Yesterday, I wrote about the 20th IPO anniversary of Salesforce and how SaaS created a technology shift and a new business model to enable two decades of software innovation. As a result, it’s been said software is eating the world but we’d argue software has only eaten the digital world…the physical world of critical industries (industrial, healthcare, defense, energy) has yet to be digitally transformed. For software to eat the physical world, we need a new category of Software-Defined Hardware companies that bridge digital and physical with new business models. We must make hardware a core competency, reimagine manufacturing from first principles, meld software and hardware into hybrid solutions - 10x better, 10x cheaper and 10x faster, build new software tools for hardware developers to iterate as fast as their software peers, and infuse responsible AI into the physical world. Just as Salesforce created a new business model that was mis-understood and took years for investors to value properly, Software-Defined Hardware has a new business model where investors must take a similar leap. Low (but expanding) gross margins should be celebrated, excellence in R&D / CapEx should be rewarded not penalized, iterating 100x better solutions to unlock hard markets creates a premium, supply chain resilience is a moat (not a cost), and “long” sales cycles must be offset against higher CAC/LTV than SaaS. Software-Defined Hardware will be more transformational than pure SaaS. A decade ago, we founded Livongo to transform chronic care and they had to make their own glucose meters to deliver a compete solution. Gross margins went down to ~40% but it was the right decision to scale the business. 6 years after its founding, Livongo was acquired for $18.5Bn and a forward revenue multiple of 48X, the highest multiple ever paid in public tech M&A. In 2017, we invested in Samsara when they were a $1MM ARR, they were bundling cameras and sensors for industrial customers and gross margins were ~50%. Today, Samsara is one of only two public software companies with $1Bn+ revenue, 30%+ growth and FCF positive, trading at 13X forward revenues, one of the highest in software. To deliver transformational ROI for their customers, Livongo and Samsara had to bridge the physical and digital worlds. At General Catalyst, we invest in Global Resilience to modernize our most critical, physical industries for us and our allies. We are at the cusp of an industrial renaissance but must move urgently in light of the changing world order. SaaS ate the digital world for 20 years, Software-Driven Hardware will now eat the physical world and transform healthcare, defense, energy and industrial, over the next two decades. #GeneralCatalyst #GlobalResilience #ReIndustrialize #SoftwareDefinedHardware
Paul Kwan “Low (but expanding) gross margins should be celebrated, excellence in R&D / CapEx should be rewarded not penalized, iterating 100x better solutions to unlock hard markets creates a premium, supply chain resilience is a moat (not a cost), and “long” sales cycles must be offset against higher CAC/LTV than SaaS.” Spot on
Amin Arbabian
1mo
Interesting points regarding CAC vs CapEX in SaaS. For more than a decade true moats have been undervalued, and growth-at-all-costs overvalued- let's see if this is about to change.
Dan Magy
1mo
Preach
Steve Xu
1mo
Love this - for too long, physical product companies were considered less attractive precisely because hardware is hard, takes time, is capital intensive etc. In healthcare where we are, pure software plays become rapidly commoditized.
Jonathan Cook
1mo
The "100x better" sounds impossible - but that truly is the difference between physical-world realities and their optimized potential. Fair warning - this is really, really hard to do at every level. :)
Ishu Bansal
1mo
What new challenges do you foresee for investors in the emerging category of Software-Defined Hardware companies, and how can they adapt to this shift?
Mike Slagh
1mo
Joe Barrett
1mo
Spot on Paul. Key is to control the whole tech stack in order to innovate at speed, crush out costs, and meet demanding customer delivery requests, especially at enterprise scale.
Simeon Vance
1mo
Spot on as usual, Paul Kwan. Coincidentally, discussed this in a roundtable yesterday at an AI conference for GCs. My view, albeit through a legal lens, is that the adaptability of software-driven hardware will be key, if not essential, to manage the increasing and evolving regulatory requirements, particularly across multiple jurisdictions.
AI/Ml for the Real World - Company Creation Fund / Venture Studio - Conduit Venture Labs (xMSFT, xKatalyst, xProprio)
1moAs one of the only hardware + software venture studios focused "real-world opportunities" we would love to connect and collaborate to build the next wave of companies together --- we know that the best way to de-risk the hardware is through aligning access and operational experience of those that have dont it before inside a team that can focus on building a portfolio of companies rather than 1 at a time - this way we can help more founders focus on building high impact high return companies... lets go1