10 New Opportunities for Software Vendors
The confluence of new technologies, emerging business models and globalization leads to big business prospects for software companies.
By Romesh Wadhwani, Symphony Technology Group
Aug. 12, 2005
We are in an industry that is having trouble coming to grips with reality.
Software companies thought for a long time that our industry could defy gravity and experience double-digit revenue growth forever.
The truth is that our customers no longer value cutting-edge technology over business results. Our investors no longer value growth over profit. Our employees no longer value options over stability. We are in an industry that needs to make dramatic changes to reinvent itself over the next decade.
When I gave this presentation at Enterprise 2005, I asked the 100-plus software CEOs assembled if they felt their company's best opportunity would be to be acquired by Oracle. No one raised their hand. Then I asked who wanted to leave their software company to run an auto supply business because that industry has more upside? Only a few hands went up.
To me, those responses mean there is still a tremendous amount of hope in the industry. There are exciting new developments - in technology and business practices - that will lead to significant new market opportunities in the next few years. Here are ten trends which will lead to those possibilities.
1) Consolidate or Be Consolidated
There is a perception in the industry that "Darwin's Law" applies: You must acquire or be acquired. This isn't quite the case. Oracle is almost done with its acquisition frenzy. The high valuations they caused are not going to apply to most other vendors.
If you want to be the acquirer, you need acquisition expertise. We all grew up building technology. No one ever gave us a course in executing M&As, post-acquisition integration or anything like that. Most vendors need to retool, and gain expertise to be acquire or be acquired at an attractive - and realistic - price.
2) "New" ERP is a Huge Opportunity
A unified enterprise platform continues to elude the industry. If you only look at SAP, MySAP has multiple code streams, CRM more, NetWeaver, another set. Through development and purchase, Oracle now has 10 to 20 enterprise platforms. Microsoft promised Longhorn in 2006. Then the company delayed the release to 2008, now 2009 or even later.
There is a game being played by major enterprise vendors. They keep baiting customers with a promise of a unified platform but the reality is that it will be many years before such a platform appears from any of the major providers.
This gap presents a giant window of opportunity for new vendors to provide an enterprise platform to customers of these vendors. The platform would need to be provided at 20 percent of the cost of ownership that the customer would have to pay to upgrade to the next version of their current vendor's product (which isn't ready yet anyway) in order to be compelling. Leveraging open source and on-demand applications would enable new vendors to move the larger vendors' installed base to a new platform.
3)The Sun Sets on "Packaged" Apps
Out of the 20 million lines of code in a typical enterprise application, only 2 to 3 million lines provide any meaningful value to the client. Said differently, 20 percent of a software product represents 80 percent of its business value.
Add the fact that customers much spend $5 to $10 on services for every $1 paid for an enterprise application and it is no wonder that customers complain about the price of software.
I feel that our industry created this notion of "packaged software applications" so that vendors could recognize revenue upfront and achieve bigger market valuations. It has also created the notion that maintenance revenue is a good thing to have.
These tactics have resulted in bad behavior by software makers. We end up including every "corner case" need that a client might possibly have in fear that said client will cut its maintenance contract. Before you know it, we have a product that is only worth 20 percent to most customers yet whose total cost of ownership is 100% for all clients.
Software is moving back to an age of semi-custom applications. The future belongs to these products which contain 80 percent of the value for common clients. These products could serve a vertical market, a horizontal process or any number of other niches. Various service providers can fill in the missing 20 percent on a client-by-client basis. This will lead to a sensible revenue recognition and maintenance model that won't force the bad behavior plaguing the industry today.
4) Software Predicts the Future
I've spoken to 50 CEOs over the last two years. What is their biggest technological need? They want to be able to predict future performance. They say, "What if I 'turned the dial' on supply today? How would that impact my business? Or what if I turned the dial on distribution? HR? Sales?"
There is a huge opportunity for software vendors to create forward-looking, predictive, analytical applications - and the platforms for these applications - to gain deep insight into the business.
5) Services Become "The Dog", Not the "Tail"
In software, the product has always been the focus. Services have always been "the tail on the dog." In fact, it should be the opposite.
