The global software market is growing rapidly. Gartner clues show that software spending is the fastest growing segment of IT spending and that its growth rate has accelerated in recent years. If Gartner’s predictions are confirmed, the software segment of global IT spending could reach $1 trillion by 2024.
Startups mostly build software. And with the shift to the subscription business model now more of a thing of the past than an emerging trend, many startups today are approaching the market with the software-as-a-service (SaaS) model. Thus, SaaS startups are not category specific, but share a business model approach more than any specific industry. Among the myriad of SaaS startups, those that focus on selling to enterprise customers—a group often called enterprise SaaS—are attracting venture capital.
Or at least it was until the latest venture and the startup boom. Since then, investment in SaaS startups has slowed. But new data from PitchBook is displayed that while the charts have been largely down lately, there are some glimmers of good hope for founders looking to build the next big enterprise software company.
Green shoots
Last year was another down year for enterprise SaaS venture investments. Global data per PitchBook shows that the number of enterprise SaaS deals fell 32% to 2,764 last year, while the value of those deals fell 33.3% to $72.9 billion. Worse, 2023 results for enterprise SaaS startups are down from what the market saw in 2022 ($109.2 billion across 4,052 deals), but even more than what we saw in 2021 ($136.0 billion across 4,773 agreements).
Enterprise SaaS startups raised $21.9 billion, $45.0 billion, $55.1 billion, and $58.3 billion in 2017, 2018, 2019, and 2020, respectively. That makes last year’s more than $70 billion worth of investment in the startup category look sunny by comparison.
More importantly, while enterprise SaaS deal volume continued to decline through the end of 2023, the total dollars invested in them increased in the fourth quarter. The gains are modest, but not so small as to escape notice. In the third quarter of 2023, PitchBook counted $12.5 billion in enterprise SaaS deals, a figure that escalated to $14.0 billion in the fourth quarter. That’s a 12% gain in one quarter during the holiday season. that’s no mean feat.
The only other quarter since Q4 2021 that saw a rise in total enterprise SaaS investment was Q1 2023, but that quarter was so heavily influenced by the Microsoft-OpenAI deal that we almost want to discount it. The fourth quarter of 2023 is completely unique in the wake of the latest boom and bust of business holdings in reversing the steady decline in capital disbursed to enterprise SaaS companies.
Now, who? lifted up this chapter and what are they building? The answer surprised us, but there is some nuance to unpack.
WTF are these categories surprising!
If you were to ask us which categories were on the rise in the final months of 2023, customer relationship management probably wouldn’t be at the top of the pile. However, PitchBook reported that CRM was the top growth category in enterprise SaaS in Q4 2023:
Among segments, customer relationship management (CRM) stood out with rapid QoQ growth (up 72.5%) compared to the overall enterprise SaaS average, which was up 11.9%. Other positives were supply chain management (SCM), up 44.8% QoQ, and knowledge management systems (KMS), up 31.6% QoQ.
CRM in its purest form, maintaining a database of customer information, seems to be mostly a long-standing problem. One of the first enterprise SaaS companies, and certainly the most successful, Salesforce controls this market. That’s not to say it can’t be disrupted like all incumbents can, but the CRM database hasn’t changed that much in the 25 years since Salesforce opened its doors and dragged the SaaS model into the business mainstream.
But PitchBook has a slightly more liberal definition of CRM than pure customer data tracking, including marketing automation, sales enablement, customer service and e-commerce. In this regard, CRM makes a little more sense.
But if you’d asked us (and no one did), we’d have pointed to data apps, software that helps companies track, understand, and manage copious amounts of data across the enterprise. This category, which PitchBook tracks in its “analytics platforms,” has become especially critical given the importance of data to artificial intelligence and large language models, which require a lot of data to train them.
So while PitchBook’s data didn’t track with our admittedly anecdotal data, it was again surprising that data and AI-adjacent investments didn’t fare better in the report, once they garnered mention, while CRM, the supply chain management and knowledge management led the way in this quarter’s numbers.
Stocks, Ventures and How to Build in Today’s Market
There are several possible reasons why software investments are coming back, other than category-specific searches. The big hunt for cloud spending “efficiency” appears to be fading, according to several software company earnings reports. This means that net retention at many software companies is likely to improve after the failure thanks to customer churn and the hunt to eliminate operating expenses in a higher interest rate environment.
That and the fact that the stock market itself has rebounded, with the tech-heavy Nasdaq closing at a record high last month. This makes potential startup exits possible at a price that venture investors like, which in turn can ease their wallets.
But with average revenue multiples for public software companies lingering like unwelcome visitors, startups aren’t out yet. Some macro relief and a clearer exit path are great, but it’s much harder to build a venture-backed software startup if you’re looking at high single digits or very low double multiples when it’s time to exit. Venture capital is certainly expensive in equity terms, but the business model also provides incentives for high spending to fuel growth. When that growth is worth less, the entire calculus of raising and spending external capital shifts. It’s much easier to make the business math work at 20x revenue than 10x or even 8x.
Startups aren’t out of the woods yet. Perhaps a rate cut or two and a strong IPO will be the catalyst needed to really reignite venture investment in enterprise SaaS. But today there are plenty of reasons to be more optimistic than we were just a few quarters ago. For founders waiting for the good times to return, this is welcome news.
