SaaS applications would generate about $50B in revenue. That year, upwards of $72B was generated.
And the proof is now in the pudding with Procore and Toast flourishing.
Impact on wins is really the only value that matters for a team that is serious. I guess if you are an unserious team, you could focus on JSGAR (jersey sales generated above replacement).
I am picking this in part because as a valet throughout college, I was always struck by how lacking the total experience was for guests and for valets. Even point solutions for valet companies don’t have a grand enough vision for building a completely vertical product.
The easiest way to lose tips is to make guests wait for cars. This hurts the business bottom line correspondingly.