The portion of revenue software vendors receive from their services business is much smaller than it should be. Smart systems integrators like Accenture and IBM make more off the software products than the vendors themselves.
I recently disaggregated the business models of several software vendors which focus to varying degrees on products vs. services. What I found was that for most companies, neither side of the business was profitable and the CEOs did not understand the root causes of their business model problems.
Vendors need to run both products and services businesses separately with great leaders for each and need to benchmark their performance against best-in-class providers in each category. They need to deconstruct their services business model and run it differently to achieve superior returns - or cut it out altogether.
6) Software Providers and SIs Begin to Look Similar
In a Web Services world, the group providing the software and the group servicing it become indistinguishable. As enterprises move increasingly toward Web Services and on-demand applications, there is a powerful and growing role for business process outsourcers - for every process in a company.
Software providers could become specialty BPO companies themselves - or boutique systems integrators or Web Services integrators. The value delivered to an enterprise will be large under any of these models..
7) The Coming Grid
Enterprises want unified platforms and we're increasingly seeing a move towards the use of grid computing. But the grid is still nascent. There is a lot of infrastructure, underlying operating systems, middleware and visualization tools that are missing or not robust enough today.
There is a significant opportunity to develop the enabling tools and technology that accelerate the delivery of applications and solutions on grid computing platforms.
8) The Emergence of a "Star Alliance"
The "Star Alliance" that binds together United, Lufthansa Singapore Airlines and 13 other carriers provides a seamless, global travel solution to reach nearly 800 airports in 129 countries. These are multibillion-dollar companies that realized they needed partners to offer a friendlier, more valuable experience to their customers. The airlines have integrated capabilities and back office processes which enable global travel.
Fliers choose the Star Alliance - even unknowingly - because they want simplicity and a one-stop shop to deal with. Software has no such "Star Alliance." Enterprise applications have different GUIs, platforms and so on. Perhaps we've let our venture capitalists' expectations, technological dreams and management egos get in the way of a successful client experience.
Imagine a software "Star Alliance," with vendors pulled together around vertical domains or horizontal processes. The products would be held together with pre-integration, common GUIs and united go-to-market models.
Customers would get the full benefit of an alliance between smart companies, plus the extra benefit of innovation from individual vendor efforts. The alliance would enable vendors to band together in a sensible way and integrate common components. It would drive a revolution in buying behavior and possibly drive growth into the double digits again.
9) The Return of the "Sugar Daddys"
The software industry is returning to a time when strategic partners may be the best sources of capital. Venture capitalists have a very jaundiced view of the market today. The opportunity for very large returns is largely gone, and average returns are not what VCs live for.
About 10 to 12 years ago, strategic partners - from within and outside the software industry - were common investors in software companies. Over the past five years, this investment activity stopped, largely due to the economic downturn.
Now these strategic partners are starting to appear again. They need innovation and investing is a painless way to acquire it. Most importantly for vendors, these partners take the long view and are committed to mutual success.
10) Reinvent or Relocate
Facing the massive market shifts, software vendors will only succeed if they reinvent their business model or move their headquarters to Bangalore.
Why? The major Indian vendors are engineering comparable products at a much lower cost. The only thing they're missing is the client relationships - which aren't too difficult to acquire.
So if you think ahead three years from now, your competition will arrive from where you least expect it. Look at Huawei in China. Three years ago, we'd never heard of them and now they're threatening Cisco. You'll need to make changes in your business today that will enable you to leapfrog that offshore competitors when they emerges.
Imagine what an Indian-based competitor would look like. Look at his business model and run his numbers. Then come back and reinvent your business model and be two years ahead. If you do it right, you will be without competitors because they will be scared off by your efficiency.
To really transform your business, you need to do 60 to 70 percent of your development and 50% of your services work offshore and reduce your R&D to 7.5 percent of sales.
In conclusion, I'd like to predict the ten biggest software companies of 2010. I see Oracle, SAP and Microsoft on the list. The remainder will be seven of today's software vendors who take advantage of the above opportunities to transform their business models and realize transformations in revenue and profitability.
