Time and time again in my career in venture, I’ve been surprised at the negative attitude I’ve encountered from VCs at the thought of investing in vertical SaaS. Many of the largest public software companies operate in vertical segments, and yet, I’ve encountered countless investors who – in their undying quest for a piece of the next Slack or Uber – treat massive industries like healthcare or logistics like they’re too small for investment.
My experience is exactly the opposite. Segment-specific startups frequently outperform their horizontal counterparts and do so with greater efficiency, lower churn, and simpler GTM motions. So why the aversion from some investors? My observation is that three wild mischaracterizations drive money away from vertical software, and it’s time that we collectively change our thinking and recognize the opportunity within some of the largest industries in the world.
These are the most common objections I see:
Objection 1: Vertical = small
The most frequent objection to vertical SaaS is simply that the TAM is too small to produce a venture-scale outcome. But the facts just don’t support this. Leading fields like healthcare, insurance, and construction represent huge portions of the economy, and each contains many billion-dollar corporations with hundreds of thousands of employees. Ironically, these verticals represent the majority of American GDP when put together, and in many cases, are the dominant drivers of American innovation and growth.
As proof of the opportunity in segment-specific software, here are a few facts to consider:
- Oracle’s Cerner alone does over $5B annually selling hospital software in what some estimate to be a +$30B software market.
- The largest contractor in the US, Turner, generates over $14B in revenue. If they spent only 5% on technology that would be $700M!
- Chase spends $14B (11% of revenue) annually on technology
Even smaller segments like transportation and agriculture still represent massive opportunities, and these small segments are often the most neglected, meaning that innovative products that bring real value can gain market share quickly.
Objection 2: Vertical buyers aren’t motivated enough to drive massive transformation
This is a lazy stereotype, and it’s time to put it to bed. The belief that vertical software buyers either aren’t as smart or are unmotivated stems from a complete misunderstanding of the challenges they face.
If it feels like technology buyers in these spaces move slowly and resist change, the reason is that the critical institutions they oversee are often built on heavy, legacy systems that contain a lot of technical debt. Ironically, the reason for this technical debt is often that these industries were early adopters, and were among the first to implement emerging digital technologies when they became available decades ago.
The scope of replacing these systems is huge, and the cost when an old system breaks or a new one fails to meet its promise is high – especially in a regulated environment where mistakes may result in a congressional hearing (as Southwest Airlines could attest). As a result, buyers carry an enormous amount of stress regarding change and tend to be thoughtful and deliberate. They certainly are not as transactional as a typical sales leader might like.
This doesn’t mean that legacy industries aren’t disruptable. But it does mean it takes the right kind of founder to build trust and product market fit – and the right kind of investor to collaborate on realistic growth plans for these fields. For example, Docusign didn’t sign its instrumental deal with the National Association of Realtors until 2009, six years after the company was founded.
Objection 3: Vertical markets are difficult to penetrate
I wouldn’t necessarily dispute this objection, but rather reframe it. Some verticals are difficult to penetrate because of regulations or other industry-specific factors that raise the barrier to entry. One of the simplest barriers is a shortage of people who have deep knowledge of the problems facing the industry, and therefore the ability to solve them – i.e. founder-market fit. Scale’s investment in Archipelago Analytics was very much driven by founder-market-fit. Founder CEO Hemant Shah had previously founded and run RMS analytics for 20 years, giving him unparalleled domain experience. But the other side of the story, when a market is difficult to enter, is that once a startup successfully gains traction in them, these barriers to entry serve as competitive moats to help defend the business and give them safe breathing room.
In addition to competitive moats, the tight networks of buyers within these segments create informal referral networks that drive new business. In short, if a startup creates a positive experience for their first customer, there’s a good chance their next wave of customers is a direct intro away. Horizontal markets are often split in many ways, by customer size, by use case, and by brand. That’s in stark contrast to vertical software, where a vendor has much less competition and therefore an easier opportunity to own a broader customer set.
Finally, the difficulty of entering these markets creates opportunities for platformization and upselling. You can look no further than a company like Motive to see how once a startup’s foot is in the door, there are countless ways to become a true industry cloud and grow its TAM by modernizing even more of the stack for that field.
Founders get it – it’s time for investors to see the light
Founders in vertical SaaS generally come from within the industries they’re building for and bring deep domain expertise with them. The sense I’ve gotten from these founders over the years is frustration with an investment market that is willing to throw 100X multiples at horizontal SaaS while insisting that startups in vertical segments aren’t venture scalable.
But vertical SaaS has my attention. In companies like Motive (transportation), Dusty Robotics (construction), Spruce (prop-tech), and Archipelago (insurance) I’ve seen that entrenched founders can meet the needs of skilled buyers and drive real impact – and real revenue. So if you’re a founder in a vertical market, don’t be a stranger. I’m always on the lookout for the next generation of solutions that can bring transformative value to some of the industries where it’s needed most.