Today, the SaaS business is on the rise due to its cost-effectiveness and low barrier to entry. As such, more and more entrepreneurs strive to launch their new cloud startups.
Yet, in fact, very few SaaS startups evolve into successful SaaS companies. Statistics say that 92% of them shut down their operations in 3 years regardless of funding.
So, how do SaaS startups succeed or fail? In this article, I have collected key reasons for the biggest startup failures. Also, I will give advice on how to avoid typical mistakes and build a profitable SaaS venture.
Lack of market need
Surprisingly, one of the top reasons why most SaaS startups fail is a lack of market interest. CBI Insights reports that about 42% of cloud startups stop operations due to this cause. So, you must be certain that customers really need your offering.
The top 5 reasons why startup fails defined by this analytical company looks the following way:
To verify that there is a market for your SaaS startup’s product, it’s a good idea to launch a basic solution first. Building an MVP will save you from unnecessary waste of resources. Yet, you shouldn’t rely heavily on your early adopters at the same time.
Related reading: How to Create a Minimum Viable Product (MVP) - Step-by-step Guide
According to recent research, only 20% of the first customers still use a product in 2 years. So, while your product is scaling, you have to focus on a larger, mid-market audience.
You should know that bad timing can also cause an unforeseen decrease in market interest. Ironically, it was the reason why Rubica, a SaaS software company that provided highly demanded security tools for telecommuting, closed in 2020.
The thing is, its target customers were individuals and small businesses. Over the last year, these segments vastly cut their spending due to the COVID-19 crisis. As such, it was a disappointing reason why this promising SaaS startup failed.
That’s why you need to be careful with your market targeting too. There are special metrics you can rely on to assess your market size:
- Total Addressable Market (TAM);
- Serviceable Available Market (SAM);
- Serviceable Obtainable Market (SOM).
Importantly, you should target SOM to determine the number of potential customers. Otherwise, dissipating too broad, you risk becoming just another SaaS startup that failed.
Hence, an established product-market fit is a vital factor for your SaaS startup to thrive. Yet, even an urgent product idea can’t guarantee you to have a successful SaaS startup with the wrong customer targeting.
You may also like: How to Build a SaaS Startup in 10 Smart Steps
Running out of cash
Running out of cash is the second popular reason why most SaaS startups fail. Thus, a startup failure rate caused by this factor gains 29%. Usually, it means that entrepreneurs were wrong to define the needed cash flow while cloud startup growing.
Not to get into this unlucky list of SaaS startups, you should plan cash flow in stages. In particular, forecast the needed funds for such crucial milestones, as:
- Progress from Seed round valuation.
- Product’s beta testing, customer validation.
- Selling to early adopters.
- Adjusting product-market fit problems.
- The business model is approved and has a profit.
- Need for additional investment for further custom software development.
Likewise, I advise you to bear in mind the following points to avert a SaaS startup failure :
- Don’t underestimate a churn rate;
- Plan extra funds for your product improvement;
- Don’t overestimate your future revenue.
Following this advice will help you avoid running out of funds until your SaaS startup reaches the next step of growth.
You may also like: How to Calculate the Cost to Build a SaaS App in 2021
LucidEra is a famous example of a SaaS business that couldn’t turn this process well and closed for this reason.
It was a successful SaaS startup that provided business intelligence visibility solutions. In 2007 LucidEra raised its funding of $15.6 million. Accordingly, its business plan was built on the favorable conditions associated with the economic rise of that period.
However, the projections turned out to be wrong. Thus, this cloud startup wasn’t able to raise the money that could let it finance its next round. As a result, this SaaS startup failed simply because it ran out of cash.
So, given what percent of startups fail due to this factor, you should plan carefully your cash flow volume. As just important, you should avoid unreasonable spending during your SaaS startup scaling.
Further reading: Custom Software Development for Startups: 6 Tips to Save Costs
You may be surprised at how many SaaS startups fail due to poor management. In fact, almost one of five cloud startups shut down its operations because of team issues. Hence, management plays a critical role in the well-being of your SaaS startup.
Along with developers’ work, management’s crucial tasks include defining the right direction of the business. So, market research, customer acquisition strategies, and growth techniques implementation are among priorities for them to strengthen a new SaaS startup.