Romesh Wadhwani is founder and Managing Partner of Symphony Technology Group. He was the founder, and former chairman and CEO of Aspect Development until 2000 when it was purchased by i2 Technologies.
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Software companies thought for a long time that our industry could defy gravity and experience double-digit revenue growth forever.
The truth is that our customers no longer value cutting-edge technology over business results. Our investors no longer value growth over profit. Our employees no longer value options over stability. We are in an industry that needs to make dramatic changes to reinvent itself over the next decade.
When I gave this presentation at Enterprise 2005, I asked the 100-plus software CEOs assembled if they felt their company's best opportunity would be to be acquired by Oracle. No one raised their hand. Then I asked who wanted to leave their software company to run an auto supply business because that industry has more upside? Only a few hands went up.
To me, those responses mean there is still a tremendous amount of hope in the industry. There are exciting new developments - in technology and business practices - that will lead to significant new market opportunities in the next few years. Here are ten trends which will lead to those possibilities.
1) Consolidate or Be Consolidated
There is a perception in the industry that "Darwin's Law" applies: You must acquire or be acquired. This isn't quite the case. Oracle is almost done with its acquisition frenzy. The high valuations they caused are not going to apply to most other vendors.
If you want to be the acquirer, you need acquisition expertise. We all grew up building technology. No one ever gave us a course in executing M&As, post-acquisition integration or anything like that. Most vendors need to retool, and gain expertise to be acquire or be acquired at an attractive - and realistic - price.
2) "New" ERP is a Huge Opportunity
A unified enterprise platform continues to elude the industry. If you only look at SAP, MySAP has multiple code streams, CRM more, NetWeaver, another set. Through development and purchase, Oracle now has 10 to 20 enterprise platforms. Microsoft promised Longhorn in 2006. Then the company delayed the release to 2008, now 2009 or even later.
There is a game being played by major enterprise vendors. They keep baiting customers with a promise of a unified platform but the reality is that it will be many years before such a platform appears from any of the major providers.
This gap presents a giant window of opportunity for new vendors to provide an enterprise platform to customers of these vendors. The platform would need to be provided at 20 percent of the cost of ownership that the customer would have to pay to upgrade to the next version of their current vendor's product (which isn't ready yet anyway) in order to be compelling. Leveraging open source and on-demand applications would enable new vendors to move the larger vendors' installed base to a new platform.
3)The Sun Sets on "Packaged" Apps
Out of the 20 million lines of code in a typical enterprise application, only 2 to 3 million lines provide any meaningful value to the client. Said differently, 20 percent of a software product represents 80 percent of its business value.
Add the fact that customers much spend $5 to $10 on services for every $1 paid for an enterprise application and it is no wonder that customers complain about the price of software.
I feel that our industry created this notion of "packaged software applications" so that vendors could recognize revenue upfront and achieve bigger market valuations. It has also created the notion that maintenance revenue is a good thing to have.
These tactics have resulted in bad behavior by software makers. We end up including every "corner case" need that a client might possibly have in fear that said client will cut its maintenance contract. Before you know it, we have a product that is only worth 20 percent to most customers yet whose total cost of ownership is 100% for all clients.
Software is moving back to an age of semi-custom applications. The future belongs to these products which contain 80 percent of the value for common clients. These products could serve a vertical market, a horizontal process or any number of other niches. Various service providers can fill in the missing 20 percent on a client-by-client basis. This will lead to a sensible revenue recognition and maintenance model that won't force the bad behavior plaguing the industry today.
4) Software Predicts the Future
I've spoken to 50 CEOs over the last two years. What is their biggest technological need? They want to be able to predict future performance. They say, "What if I 'turned the dial' on supply today? How would that impact my business? Or what if I turned the dial on distribution? HR? Sales?"
There is a huge opportunity for software vendors to create forward-looking, predictive, analytical applications - and the platforms for these applications - to gain deep insight into the business.
5) Services Become "The Dog", Not the "Tail"
In software, the product has always been the focus. Services have always been "the tail on the dog." In fact, it should be the opposite.
The portion of revenue software vendors receive from their services business is much smaller than it should be. Smart systems integrators like Accenture and IBM make more off the software products than the vendors themselves.
