The SaaS (Software as a Service) business model is a way of delivering software applications over the internet as a service rather than as a one-time purchase. Here’s a clear breakdown of how it works:
What is SaaS?
SaaS is a cloud-based delivery model where users access software via a web browser, usually on a subscription basis (monthly or annually). The software is hosted, maintained, and updated by the provider.
What is the SaaS Business Model?
Understanding the potential of the SaaS business model, as well as the important KPIs and deliverables that will be required of you while developing one, can actually be a challenging undertaking because it is both new and complicated. Are you keeping an eye on the required KPIs? What is your CAC? When will you need to raise additional funds? Time and again, we have assisted SaaS founders in finding answers to these problems. We even offer a Business Model Template to assist you in establishing objectives and successfully conveying them to investors. All software as a service (SaaS) startups are founded because they have recognized an issue, pain point, or area of needless friction in the company and plan to market the solution.
How Does the SaaS Business Model Actually Work?
The SaaS (Software as a Service) business model works by providing users with access to software applications over the internet—usually through a subscription. Instead of buying software outright and installing it on their computers, users pay regularly (e.g., monthly or annually) to use the software hosted on the provider’s servers.
Here’s a step-by-step breakdown of how the SaaS business model actually works:
1. Software Development
- The company builds and maintains a cloud-based application.
- The software is hosted on remote servers (cloud infrastructure like AWS, Azure, or Google Cloud).
2. Cloud Hosting & Access
- Users access the application via a web browser or mobile app.
- No installation is needed; everything runs online.
- The provider handles updates, bug fixes, backups, and security.
3. Subscription Payments
- Customers subscribe to a monthly or annual plan.
- Plans often include tiered pricing:
- Free (limited features)
- Basic (standard features)
- Pro/Enterprise (advanced features, more users, support, etc.)
4. Customer Acquisition & Onboarding
- SaaS businesses use digital marketing (SEO, ads, content, trials) to attract users.
- Many offer free trials or freemium models to let users test the product.
- Onboarding processes help users get value quickly and start using key features.
5. Retention, Support & Upselling
- The focus is on retaining users long-term, because recurring revenue is the core of the model.
- Companies offer:
- Excellent customer support
- Continuous updates and improvements
- Upsells to higher plans or features
- Engagement tools (emails, webinars, help centers)
6. Metrics-Driven Optimization
SaaS businesses closely track metrics like:
- MRR/ARR: Monthly/Annual Recurring Revenue
- Churn Rate: % of customers who cancel
- Customer Lifetime Value (CLTV)
- Customer Acquisition Cost (CAC)
- Net Promoter Score (NPS) for satisfaction
These metrics guide product development, pricing, support, and marketing strategies.
Types of SaaS Business Models
The SaaS business model comes in several variations, depending on the type of customer served, revenue strategy, and delivery approach. Here are the main types of SaaS business models:
1. Subscription-Based SaaS
The most common model where users pay recurring fees (monthly or annually) to access the software.
Examples:
- Netflix (for entertainment)
- Salesforce (for CRM)
- Adobe Creative Cloud
Key Features:
- Predictable revenue
- Tiered pricing
- Easy scaling
2. Freemium SaaS
Offers a free version with limited features, encouraging users to upgrade to a paid version.
Examples:
- Dropbox
- Slack
- Notion
Key Features:
- Low barrier to entry
- Focus on product-led growth
- Upsell to premium tiers for advanced features or usage
3. B2B SaaS (Business-to-Business)
Targets businesses of all sizes, offering solutions to help with operations, marketing, HR, sales, etc.
Examples:
- HubSpot (marketing)
- Zoom (meetings)
- QuickBooks (accounting)
Key Features:
- Higher contract values
- Longer sales cycles
- Customizable plans and integrations
4. B2C SaaS (Business-to-Consumer)
Targets individual users instead of companies.
Examples:
- Spotify
- Duolingo
- Grammarly
Key Features:
- High volume of users
- Lower pricing
- Self-service onboarding
5. Enterprise SaaS
Caters to large organizations with complex needs, offering advanced features, custom integrations, and dedicated support.
Examples:
- Workday (HR/Finance)
- SAP
- Oracle Cloud
Key Features:
- Large contracts
- Custom SLAs
- Account management teams
6. White-Label SaaS
Software that businesses can rebrand and sell as their own.
Examples:
- White-label marketing platforms
- Resellable CRM tools
Key Features:
- Fast go-to-market for resellers
- One product, multiple brands
- Licensing-based pricing
7. Vertical SaaS
Serves a specific industry or niche, offering tailored solutions.
Examples:
- Procore (construction)
- Clio (law firms)
- Toast (restaurants)
Key Features:
- Deep domain expertise
- Less competition
- Higher customer loyalty
8. API-Based SaaS (Developer-Focused)
Provides APIs or platforms that developers can integrate into their own applications.
Examples:
- Stripe (payments)
- Twilio (communications)
- Auth0 (authentication)
Key Features:
- Usage-based pricing
- Focus on performance and reliability
- Strong documentation and support
9. Usage-Based (Pay-as-You-Go) Saa
Instead of subscriptions, pricing is based on actual usage (e.g., data, messages, transactions).
Examples:
- AWS
- Snowflake
- Mailgun
Key Features:
- Flexible cost structure
- Appeals to startups and scaling businesses
- Encourages efficiency
Core Components of the SaaS Business Model
Subscription-Based Revenue
- Customers pay a recurring fee (monthly, yearly) to use the software.
- Often offered in tiers (e.g., basic, pro, enterprise) based on features, usage, or support.
Cloud Hosting
- SaaS apps are hosted on the provider’s servers (e.g., AWS, Google Cloud).
- Users access the software via the internet, with no need to install anything locally.
Customer Retention Focus
- Success depends on retaining customers long-term.
- High Customer Lifetime Value (CLTV) is key to profitability.
Scalability
- Easier to scale compared to traditional software.
- Can support thousands or millions of users without major infrastructure changes.
Frequent Updates
- Software is updated continuously by the provider.
- Customers always access the latest version—no manual updates needed.
How SaaS Companies Make Money
Recurring Subscriptions: Primary revenue stream.
Upsells & Cross-sells: Offering premium features or additional services.
Freemium Models: Free basic version to attract users, with paid upgrades.
Enterprise Deals: High-value contracts with large organizations.
Key Metrics for SaaS Success
MRR/ARR: Monthly or Annual Recurring Revenue.
Churn Rate: Percentage of customers who cancel their subscription.
CAC: Customer Acquisition Cost.
CLTV: Customer Lifetime Value.
ARPU: Average Revenue Per User.
Benefits of SaaS (for providers and customers)
For Providers:
Predictable revenue
Easier deployment and updates
Broad market reach
For Customers:
Lower upfront cost
No need for IT infrastructure
Pay-as-you-go flexibility
Examples of SaaS Companies
Salesforce (CRM)
Slack (communication)
Zoom (video conferencing)
Shopify (e-commerce platform)
Dropbox (file storage)