SaaS margins are terrible
Sammy is the Managing Director and Cofounder of Blossom Street Ventures. Email him directly at email@example.com, especially founders.
It’s common to hear “SaaS has great margins,” but that’s not true. The margins in SaaS are terrible as the data below show. The table has 42 publicly traded SaaS companies with median revenue of $180mm meaning they’re well past the startup stage and margins should benefit from their scale and maturity. However, even though they’re past the high burn growth stage, the median operating margin is -21% as 32 of the 42 companies generate operating losses.
Additionally while the variable costs of SaaS are very low (hosting, servers, etc), the fixed costs are very high, especially for engineering talent and developers. Given the speed at which technology becomes obsolete, the hiring of engineering/dev talent never really ends as each company has to constantly improve and evolve its product. Even worse, the fixed costs are all human talent, making cost cuts/layoffs really painful for morale, culture, and productivity of other personnel.
Investors love SaaS businesses because so long as you’re retaining the customer, the revenue is basically an annuity and in many cases a source of growth (when customers upgrade more often than they downgrade). Additionally, for mission critical software, recession resilience tends to be very high (we saw this in 2008 and 2020). If customer acquisition costs can be held within reason and retention is strong, the business will eventually be profitable, and large. By way of example, the average and median operating margins for the profitable companies above is 14% and 11% respectively. Ok margins, but not great.