Monday, November 17, 2014

SaaS (Good for new entrants, bad for incumbents)

Ok I might be getting back into some light blogging. Nothing major but sometimes Twitter is just too short to get your point across. Also, I've stopped caring about grammar, I routinely miss words and punctuation, this is a blog post, not the Economist so you get what you pay for.

Software as a Service (SaaS) is simply a model of delivering your service over the internet instead of physically building it. Its most notable feature is that customers no longer have to buy all of something at once and instead can rent based on their usage or a subscription. This is very appealing to companies as it is scalable and reduces fixed cost. Notable examples are IT products and software like Amazon Web Services and which have been hurting IBM who sells large scale on site solutions to customers. Anyways, I just keep seeing this effect in a number of businesses. For example, today I was looking at Rosetta Stone language software. First off, I have a decent opinion of Rosetta Stone, it seems like a good choice for those attempting to learn on their own. However, the SaaS model has let in a bunch of new entrants like Duolingo and Livemocha which are either free or very low cost. These new sites sometimes give free credits to users that correct other students who are learning their native language, which is a fairly smart idea to get free labour.

But anyways I feel Rosetta Stone has also historically benefited from a temporary euphoria effect where customers have high ambitions at the time of purchase, only to be reset by the difficulty of the task (think losing weight, opening a new business or stopping smoking). Learning a language is tough.

The purchase decision used to look like this.

1) Today's the day! I'm going to start learning a new language.
2) I'm going to go buy the software at the store.
3) Wow it's way cheaper buying all five levels at once. Since I'm committed to doing this, I'll buy in bulk and save hundreds instead of buying each level individually (I'm so smart!).
3) (A couple days or week in...) This is hard, I'm going to stop (but I'll come back later, I swear!).

My point is that first day, the customer's spirits are high and they over estimate their likelihood of completing all of the units. (If it were this easy to learn a language all of the US would be bilingual).

SaaS has forced Rosetta Stone to offer a cloud based SaaS option. There is now a dramatically different potential purchasing decision by the customer:

1) Wow 36 months is a long time and a big commitment, perhaps I'll just start out with a 3 months for $99 and go from there.

Also notice that the entry level package in the SaaS vs CD-ROM is almost half the cost. The reduced initial cost and availability of online competitors has really effected Rosetta Stone's profitability. Sales are basically unchanged since 2009 while operating income has collapsed. Below is the cash flow statement:

Anyway, I have no opinion on Rosetta Stone stock, perhaps management will figure out how to turn the company around. Microsoft Office 360 seems to be implementing this SaaS approach fairly well although this is a more entrenched product.  Rosetta Stone still has an extremely powerful brand name and the enterprise value is just $162m which seems low but if you can't find a way to make money long term than I guess its not too relevant. Best of luck to all those involved. 


Post a Comment

Note: Only a member of this blog may post a comment.