Is This the Most Lucrative Business Type of Our Time?

Asking the average person what type of business they like is like asking them who their favorite Kardashian is. They probably don't care and think they're all the same.

However, through my readings, I've developed a deep passion for a specific type of business—one that I find absolutely fascinating. Its profitability makes it attractive, and its seemingly 'boring' nature makes it all the more interesting.

I'm talking about B2B SaaS.

Many already recognize how great these businesses are. But I still want to convince you that if you're thinking about starting a new business or scouting for an investment, you should always consider B2B SaaS first.

What Makes B2B SaaS Awesome:

1. Stickiness

You may not realize just how sticky these businesses are. If you're looking for a moat, this is it—a moat where you can mess up, and your customers will still stick around. Take CrowdStrike, for instance. They caused an outage that costed Fortune 500 companies as much as $5.4 Billion in revenue and gross profit. This is more than the GDP of the entire country of Fiji, yet their stock recovered by 45% after the incident.

Look at Oracle. Its P/E ratio is 45, similar to Amazon's, and double that of Google's. Does that seem crazy to you? Oracle is so deeply ingrained within companies that it is almost impossible to remove. Nobody wants to take on that unnecessary risk. You might be surprised to learn that there are systems within Amazon that still rely on Oracle, and it’s so deeply embedded that they will likely never go away.

In general, it is very costly for companies to switch from a software to another. Think about the integration this software has with the company, think about the domain knowledge the team already have regarding the software. They run on the model once you are in you are in. Is there a better economic moat than that?

2. Upsell

Upselling is incredibly underrated. Investors need to understand that once salespeople, account managers, onboarding specialists, technical support staff, customer success teams, and any other newly created roles are embedded within a company, they gain valuable insights into the company's true needs. They can adjust product roadmaps, offer discounts, or create custom packages that make the client increasingly dependent on them.

This is why most B2B SaaS companies are willing to lose money initially to acquire customers—they can see the long-term potential through upselling.

3. Pricing Model

The subscription model is every investor's dream. It's super predictable and protected by contracts. Of course, the pricing model depends on the company specifics, but most B2B SaaS companies follow one of two models: the per-user model, like Zoom, or the per-usage model, like AWS. In both cases, the company grows as the customer base grows.

If Zoom's customers grow number of employees, Zoom's revenue grows. If AWS customers grow usage because they are expanding, AWS revenue grows. It is a win-win situation.

4. High Network Effect

B2B SaaS reaches its glory when it has a high network effect. At this stage, the company has a free marketing and sales advantage.

For me, this is very clear in companies that adopt the open-source model. The playbook is very straightforward:

Create an interesting project, for example, a database.
Allow the community to contribute to it and use it for free.
The wide adoption of the product will lead enterprises to start using it.
Make some of the features important to enterprises available with a paid license, such as, SSO.

Many public companies like Elastic, MongoDB, GitLab, Confluent, etc., have used this playbook and are traded at insane multiple because of that.

What to do this?

There are a lot to do with this take. I believe that even though it is clear to many people how great these business are. There are still a lot of opportunities in the market to invest or start a new B2B SaaS company.

Investing in Publicly Traded Companies

Most of the time, the premium on B2B SaaS companies is already priced in, especially for those (rightfully?) hyped companies. Take DataDog, for example. The company is trading at a 290 P/E ratio. Yes, I know P/E ratio isn't everything, but it shows how the premium is already factored in. However, I think the market sometimes forgets and occasionally insanely misprices these companies, giving them very low premiums. A clear mispricing for me was Zoom, which at one point had an enterprise value of $10B with $1.5B in free cash flow. It appreciated by 30% since then, but it shows that sometimes the market isn't as rational as we think.

Starting a B2B SaaS Company

These are venture funds' favorites. You want to get investment right now? Start any kind of B2B SaaS business and land one customer. This will make investors super excited. One interesting and insane story I read last month is about WrapStream, which was acquired by Confluent. The insane part is that it was acquired just 13 months after WrapStream was launched. This is brilliant. Not only does it show there are still a lot of opportunities in the space, but it also shows that only in this space can you get acquired after 1 year by a $7B company.

Returning back the intial quote by YC Group Partner Jared Friedman 'In the last 10 years vertical SaaS for enterprise had astonishingly high chances of becoming billion dollar companies '. I believe that this is still true and there are still a lot of opportunities in the market to invest or start a new B2B SaaS company.