With SAP and Oracle battling over Retek, a vertically-focused software firm in the retail industry, the timing couldn’t have been better for the TIE (The Indus Entrepreneurs) Software and Services Business Forum (SSBF) event on “Verticalization: a Growing Trend in Enterprise Software” on March 10th, 2005 at MIT Tang Center. The panel comprised of three industry luminaries with extensive experience in verticals: Rama Ramakrishnan, Chief Scientist and VP for R&D at ProfitLogic; Bill Sheenan, Principal, Longworth Venture Partners; and John Raguin, CEO of Guidewire, also the moderator for the panel. Rama brought extensive experience from the retail industry, John from the insurance sector, and Bill, of course, the life line for startups brought the venture capitalist perspective. In addition, the event was attended by over 40 enthusiastic startup-minded folks.

The discussion provided a well-structured analysis and road map for entrepreneurs who might be thinking of investing in a startup in this area and touched on:
·    Defining verticalization and how it was different from horizontal applications.
·    What were some of the drivers to verticalize?
·    What does it take to succeed in verticalization?
·    How should vertical application be priced and delivered?
·    How do you move beyond your initial success and grow beyond it?
·    What are some of the pitfalls startup ventures should be careful about?

Verticalization, as opposed to horizontal applications, addresses the needs of a specific industry such as retail, automotive, and insurance. A startup in this field typically begins with identifying one key business problem in the vertical sector and addressing that problem.

Over the early nineties, companies made major investments in IT infrastructure, some of it in reaction to the perceived Y2K crisis. As the decade closed out, companies were struggling to find a return on these investments. In addition, their investments were generating terabytes of untapped data. By focusing on industry specific problem domains that leveraged this information, vertical software companies were able to unlock the value of these investments and provide a compelling ROI.

Verticalization doesn’t imply smaller market segments. FISERV, a well kept secret, is $7.3 billion company servicing the financial services sector. Just the claims processing portion of the insurance market represents $4 Billion of opportunity, most of which used to be addressed by internal development. There are over 3000 property and casualty companies in the US and that again worldwide. Examples like these provide an attractive incentive for startups to find other vertical segments.

The panel agreed that deep experience in the specific vertical is extremely critical for the success in the venture. This domain expertise not only guides the operations within the startup but also helps in developing a strategic relationship with the customers. While the customer might have a sound understanding of its own business, the vertical vendor brings the knowledge and best practices across the industry.

Pricing and delivery model was the next topic that was discussed by the panel. Panelists felt that while horizontal applications are subject to commoditization, verticals by fact that they address core need of the business are more shielded from such pricing pressures. Since the customer’s success is closely tied to the benefits derived from the vertical vendors’ solution, in some cases, customers are willing to pay more to keep the technology away from their competitors. Once the pricing issue is addressed, the next question is delivery. Customers want to get a hand on the technology much faster. An ASP model provides an efficient way to deliver the technology faster to the customers. ASP models are a growing model for technology delivery, similar to that of utilities like electricity – a model also referred to as grid computing (the author’s passion).

Next topic discussed was how do you go beyond your initial success? Should you expand within the vertical or should you find other verticals with similar problems? Or should you stop there and focus on milking the specific industry? Go-to-market and product strategy are key to answering these questions. Even though the product can be applied to other industries, go-to-market strategy requires much more work to be successful in other industries. You need to acquire deep domain knowledge within the other industry while you need to be able to maintain your reputation and success within your first target industry. This might be a higher risk strategy. An alternate approach could be to identify other key problems within the same industry and expand outwards to additional problem domains.

The panelists pointed out some of the pitfalls that the vertical startup should be careful about:
·    There is a tendency to over-engineer the product for the needs of the first 2-3 customers. This substantially limits the product’s applicability to other customers.
·    Startups need to extremely careful about their cash-flows. After the initial success with a few customers, don’t spend the money and overstaff for 50 customers.

In response to questions about the potential markets for a startup the panelists pointed out that one should identify a problem in the vertical with high incremental ROI, a problem where a little bit of science yields substantial return. Some factors to consider include areas where there was a high volume of data being generated, where decisions were still being made based on ‘seat of the pants’ approaches and where the application of information technology would provide substantial returns on high volume transactions.  Overall the evening provided the audience with a sound framework to get them thinking about starting their own vertical startup.

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