I recently disaggregated the business models of several software vendors which focus to varying degrees on products vs. services. What I found was that for most companies, neither side of the business was profitable and the CEOs did not understand the root causes of their business model problems.
Vendors need to run both products and services businesses separately with great leaders for each and need to benchmark their performance against best-in-class providers in each category. They need to deconstruct their services business model and run it differently to achieve superior returns - or cut it out altogether.
6) Software Providers and SIs Begin to Look Similar
In a Web Services world, the group providing the software and the group servicing it become indistinguishable. As enterprises move increasingly toward Web Services and on-demand applications, there is a powerful and growing role for business process outsourcers - for every process in a company.
Software providers could become specialty BPO companies themselves - or boutique systems integrators or Web Services integrators. The value delivered to an enterprise will be large under any of these models..
7) The Coming Grid
Enterprises want unified platforms and we're increasingly seeing a move towards the use of grid computing. But the grid is still nascent. There is a lot of infrastructure, underlying operating systems, middleware and visualization tools that are missing or not robust enough today.
There is a significant opportunity to develop the enabling tools and technology that accelerate the delivery of applications and solutions on grid computing platforms.
8) The Emergence of a "Star Alliance"
The "Star Alliance" that binds together United, Lufthansa Singapore Airlines and 13 other carriers provides a seamless, global travel solution to reach nearly 800 airports in 129 countries. These are multibillion-dollar companies that realized they needed partners to offer a friendlier, more valuable experience to their customers. The airlines have integrated capabilities and back office processes which enable global travel.
Fliers choose the Star Alliance - even unknowingly - because they want simplicity and a one-stop shop to deal with. Software has no such "Star Alliance." Enterprise applications have different GUIs, platforms and so on. Perhaps we've let our venture capitalists' expectations, technological dreams and management egos get in the way of a successful client experience.
Imagine a software "Star Alliance," with vendors pulled together around vertical domains or horizontal processes. The products would be held together with pre-integration, common GUIs and united go-to-market models.
Customers would get the full benefit of an alliance between smart companies, plus the extra benefit of innovation from individual vendor efforts. The alliance would enable vendors to band together in a sensible way and integrate common components. It would drive a revolution in buying behavior and possibly drive growth into the double digits again.
9) The Return of the "Sugar Daddys"
The software industry is returning to a time when strategic partners may be the best sources of capital. Venture capitalists have a very jaundiced view of the market today. The opportunity for very large returns is largely gone, and average returns are not what VCs live for.
About 10 to 12 years ago, strategic partners - from within and outside the software industry - were common investors in software companies. Over the past five years, this investment activity stopped, largely due to the economic downturn.
Now these strategic partners are starting to appear again. They need innovation and investing is a painless way to acquire it. Most importantly for vendors, these partners take the long view and are committed to mutual success.
10) Reinvent or Relocate
Facing the massive market shifts, software vendors will only succeed if they reinvent their business model or move their headquarters to Bangalore.
Why? The major Indian vendors are engineering comparable products at a much lower cost. The only thing they're missing is the client relationships - which aren't too difficult to acquire.
So if you think ahead three years from now, your competition will arrive from where you least expect it. Look at Huawei in China. Three years ago, we'd never heard of them and now they're threatening Cisco. You'll need to make changes in your business today that will enable you to leapfrog that offshore competitors when they emerges.
Imagine what an Indian-based competitor would look like. Look at his business model and run his numbers. Then come back and reinvent your business model and be two years ahead. If you do it right, you will be without competitors because they will be scared off by your efficiency.
To really transform your business, you need to do 60 to 70 percent of your development and 50% of your services work offshore and reduce your R&D to 7.5 percent of sales.
In conclusion, I'd like to predict the ten biggest software companies of 2010. I see Oracle, SAP and Microsoft on the list. The remainder will be seven of today's software vendors who take advantage of the above opportunities to transform their business models and realize transformations in revenue and profitability.
Romesh Wadhwani is founder and Managing Partner of Symphony Technology Group. He was the founder, and former chairman and CEO of Aspect Development until 2000 when it was purchased by i2 Technologies.
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