I’ll be real with you: I find the idea of software for incredibly specific niches really compelling. We’re talking software for swimming pools, nail salons, dental offices, restaurants, and construction.
And I think what I like about these vertical SaaS businesses is that they're tactile, directly related to very specific problems that mom-and-pop businesses often have. It’s a small business view on enterprise software. Of course, there’s a caveat: These niche software businesses can also have a reputation for underperformance or outright failure, kneecapped by limited market sizes, intense competition, and high customer acquisition costs.
But David Yuan, founder and partner at growth equity firm Tidemark, is trying to systematize the playbook for enterprise software companies serving these supposedly too small markets. Tidemark today released its first-ever Vertical & SMB SaaS Benchmark Report . One of the key ideas is this: Vertical SaaS companies need to become dominant “control points” in their markets. (Control point is a term that Tidemark has coined, referring to a customer or business’s most important system.)
"If you own these control points, you can naturally cross-sell multiple products,” said Yuan, who previously spent 15 years at TCV as a general partner before founding Tidemark in 2021. “That improves your life, churn, total addressable market, and then ultimately your customer acquisition cost payback.”
The end game for a vertical SaaS company is to deeply penetrate a specific market, allowing them to then sell not just to core customers, but also their suppliers, consumers, and other stakeholders in that market, Yuan says. And though it’s a rarefied company that’s made it to this promised land, Yuan’s point is that it is possible.
"There are probably five to ten of these companies in vertical SaaS, who’ve gotten to that level of dominance,” said Yuan. “Those businesses are incredible because not only are you really deep in one market, but you actually extend to a lot of stakeholders, so you’re super hard to dislodge.”
Restaurant-focused Toast, life sciences-focused Veeva Systems, and construction-focused CCC all fit into this category, according to Yuan. But all of these winners, of course, were founded before the AI boom took hold, which has facilitated a reckoning within vertical SaaS as the narrative about how AI will affect the space is rapidly evolving.
In the earliest days of the AI boom, after OpenAI’s ChatGPT came out, “everyone was like ‘software’s dead,’” said Yuan, who I spoke with in Tidemark’s Menlo Park offices, in a conference room with a surfboard. (It was a Tidemark-branded shortboard, for anyone wondering.)
“People were saying that vertical software’s dead, because if you have an LLM, you can automatically create workflows, you can create the code, and you can mass customize software to address [swimming] pools, restaurants, and so on,” said Yuan.
That didn’t last long. Six months later “everyone was saying that vertical SaaS is incredible, because it’s not generalized language models, it’s generalized data that matters,” Yuan said. (In Tidemark's report, of 246 respondents, 31% said they had an AI product already in the market.)
Now, fast-forward to today and yet another narrative has emerged: “We're back to the idea that software is going to go away and AI itself isn’t going to replace software, but an AI-powered service provider is going to replace software,” said Yuan.
“I think there’s some truth to that, but in my opinion it’ll happen in very narrow circumstances," Yuan added. "Because if you think about how work is done, very rarely is one task driven by a single set of people or single set of data." It’s hard to find functions that are purely standalone, he says.
I see Yuan’s point: In my early 20s, I worked in a restaurant where the software needs were both overwhelming and under-met. Tracking orders could be a nightmare, tracking guests and their preferences was even worse. And don’t even get me started on inventory in the wine cellar.
And that’s the nice thing about vertical SaaS—we’ve all been to restaurants and dental offices, and can imagine those business owners need software. It’s not that there’s not a need for vertical SaaS it seems. It’s a matter of those businesses finding the dominance they need to survive.
See you tomorrow,
Allie Garfinkle
Twitter: @agarfinks
Email: alexandra.garfinkle@fortune.com
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This story was originally featured on Fortune.com
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