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SAAS Business Model | How SAAS Works?
Business, Digital Media

SAAS Business Model | How SAAS Works? 

Software come in two forms:

Software as a product: where the software is usually sold with a usage license and is hosted on the users machine/system.

Software as a service (SAAS): one of the recent advancement in the technology industry where the software is provided online and hosted on a server and users pay the rent to use the software for a specified time period.

What is Cloud Computing?

Cloud computing refers to delivering computing services like software, servers, storage, databases, networking, analytics, infrastructure, etc. over the internet (the cloud). Companies providing these services often charge you based on your usage within a certain time period.

Cloud Computing can be categorized into SAAS, IAAS, and PAAS.

What Is SAAS (Software As A Service)?

SAAS is a part of cloud computing and only deals with the software which are provided on the cloud as a service.

That is:

Instead of purchasing the license and installing the software in your own system, you rent the usage of the software and access it over the internet.

Examples of SAAS: 

  • Google Apps
  • Microsoft Office 365

What is PAAS (Platform As A Service)?

Paas provides a platform which includes the operating system, programming language execution environment, database, web server etc. on the cloud over which a software or application can be developed and/or deployed.

Examples of PAAS:

  • Heroku
  • Google App Engine
  • Red Hat’s OpenShift.

What Is IAAS (Infrastructure As A Service)?

In the IAAS model, the cloud host provides the infrastructure which includes servers, storage, networking hardware, virtualization, firewall, IP addresses, virtual local area networks etc. over the cloud which are accessed over a WAN.

Examples of IAAS:

  • Windows Azure
  • Amazon EC2
  • Rackspace

Now that you know what exactly is SAAS and cloud computing, Let’s dive into the details of SAAS business model.

How SAAS works?

Software as a product has many limitations:

  • You have to invest in purchasing its license and also in upgrading their hardware to run the software
  • A lot of time and money is spent on customization of the SAAP as per your requirements.
  • The data is stored only on one device or server (if you’re using LAN)
  • In order to update the software, you either have to buy the updated version or download the update from the internet which resulted in a wastage of time and internet.

Opting to SAAS model has helped the developers in effectively removing/minimizing these limitations. SAAS requires only one prerequisite; the internet.

It hosts the software and the data on the cloud and lets the developer update the software without you downloading anything.

Another advantage of SAAS business model is that it is easily scalable as everything is hosted on the cloud. The company can cater to the users all around the world and not be limited to one region or the country.

SAAS Business Model

Understanding SAAS Business Model isn’t easy. Many entrepreneurs underestimate its various performance indicators which becomes the reason why they fail. Before moving on to discuss the business model of SAAS, it’s important to know about specific key performance indicators:


CAC is the customer acquisition cost which is the aggregate cost (marketing costs + outsourcing cost + other costs) of acquiring one customer.


Lifetime Value(LTV) is the total revenue earned per customer. It’s calculated by dividing the total revenue earned by the number of customers in a specific time period.


Monthly recurring revenue is the amount of fixed revenue retained every month. It is a measure to calculate how well are the customers retained in the business. It is calculated by multiplying net users per month by the subscription fee.

MRR Churn

Churn refers to the revenue lost and customers who’ve left. It is calculated by multiplying net users left per month by the subscription fee.

The Economics of SAAS Business Model

SAAS is a subscription-based business model which involves generation of profits after a considerable long period of time. That is, the expense is incurred a long time before you actually see the profit. It takes months to recover CAC which usually results in the negative cash flow in the business.

The expenses in these stages of SAAS business model include

  • COGS: which include outsourcing costs, server costs, etc.
  • Sales & Marketing Costs
  • Research & Development Costs
  • General & Administrative Costs

Ever wondered why the SAAS packages come in free, basic, pro, & enterprise editions?

Here’s the answer:

The economics of SAAS Business Model is divided into three parts:

  • Acquisition
  • Retention
  • Monetization

The company acquires the customers by providing freemium services, and once acquired other services are offered at a basic periodic price to him. This leads to retention and monetization.

Software as a service (SAAS) example

Google apps is an online suite of communication and collaboration tools. It consists of the following:

  • Gmail, Hangouts, Calendar, and Google+ (Communication)
  • Drive (Storage)
  • Docs, Sheets, Slides, Forms & Sites (Collaboration)

The suite is provided as a freemium model where most of the services are provided free of cost while upgraded services like extended storage space and custom email address are provided at a cost.

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