During my thirty-five years as a Silicon Valley software entrepreneur, I’ve seen multiple technology revolutions occur, many of which have given rise to dozens of mega companies from Microsoft and Oracle to Google and Facebook.

Education, however, has been a puzzle. There have been no mega-breakout companies in the education technology space. Neither has there been a transformation of education itself that has been as extensive and as far reaching as we have seen in the rest of our economy.

I’ve devoted the past year to investing in, and participating as an advisor to, young startups in this space. And most recently, I've asked myself two fundamental questions: What is unique about the education industry that has in the past made it so resistant to the impact of technology? And is this state of affairs likely to persist--or is it going to be different this time?

I believe the answer will be different this time--but it involves changes from three parties: from the entrepreneurs selling products, the schools that buy them, and the investors who support the startups in this space.

Technology Doesn’t Figure Much in Today’s Schools

The US spends approximately $1.3 trillion in elementary, secondary and post secondary education each year across both publicly and privately funded educational institutions. Only a minuscule portion of that amount--1%--is spent on educational technology. By way of comparison, total technology spending in our economy is around $1.7 trillion, about 10% of GDP. In other words, we don’t use technology much in education compared to the rest of our economy. Why?

IT’s Success Has Come Mostly From Automating Business

Most of the tech industry’s success began by automating low-level clerical functions in factories, offices and retail outlets, and then moved on to other white collar activities involving “higher level” occupations such as finance, engineering, marketing and sales. The Internet and then mobile devices extended this business process re-engineering to include consumers via more “personalized” technologies that revolutionized how we consume our digital music, movies and books. One could argue that the history of the tech industry in the second half of the 20th century has been about automating business processes as relentlessly as Henry Ford automated the manufacturing assembly line during the first half of the century.

Good Teaching Practices Can’t Be Automated Easily

All of us likely remember some great teachers from our childhood--people who instinctively knew how to get into our heads and figure out what was going on when we were grappling with a difficult concept, or who inspired us by making a subject come alive. That's not what technology has done, however.

Educational technology has been effective at solving problems related to school information processing—such as managing student data, testing and compliance. Few products have conclusively been proven to help kids learn better, however. And that means technology has never really been viewed as “mission critical” by most educators and school administrators.

As federal and state governments have amped up attention on improving measurable student outcomes in K-12 schools and increasing college completion rates even as budgets have grown tight, educational institutions have begun embracing technology much more strongly for teaching purposes.

The Latest Edtech Innovations Can Personalize Learning

Up to now, it has simply been too expensive and complicated to have “one laptop per child” in every K-12 school across the country. So computers were usually “shared” either in a classroom or via a computer lab. Such sharing, however, simply made it impossible to personalize teaching for each student.

That's changing: New, inexpensive tablets coupled with cheaper broadband connectivity are finally making it feasible for each student to have a low-cost, personalized device at all times. The devices let students read texts, watch lectures, search for information on the Internet, do homework and interact with teachers and fellow students in a classroom—all at their own pace. Many schools have already started to provide a tablet for each student for their educational use, although the pace of adoption varies depending on state school budgets.

At the same time, there are now hundreds of thousands of MOOCs (Massive Open Online Courses) and online videos available on the Internet for free on subjects ranging from particle physics to the perfect sushi. Most of these are useful for ongoing professional education by individuals who want to supplement their knowledge. Even so many are designed for college and high school students, often as part of a “blended classroom” where the content is delivered online and the teacher’s role evolves from that of “lecturer” to also include that of a “coach” with greater personalized attention for each student.

Many people assume that the education market is most similar to the enterprise technology market...This is a mistaken notion.

In the early days of MOOCs there were many breathless pronouncements predicting the demise of traditional educational institutions in favor of online schools. Much of this early hype has died down. People have realized that while MOOCs will play an important role in education, bricks-and-mortar schools and universities are not going to go away any time soon. Instead, traditional school will likely utilize these newer technologies in as-yet undefined ways to improve the reach, quality and price effectiveness of the education that they offer.

So Does That Make the Education Industry an Attractive 'Market'?

