Comparative Advantage and Specialization in Execution: Ricardo’s Law Applied to SaaS Development
A development in the present day software economy that is quite interesting is the emergence of software-as-a-service (SaaS) companies that only create SaaS products for others. On the surface, this may seem to be wasteful, but if a founder has experience with how to run an organization, sells to customers, and has a clear vision of the product they want to develop, then why would they not simply teach themselves to code, or create their own internal development team?
There is a simple answer to this, and it comes from one of the fundamental principles of economics that are taught in all undergraduate level courses: the theory of comparative advantage was founded by David Ricardo. What is happening is not that founders are unable to execute, but rather that there is a rational division of labour that has resulted from opportunity cost, uncertainty, and specialization.
Comparative Advantage Beyond Goods and Trade
Ricardo’s main idea was that countries specialize in producing goods not because they are better at making those goods than other countries, but because there is a lower opportunity cost associated with producing different goods in each country. This same principle applies to the global economy and, therefore, to the production of many software-as-a-service (SaaS) businesses.
Most SaaS founders have:
- Industry or subject-matter expertise
- Access to customers and early adopters
- Value-added experience gained through working in the same or similar fields
However, most founders do not have:
- Execution-related skills
- An understanding of system architecture and scalability
- An understanding of how to execute DevOps practices, deploy to the cloud, and monitor performance
- An understanding of how to ensure that the applications they build are secure, compliant, and reliable
- An understanding of how to design user experiences that reduce customer churn and create a seamless onboarding process
Founders can learn the skills they need, but doing so entails a high opportunity cost, as time is diverted away from market validation, pricing experiments, fundraising, and sales. The opportunity cost of hiring execution-oriented resources, by contrast, is relatively low when compared to the value of execution-oriented effort in achieving initial market production.
The economic insight is that execution-oriented companies have a comparative advantage over idea-driven companies; therefore, applying Ricardo’s theory to the production of modern technology products is appropriate.
Why SaaS Execution Is Unusually Punishing
SaaS amplifies the consequences of various error types (cost of execution errors). For example, early stage architectural decisions are path-dependent, creating technical debt that compounds over time. In addition, many types of security failures are characterized by an asymmetry of impact; in some cases, one breach may cause irreversible damage to a company’s goodwill, resulting in considerable amounts of lost future business. Scaling issues also tend to manifest themselves more dramatically than gradually.
Additionally, SaaS development cost structures are heavily burdened at the start, meaning that significant amounts must be spent prior to generating any revenue from a product. As a result, first-time founders can incur much higher costs as they learn by doing than companies that have previously incurred those same costs across many different projects.
From a market standpoint, it is expected that instead of having every founder climb the same steep learning curve, that execution will be outsourced to other companies that have already borne those costs and are specialists in the field.
Case Study: Comparative Advantage in Action (Numbered)
Below is a structured comparison of five SaaS execution firms, illustrating how comparative advantage manifests in practice. Each firm occupies a distinct execution niche, but all benefit from lower marginal cost of “getting it right.”
1. Brights.io
As a complete SaaS execution partner, Brights.io provides solutions for architecture, back-end and front-end development, cloud infrastructure, and post-launch scaling. Brights.io’s comparative advantage stems from its accumulation of tacit, shared knowledge, including prior experience with which technology stacks scale effectively, where founders typically over-engineer their applications, and how to deliver MVPs as rapidly as possible without locking products into fragile technical decisions. Brights.io is able to economically amortize architectural learning across an array of clients, something a single founder is unlikely to achieve in a practical manner.
2. Toptal
Toptal focuses on providing top-tier talent rather than fully managing and delivering products. It unbundles product execution into high-quality labor allocation, while founders remain responsible for the risks and costs associated with coordinating and integrating the workers provided through the platform. However, Toptal reduces the opportunity cost of recruiting and screening talent; its competitive advantage lies not in execution, but in lowering the transaction costs associated with accessing scarce human capital.
3. Thoughtworks
Thoughtworks is near the maximum level of complexity within the industry. The companies they work with all have large-scale, mission-critical systems (typically either enterprise-level or startup with solid funding), and Thoughtworks has institutional knowledge of topics like governance, scalability, and resiliency in large systems. Economically speaking, Thoughtworks has developed expertise in execution of large systems under high levels of complexity, which is something few people consider before their systems fail from too much load.
4. Netguru
Netguru's expertise lies in speed, product design, and UX-driven development. Their advantage is not necessarily based on raw engineering skills, but on rapid convergence towards product-market fit. This highlights a very important distinction: execution specialization is multi-dimensional; companies can also specialize in the manner in which execution occurs, rather than just the occurrence of execution.
5. BairesDev
BairesDev combines execution specialization with global labor arbitrage. Its advantage stems from matching projects to teams whose opportunity cost of development time is lower, while maintaining delivery reliability through process maturity. Economically, it exploits differences in factor costs while preserving execution quality.
Economic Forces Driving This Division of Labor
Multiple factors are helping to drive the increase in SaaS execution specialists:
- Repeat production environments allow the accumulation of task-based human capital at a quicker rate than one-off startups.
- There is an option value associated with time to market in times of uncertainty; thus faster execution increases expected return.
- As products scale the cost of coordinating around shared tasks increases in a nonlinear fashion, thereby benefiting companies that internalise these costs.
All of these forces combined make it necessary to specialise in order to be efficient.
Ramifications for Founders and Markets
For founders, this lowers the barrier to experimentation but not to success. Execution quality converges, shifting competitive advantage toward distribution, timing, and insight. For markets, SaaS development becomes more industrialized: architectures standardize, best practices diffuse, and execution risk declines.
There are tradeoffs. Over-reliance on external execution can reduce internal learning, and product designs may converge. Still, from a welfare perspective, total innovation increases as execution risk falls.
Conclusion
The creation of businesses making SaaS for others is not contradictory; it is simply an example of the comparative advantage principle in action. The founders specialize in those areas where the opportunity cost is the lowest (ideas, customers, and vision), while the firms that will execute the product will specialize in those areas where the opportunity cost is also the lowest (architecture, infrastructure, and delivery).
Similar to Ricardo’s theory that trade leads to an increase in the total output of both countries, the SaaS economy demonstrates that specialization results in an increase in innovation; even if the founders could have created all the components by themselves.
