Startups have a high failure rate. According to a Startup Genome report, 90% of startups end up failing. Starting a business is never easy. However, for startups, the risks can be significantly higher. Product and market risks can play a huge role in defining the success of a business.
For startups, the financial risk could tip the balance. Funding a startup and financing its operations until it becomes profitable is no easy task.
Some sectors receive more support from angel investors or more interest from the market. But, regardless of your access to funds, you need to create a robust budget that can drive growth safely. That budget plan has to include essential steps to ensure financial health. And anticipating expenses can be the most challenging part of a realistic startup budget.
In this article, we'll examine some common, but often unexpected, SaaS expenses.
More on SaaS finance:
- SaaS management: how to easily track company subscriptions
- SaaS finance for CFOs: best practices (via CFO Connect)
- Key SaaS metrics for finance leaders (via CFO Connect)
SaaS expenses and unexpected costs
For SaaS finance teams, budgeting plays a significant role. The SaaS sales cycle takes on average up to 90 days, during which sales and marketing teams need to attract and nurture leads. The process is not cost-effective.
And when a lead converts, the immediate profit is only a monthly SaaS product fee. In other words, it can take several months for a SaaS startup to recover from the cost of customer acquisition - also known as the "payback period."
Additionally, SaaS startups will need to face the costs of launching a safe tech company from scratch. Acquisition is only one of the many costs you need to consider when managing finance for SaaS startups.
So how do you stop a software as a service startup from failing? You expect unexpected costs. Here are some good examples.
1. Licensing and legal fees
Customers using a SaaS product enter into an agreement with the startup to be allowed to use a tech tool that is fully hosted and managed by the SaaS company. As customers don't need to physically own the product or any license for it, it falls onto the business to cross the Ts and dot the Is of their legal responsibilities.
SaaS agreements between the provider and the customer are often uniquely suited to the software products offered. For safety and compliance purposes, SaaS businesses can benefit from receiving professional legal advice.
The cost of a DIY agreement and licensing strategy could be appealing, but the consequences can be devastating. Some jurisdictions impose national and international sales tax on SaaS, for example. Failure to understand the taxation system could put the SaaS company at risk.
Depending on the audience, agreements also need to consider specifications and business standards for B2B clients. In a B2B context, the purchaser may not be the end-user of the service, in which case, the SaaS company also needs an end-user license agreement. This is especially important if the end-users are not employees of the B2B client.
SaaS technology uses data online. Legally, the company is responsible for clarifying privacy and protection issues; well-drafted and legally verified consent forms are a great way of achieving this. It is especially important for international products, with issues like GDPR in the EU.
It’s also in the nature of SaaS businesses to use payment information as part of the subscription payment models. The contract needs to explicitly state how the information is used and how refunds and cancellations affect payments.
Last but not least, it’s never a good idea to start a new business without sufficient legal advice. The SaaS business model is unique, even for experienced entrepreneurs. As a cloud technology service, the contract has to mention service outages. These are bound to happen as part of maintenance services of tech issues. But poorly worded agreements could turn them into a breach of contract.
Although licensing and legal fees may not be the first thing SaaS founders consider when creating a budget, they are essential when it comes to setting up the business in the correct way and preventing any legal troubles in the future. It is important for finance teams to consider the cost of legal fees and highlight the importance of them to founders.
It's not the job of a finance professional to understand the intricacies of licensing and law for startups, but it is important for them to manage the expenses. Reaching out to a business lawyer with SaaS knowledge can help to establish a fixed and reliable legal budget.
2. Operational expenses and technology
SaaS startups rely on complex business processes that need to be automated and managed effectively to run day-to-day activities. The sales cycle, for instance, relies on both sales and marketing strategies, so tools such as CRM, marketing automation, and email services are integral to SaaS growth.
Additionally, the SaaS model relies on accounting automation for each customer, ensuring payments are collected on time with the right data, and process automation to streamline the lead generation process. Other automation solutions can also be relevant to the business in general, such as HR processes and data collection.
As a startup, it can be tempting to be optimistic and choose the most expensive plan the application has to offer. However, more features could become distracting at a startup level, wasting time and money for the business. Technology decisions should align with the growth strategy and growth pace.
Additionally, to avoid redundant expenses and unnecessary tech bills, startups need to keep track of all the tools they have running. This ensures every team has full knowledge of what's already available in the company and can reduce many bad budgeting surprises.
In order to reduce the risk of overspending on operational and technology expenses, the finance team or CFO must be kept in the loop.
A good spreadsheet is obviously a start, and may be enough to track all the tools your startup is running. As you grow and the monitoring needs become more complex, spend management software is your best bet. This tracks all payments and highlights duplicates or unnecessary software.
In general, good business budgeting reduces the risk of going over budget, and makes it easy to see if costs are increasing. So finance teams can analyze costs and advise how they can be reduced.
3. Marketing costs
As a cloud-based business model, SaaS startups rely heavily on marketing and advertising for brand awareness. Although marketing is an aspect many startups budget for, it encompasses many aspects which may not have initially been considered. The finance team should establish a strict process to measure the value of each marketing activity.
It's important to recognise that not all marketing activities may be relevant when the company is young. And well-known marketing expenses such as PR and advertising might not be the best options for SaaS startups. More niche strategies such as SEO and PPC may prove more beneficial.
Many customers are searching for software online, and reducing churn rate of web visitors is essential. Therefore, building an SEO-optimized website that can easily be found is incredibly important for a product-driven business.
Additionally, display advertising is a popular strategy for brand awareness. But with hefty competition, it’s best to rely on valuable partnerships rather than expensive display networks. Similarly, a social media presence is also essential to your SaaS business. Social media activities require time, but you can repurpose existing content and materials for organic followers.
It becomes essential to establish a collaborative environment between the marketing and the finance team to build a budget that will support SaaS growth without breaking the bank. It's important for finance teams to be aware of marketing costs and metrics such as cost per acquisition and return on investment.
Although more granular marketing aspects are marketers concern, startups are often small and require a greater amount of collaboration between teams. Therefore finance teams need to be aware of where money is being spent to ensure it's not being wasted, and the business overall is not going over budget.
The finance team plays a crucial role in the survival of any SaaS startup. Startups are prone to failure due to financial problems, which can be aggravated by the SaaS model.
Consequently, the finance team must be part of every business decision regarding legal, operational and marketing budgets. Their involvement can prevent unnecessary costs and keep the SaaS business focused on income-generating activities.
We saw three broad areas where unexpected SaaS expenses can easily arise. Stay on top of these, and find ways to keep your SaaS business growing efficiently.