While the education industry is large in the aggregate, it is also extremely fragmented and highly regulated. In the U.S. alone, there are more than 115,000 K-12 public and private schools, 15,000 public school districts, plus more than 4000 higher education colleges and universities. The total number of students exceeds 80 million each year; there are more than 5 million school teachers and college faculty. Each school district and college usually has its own curriculum (based at least in the past on state standards) and its own bureaucracy for purchasing technology.

Education is also considered a “public good” in the U.S. and in most developed nations and therefore the vast majority of educational institutions are heavily regulated. Even with charter schools and for-profit colleges there can be significant government subsidies involved, and there is strict oversight by local communities and state and federal governments. Educational technology spending is therefore subject to ponderous bureaucratic processes designed to ensure that the technology works as advertised and that the purchasing is perceived to be free of corruption. This usually favors more established companies with larger sales forces similar to those of enterprise technology companies.

Is Education an 'Enterprise Technology' Market?

Because of the complex technology selection procedures set up by educational institutions, many people assume that the education market is most similar to the enterprise technology market where technology purchases are also quite strictly controlled by IT bureaucracies. This is a mistaken notion.

The typical Global 2000 corporate enterprise usually has revenues of $1 billion or more. The high cost of creating a sales force to serve these powerful companies is easily justified by the multi-million dollar size of deals that a technology supplier can eventually win. Of the 15,000 public school districts in the US, no more than 100 would qualify to be in this type of “enterprise” category if their schools’ revenues were assumed to be equal to their annual expenditures.

The remainder of the educational market should be more properly thought of as comprising tens of thousands of small to medium enterprises (SME) who also are heavily regulated and have stringent and costly technology buying procedures. It is therefore not surprising that most educational technology companies that sell to K-12 schools simply concentrate on the largest 100 districts and perhaps, later the largest 1000 districts. After they have penetrated these richer districts, their growth slows down or profitability starts to falter because of incrementally higher sales costs for serving the smaller school districts.

Individual Instructional Products Have Small Addressable Markets

While the total addressable market for schools’ computer hardware and/or infrastructure software can be quite large because of the massive number of students being served, the same is not true for individual instructional software. The following numbers illustrate this stark difference:

With 55M K-12 students in the country and with $250/tablet as a purchase price, one could reasonably conclude that the total addressable market for tablets in the U.S. K 12 segment is $13.75B. It is not surprising that major infrastructure players like Apple, Samsung and Google are heavily targeting the education segment by focusing on sales of hardware such as tablets and Chromebooks and/or school-wide software infrastructure such as Learning Management Systems (LMS).

But now let’s imagine a math instructional software startup whose products are targeted to K-6 kids and priced at around $5/student/year, a pretty typical price for such software today.

Assuming there are about 30M kids who could be served by this product, one quickly arrives at a total US addressable market of only $150M per year. Even assuming a worldwide market of two or three times that number would not make the global market be greater than $500M. Since most companies never achieve anywhere close to the total addressable market for their product due to competition and/or price erosion over time, it becomes difficult to build a company exceeding even $50M in revenues on the strength of one product alone.

Adding new products for entirely different instructional sub-segments requires additional expertise and/or financing. As a result, when most educational startups have shown some reasonable market traction, they are more likely to get bought out by a larger industry player so that their product can be sold more efficiently as part of a suite of software.

This is the reason why so few educational technology companies have ever crossed the $100M revenue level on their own steam. The rare $1 billion companies in the industry typically got there via financial mergers and private equity transactions.

Selling Edtech to Schools is Complex and Expensive

For most on-premise educational software products, the school’s IT personnel are usually required to install the software on their site, integrate it into their existing systems and maintain it on an ongoing basis. Since IT is a scarce resource everywhere, schools have set up a gauntlet of district administrators and/or committees set up to deal with technology vendors. The districts want to make sure that they do not waste time installing and maintaining products that don’t meet some minimum efficacy thresholds.

Free software trials and pilots are a way to establish the efficacy of a product as judged by an evaluation committee; once that has occurred, the next stage is price quotation and contract negotiation to buy the complete system. The entire process from pilot to purchase usually takes many months and in the end is so expensive that the only way it can be justified is via large multi-year deals baked into annual school district budgets. The result is a bias among school districts towards large vendors who are used to selling mature school-wide technology on a perpetual license basis to take advantage of big infrastructure budgets, but who can meet the district’s demanding terms for added service and support and can handle the complex terms and conditions set up by districts.

