Sep 20, 2024

This is the first installment of a two-part series on AI Inside Vertical SaaS. In 2020, we wrote about how fintech scales vertical SaaS and noted that by adding fintech, SaaS businesses can increase revenue per customer by 2-5x and open up new SaaS markets that were previously inaccessible due to market size or customer acquisition cost. Four years later, vertical SaaS (VSaaS) is scaling once again, but now it’s for a different reason: artificial intelligence. In this post, we look at how AI is increasing VSaaS revenue per customer by enabling vertical SaaS companies to take on tasks previously too complex for software. With AI, many customers of VSaaS can dramatically reduce internal and external labor spend on sales, marketing, customer service, operations, and finance. (We’ll look at how AI is opening new markets — or making existing ones more attractive — in our next post). The evolution of vertical SaaS Vertical software markets tend to have winner-take-most dynamics, where the vertical SaaS business that best serves the needs of a specific industry often becomes the dominant vertical solution. The first wave of VSaaS, cloud, brought services online (e.g., Shopify for e-commerce, ServiceTitan for service workers). The second wave, cloud + fintech, increased revenue by enabling VSaaS companies to embed financial services within their software offerings. For example, by embedding payments, lending, payroll, and more, Toast is now at $1.5 billion ARR and makes over 80% of its revenue from financial technology solutions. We are now witnessing the beginning of a third wave of vertical SaaS: cloud + fintech + AI. This third wave, which is the most impactful force in the category to date, further expands the surface area of VSaaS by turning Labor into Software . AI increases VSaaS revenue per customer To better understand the power of AI to VSaaS, let’s look at the vertical software company Mindbody, which serves fitness and beauty studios. In wave one (cloud), Mindbody handled booking and scheduling appointments online. In wave two (cloud + fintech), they expanded their business to offer payroll for staff, customer payment processing, and insurance for studios. Fitness studio operators subscribing to Mindbody, however, still need people to run much of their operations, such as marketing, sales, customer service, and finance. Enter wave three: AI. We will always crave human connection for some roles (we all love our favorite fitness instructor! ), and Mindbody will continue to want to own key strategic hires. However, roles where human connection isn’t a key benefit, delivering on a core product, or particularly differentiating to the business, are all candidates to at least be augmented, if not fully replaced, by AI. With the right solution, many businesses consuming VSaaS can dramatically reduce internal and external labor spend on sales, marketing, customer service, operations, and finance. This should further increase the take rate of VSaaS companies by an additional 2-10x.1 Beyond Mindbody, one could imagine a future vertical SaaS platform that could eliminate labor and other tooling across business operations entirely. It’s just the beginning AI is unlocking a new era for vertical SaaS. In functions like marketing, sales, customer service, and finance, AI will augment, automate away, or in some cases, replace, many of the rote tasks currently performed by people, allowing VSaaS companies to offer even more with their software. In doing this, they will not only increase revenue per customer (2-10x), but — as we will see in a follow-up post — will open opportunities in markets previously deemed too small, or not cost efficient enough to acquire customers. Building here? We at team a16z would love to talk to you. Footnotes: 1. Assuming an average ACV of $6k ($500 per month, split between payments and subscriptions), Mindbody could double their ACV by providing additional generative AI-driven services to their end studios and capture these savings by charging higher prices. Fitness and recreational sports centers employ more than 100,000 office and administrative workers across receptions, customer service, and information tasks. By saving one worker at $60k per year for a given fitness business, Mindbody could easily capture 10% of this upside, and thus double ACV by an additional $6k. In the most extreme case they could capture 100%, and 10x ACV, or capture savings in other functional areas: marketing, sales, and finance. At a macro level, total US software spend ($313bn) was just 3% the size of total labor spend ($10.5 trillion) in 2022, providing plenty of headroom for VSaaS companies to grow into swapping software for labor. 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