Recruiting new employees at the right timing is just as important. With active hiring, you tie up your cash flow to pay salaries for your staff. So, you should strictly follow a recruitment roadmap not to get your SaaS startup trapped at its early stage.
You may also like: Best SaaS Product Ideas You Should Try in 2021
Unclear leadership is another reason that causes the biggest startup failures. Thus, co-owners should be on the same page when it comes to their SaaS product development. Likewise, they should define their personal areas of operation to manage.
Finally, managers need to cultivate a sense of togetherness to prevent SaaS startup failure. Harvard Business Review found that teams with high levels of expertise and average to low levels of engagement were overall weaker.
Further reading: Leading SaaS Trends for 2021 You Shouldn’t Miss
Failed business model
There is a common mistake for SaaS startup owners: underestimating the churn rate and related retention costs. Usually, they turn out to be higher in reality. Furthermore, entrepreneurs often choose the wrong pricing structure while their cloud startups are scaling. Thus, an improper business model is one more reason why most SaaS fail.
Not to fall into that trap, you should rely on the two key metrics for SaaS startups in your project modeling. They are:
- CAC (customer acquisition cost);
- LTV (customer lifetime value).
APRU here is average monthly revenue per user/customer, while churn rate means the number of users who stopped using your SaaS product in a given month.
The rule of thumb is pretty simple. Not to become another SaaS startup that failed, your CAC has to be lower than LTV. In other words, you should spend less money to acquire clients compared to the revenue that they will generate for you. Likewise, it’s better to recover CAC in less than 12 months.
To that end, you should seek an LTV increase while maintaining CAC low. So, you need to find ways of how you can raise customer acquisition without spending too much on it.
Notably, the strategy of inbound marketing can help you achieve this goal. This approach is based on providing value at any stage of your customer journey. It may include helpful blog posts, well-timed chatbots, advanced tech support.
In that way, you can build a long-term relationship with your customers and reduce the churn rate.
A wide-range pricing structure can also help you boost your business model. Various billing options will make your SaaS startup more attractive for different-sized enterprises. They may include, for instance:
- One-time pricing;
- Usage-based pricing;
- Tiered pricing;
- Volume pricing;
- Hybrid pricing combinations.
Thus, to avoid SaaS startup failure due to the wrong business model, you should realistically assess CAC and LTV. As just important, you should find an effective retention strategy to extend customer lifetime value.
Related reading: Top 8 SaaS Pricing Models: Ultimate Guide for 2021
Product problem is another common reason why SaaS startups fail. According to CB Insights, a startup failure rate due to being out-competed reaches 19%. This usually happens if your product is not user-friendly enough compared to other competitors in your sector.
So, you should aim at building a well-designed service among other things. Especially, if you have an innovative product idea. It’s a common practice when rivals can leverage your novelty and present it in more intuitive and handy solutions surpassing you.
Importantly, onboarding and supporting processes should be well-tuned. Prompt bug fixing, client support, and clear billing are critical to enhance customer loyalty and strengthen your SaaS startup’s market position.
Additionally, you should keep in touch with your clients constantly. Regular surveys, phone calls, and interviews will help you define your product’s flaws in time. Accordingly, you will be able to prevent your SaaS businesses’ failure. Otherwise, you risk being left out in the cold if you don’t meet your customer expectations.
Finally, you should be forward-thinking to turn your project into reality. It’s critical for you to be sure that you will be able to implement your product ideas and get a profit from your venture.
Further reading: How to Build a SaaS Product: Step-by-Step Guide
For example, Atrium is just a SaaS tech startup that closed due to failure in product idea realization.
This startup provided software for firms to arrange fundraising and legal team support. Yet, Atrium wasn’t able to replace a traditional law system in the SaaS space due to regulatory boundaries. So, in 2020 it shut down its operations having paid back $75.5 million to its investors.
Thus, even if it seems that your SaaS startup is already doing well, you should keep your finger on the pulse and track your product’s viability.
Why do most SaaS startups fail? The main reasons we have covered in this article are interconnected. As such, you should have a holistic approach to business to lead your cloud startup to success.
Notably, quality market research, responsible capital management, and the right business model are crucial not to let your SaaS startup fail halfway. It is important to have strong team management and offer your clients a user-friendly product too.