What Should An Edtech Startup Do?

One way that younger startups can handle the impedance caused by long drawn out product evaluation and purchasing processes is by taking a leaf from the playbook of consumer technology companies and going direct to teachers with a “freemium” product (not to be confused with free pilots or trials described in the previous section). These startups are also implementing cloud-based delivery models that enable their technology to be easily installed and maintained with a minimum of IT personnel. This approach enables innovative tech-savvy teachers to experiment with a free product from the company virtually overnight, and if the product is perceived to be useful in their classroom, they help spread the word and it proliferates virally among many more teachers.

At some point if enough of these “experiments” result in hard data about student learning outcomes, the startup is in a position to offer a “premium” version of its product with value-added features for an entire school or district as opposed to for a single teacher. A well-designed freemium sales program can help grow a startup very fast without cannibalizing future revenues, especially if there is a marked difference between the free product and the premium product. With almost 4 million K-12 teachers in the USA, even getting 40,000 schoolteachers to use a free instructional product targeted to all grades would represent only 1% of the total addressable market.

Software as a Service (SaaS) Must Mean Hassle-Free Purchasing

Once there is enough data collected on the efficacy of a product based on free use in a classroom, extending its use to an entire school via a premium offering still requires purchasing to get involved. Here it becomes important to price the product so that it does not require complex contracts and protracted negotiations about discounts. This means getting away from complex perpetual licensing schemes reminiscent of the early software era of companies such as Oracle and Microsoft. These usually included individually negotiated charges for software maintenance and updates, volume-based pricing commitments/discounts, and many creative ways to include professional services into the price of the software itself to meet various budgetary buckets, etc. all of which usually lead to a lot of unused software and/or unhappy customers.

Instead, schools need to learn to buy SaaS (Software as a Service) instructional products online where they pay only for software they need for a year, based on easily identifiable units of use such as "# of students," or "# of teachers," or "# of tablets and laptops," and many more. This is more akin to purchasing sales automation solutions from SalesForce.com which serves more than 500,000 small-to-medium (SMB) businesses along with many Global 2000 enterprises.

But key to SalesForce's success is not just pricing software on a “subscription basis” but its hassle-free cloud-based service for hundreds of thousands of SMB customers, who buy only what they need when they need it, all online. Consumer-oriented software companies, such as Google and Facebook, also do a much better job of selling sales and marketing advertising solutions online to millions of small businesses than was ever possible with the corporate advertising models offered by old media companies.

This “usage pricing” approach is the trend of the future for all digital products. Building school procurement systems around it could do a lot to improve educational technology adoption in schools. Pricing and service delivery for many instructional technology startups today is so simple that purchases can be made entirely via online contracts signed by a school principal (usually up to some level of signing authority pre-approved by the district) rather than by a district administrator via multi-level signature approvals.

Schools that still need to use paper-based purchase orders rather than credit cards have an option to do so even with online contracts. Districts can also decide to limit this decentralized buying approach to school specific classroom software but not for district-wide infrastructure software (such as an LMS).

Silicon Valley Will Need to Treat This Opportunity Differently

Given the unique characteristics of the education technology market, I believe we will have to treat the investment opportunities presented by today’s educational software startups quite differently than traditional enterprise or consumer-software companies.

The markets are smaller, more fragmented yet heavily regulated. And the decision-makers are driven by outcomes that are not easily expressed in dollar terms. Successful entrepreneurs and investors in this space are going to be driven by profitability and by social impact.

Over the past year, I have seen plenty of creative entrepreneurs bursting with energy about their businesses. I gravitate to those who can speak passionately of the impact their product had on a particular teacher or a set of students, and yet can also reel off in a hardheaded way their latest customer adoption stats and revenue run-rates.

The most successful venture capitalists backing educational startups must be mindful of the tradeoffs that need to be made to achieve a return on their investment and also a return for society. For this and other reasons, not all VCs in today’s Silicon Valley feel comfortable participating in the education technology space. Those who do invest usually have a longer time horizon and are comfortable adopting a “get rich slowly but surely” strategy.

With the energy, creativity and money being invested recently in this space, I am optimistic that this time will indeed be different, and that within a generation we could see as dramatic a shift in the K-12 educational landscape of America as we have seen in corporate America in the past generation