NetSuite's SaaS ERP Story: After 10 Years, an Upstart Finally Turns a Profit

NetSuite opened its virtual software-as-a-service doors in 1998 (though under a different name, NetLedger), and its product was on-demand ERP for small and midsize businesses not interested in (or worthy of) Oracle's or SAP's enterprise-class products.

More than 10 years and 6,600 customers later, NetSuite announced its first profitable quarter in February 2009: Non-GAAP net income for fourth quarter 2008 was $534,000, or $0.01 per share, as compared with a non-GAAP net loss of $842,000 (or loss of $0.01 per share) for the fourth quarter of 2007.

That $0.01 per share might seem insignificant at first glance. But it is quite significant, as not only a financial indicator that SaaS vendors can actually make money, but also as an affirming symbol that today's businesses no longer view ERP as a sacrosanct application that has to reside on a company's own servers.

That's a huge shift from CIO survey data I wrote about in 2008. CIO magazine had surveyed 400 IT leaders about their ERP systems. Despite innovation, integration and cost headaches, CIOs told us they remained committed to on-premise, traditional ERP systems. Historically speaking, CIOs have been reluctant to take many chances with the sensitive data (accounting, HR, supply chain) contained in their ERP systems. In the survey, just 9 percent of respondents reported using an alternative ERP model, which included software as a service, open-source tools and various in-house applications.

Digging a little deeper into NetSuite's recent results shows both the promise and perils that all SaaS vendors face. Analysis by Jeffrey Freyermuth, an account manager in AMR Research's Investment Research Practice, notes that NetSuite added 350 new customers in the fourth quarter, and that the average selling price increased to $34,000 during the same period.

Warren Wilson, a research director at Ovum, writes in a research article that NetSuite's 4Q results "are especially impressive given that they were achieved as the global economy headed off a cliff." Another, and perhaps more important reason for optimism: "Only a handful of vendors has ventured into SaaS ERP, and so far none has achieved profitability," Wilson notes.

But there are gray clouds on the SaaS horizon too. Freyermuth states that "a closer look [at NetSuite's numbers] shows just how difficult it is to make money with a SaaS business model." As I mentioned, NetSuite has been in business for more than 10 years with some 6,600 customers, and just now its management has been able to show a small profit.

"The bottom line," Freyermuth adds, "is that profitability still looks like a long haul and a huge hurdle to cross for SaaS vendors."

While it might seem like a good time to celebrate, the going only gets tougher for NetSuite and its nearly 1,000 employees: Analysts say it must maintain consistent, quarter-after-quarter profitability during an economic recession. (NetSuite has added CRM, e-commerce and BI apps to its product set.)

If it can, writes Wilson, "that would be a strong indication that customers are growing comfortable with both the reliability and the security of SaaS—two persistent criticisms of this delivery model." In addition, a financially sound NetSuite "would place more pressure on vendors of conventional ERP solutions to offer on-demand versions of their own" that cut into the fat margins and exhorbitant maintenance fees of on-premise ERP software.

And you know just how much that prospect thrills Oracle and SAP.

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