If you want to create a successful software company, you have to pick a market. But which market is your best bet?
There are three large software markets:
- Small and medium business (SMB), and
Some companies manage to tackle multiple markets over time but most successful software start-ups begin life with one market in mind.
The Enterprise Market
In a typical “bigger is better” manner, the enterprise market is viewed as the most attractive. This makes sense: The unit economics are the strongest of any market because of high contract values and low churn rates (the rate at which customers cancel services or subscriptions). Plus, the value per customer affords aggressive expansion through direct sales teams and account managers.
Put simply: If you’re selling an enterprise solution to big businesses, you have fewer customers and charge significantly more than consumer products. Sales are usually assisted and the life cycle is a long one. Because no business wants to constantly change its software solutions on a whim, as long as your core product is strong, you’ll see little abandonment. It’s a well-oiled business model supported by venture capitalists.
For instance, enterprise data platform Splunk acquired 600 new customers in 2016 to finish the year with over $600 million in revenue across 11,000 customers. That’s over $50,000 in annual contract value per customer – a true testament to the profitability of enterprise customers.
The Consumer Market
At the other end of the spectrum, the consumer market is the largest. There are 150 million adults in the United States alone. Unlike the enterprise solution, the consumer business model is based on scale. Given the volume of users and the inherent fickleness of consumer trends, mass advertising is coupled with low contract values (or even free usage supported by advertising revenue). The playbook is no-to-low touch distribution.
For example, Netflix ended 2016 with nearly 48 million paid memberships in the US. The net increase of 1.4 million subscribers in the fourth quarter was the result of 1.9 million new subscribers and 0.5 million cancellations. Despite losing more than 150,000 customers every month due to cancellations, the Netflix stock price and market capitalization are higher than ever.
The SMB Market
The remaining market is SMB. It suffers the middle child syndrome in which the older sibling (enterprise) has higher value customers and the younger sibling (consumer) is allowed to break the rules and worry about revenue later. SMB is roughly one-third the size of the consumer market by user count. 55 million Americans are engaged in full-time or part-time independent work.
The challenge is that SMB is less homogenous than the consumer market, which makes it difficult to reach and serve the majority of customers with a single software product.
Luckily for SMB, that won’t always be the case. Now is the time to get ready for a new SMB software market that will experience more growth than enterprise or consumer. I believe there are three trends that will significantly raise the perception of the SMB market:
- Customer Expectations Will Push Many Enterprise and SMB Direct Sales Programs to Self-Serve Distribution
I’ve heard from several enterprise software purchasers that distribution is moving to self-serve. As much as a third of the software purchases by dollar amount are no longer executed through a salesperson and a paper contract. Consider Slack and Expensify.
Why is this the case? The most common reason is that professionals experience the benefits of simple and easy self-serve as a consumer and then expect the same option as a corporate buyer.
Software companies that have focused on the SMB market are positioned to excel in a self-serve environment.
- The SMB Software Market Will Be Re-Branded
“SMB” is becoming a name of the past. Think about the media coverage surrounding small businesses. Some call it the Freelancer’s Economy, the Self-Employed Market, or the Independent Workforce. The New Yorks Times renamed the Small Business section to the Entrepreneurship section. More and more professionals are seizing opportunities to leave traditional corporate jobs and work for themselves.
Whether it’s freelancing, starting an online shop, or building a local agency or consultancy, the benefits of self-employment are numerous: Setting your own hours, pursuing a passion, having flexibility for family time, and earning an uncapped income.
The renaissance around working for yourself will re-brand the market and this will shine a new light on the potential for software companies to focus on small businesses.
- Learning Machines Will Personalize Software Experiences Across Many Professions
The knock against SMB has been that the diversity within the market limits growth. For instance, you can’t provide the same solution to a restaurant owner, a digital marketer, and a carpenter. That won’t change.
However, with learning machines the software can personalize more deeply than ever before. Through intelligent onboarding, inputs such as profession, geography, and business maturity can help to personalize the user experience.
The Opportunity: You Can Still Be an Early Bird with SMBs
If you want to succeed in the software market, consider focusing on SMB. This market is right on the cusp of changes as our markets and products still grapple with the changing realities of the “new economy.”
While setting your sights on enterprise customers might be the more “established” path, mastery of the SMB market will provide the distribution expertise needed to succeed with self-serve and the data science required for learning machines.
Lastly, if you’re leaning toward consumer, think of the benefits your software can provide to other entrepreneurs. My hunch is the new SMB market will prove to be just as attractive as its siblings.
Matthew Baker is VP Strategic Planning at FreshBooks, a leader in cloud-based accounting software designed for self-employed professionals and small business owners. Follow him @mbakerson