One of the most frightening issues facing incumbent software vendors (ISVs) is how to convert their operations from a perpetual license to a subscription service business model. This challenge is especially daunting for publicly traded ISVs that face the scrutiny of investors hypersensitive to any downturn in revenues or profitability. One company that has made the treacherous journey across this chasm and is beginning to see the rewards of its efforts is Callidus Software, which has rebranded itself CallidusCloud.
Ever since the Software-as-a-Service (SaaS) idea began to gain acceptance and SaaS companies started to take business away from the legacy ISVs, it has become common knowledge that transforming a traditional software business into a SaaS model requires a “change of DNA.”
It starts with re-architecting the software to be delivered as a shared service, ideally on a multi-tenant architecture. But, it also demands a major mindset change in the way the ISV approaches its relationship with its customers. Rather than forcing customers to assume the burden of making the software work, the ISV must redesign its software to be user friendly and reorient its personnel to ensure the success of its customers.
This means the definition of service and support must change, as well as the go-to-market sales skills and marketing tactics to appeal to more empowered end users in a bottom-up decision-making process rather than the traditional, top-down procurement procedures.
The most painful aspect of the new SaaS model for ISVs is that they can no longer depend on up-front perpetual license sales and profitable maintenance fees to fuel their business. SaaS not only dramatically reduces the up-front revenue stream, but it also delays the revenue-recognition opportunities. This puts severe financial pressure on ISVs attempting to make the shift to SaaS at a time when they were expected to make significant investments in continuous software development, service delivery infrastructure, business process redesign and staff retooling.
So, it isn’t surprising that many ISVs have been reluctant to pursue SaaS strategies and others have only gone as far as hosting their applications on Amazon Web Services (AWS) or other low-cost Infrastructure-as-a-Service (IaaS) providers. Those offering hosted services may refer to their solutions as SaaS or even cloud, but they are really just the latest version of the failed Application Service Provider (ASP) attempts of the past. Like their predecessors, they are doomed to fail long term if they try to give each customer their own software instances and customizations that can’t scale across a growing installed base.
Even the major ISVs, like Oracle and SAP, are learning they can’t avoid the pitfalls of this painful transition process by trying to buy their way around the issue through a series of acquisitions of SaaS companies. Oracle’s latest quarterly financial results fell short of expectations in part because it hasn’t been able to pull together all the disparate SaaS pieces it has accumulated during its recent buying spree into a coherent product portfolio that its sales team can easily sell or its customers can just easily acquire and deploy.
In the midst of all the disruption, which has left much of the legacy software industry in disarray, Callidus Software was facing its own challenges. First, it had to contend with former company executives offering a SaaS alternative that was stealing away business. Second, many of its customers were being drawn to the SaaS model by Salesforce.com and demanded a comparable offering to satisfy their changing sales performance management needs.
Callidus’ CEO, Leslie Stretch, recognized that he couldn’t ignore these challenges and set out to transform his company. Approximately five years ago, the company decided to change its software architecture and pricing model, moving from a virtualized service delivery capability and a recurring subscription fee.
When it began the process in 2008, less than 40 percent of its revenues came from recurring revenue, and that had little to do with SaaS. In 2012, over 70 percent of its revenue was generated from recurring services with its SaaS business up 23 percent while its traditional maintenance and support revenues intentionally went down 12 percent.
Even more importantly, the company’s total GAAP gross margin was 47 percent in 2012, up from 40 percent in 2011, and non-GAAP gross margin grew from 48 percent in 2011 to 54 percent in 2012.
With its gross annual contract value (ACV) bookings up 73 percent in 2012 and billings up 24 percent year-over-year, CallidusCloud is gaining momentum. It is also becoming a model of success for other ISVs that need to build their confidence that they can cross the same chasm to the cloud.
Jeff Kaplan is the managing director of THINKstrategies, founder of the Cloud Computing Showplace and host of the Cloud Innovators Summit conference series, including the Cloud Analytics Summit on May 2 in NYC. He can be reached at [email protected].