ERP vendors stake claim to application outsourcing market

Wednesday Sep 1st 1999 by Philip J. Gill
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For a monthly fee, companies get a quick ERP solution at a fraction of the cost.


Small firms may have pioneered the application services provider (ASP) market over the past few years, but big-name vendors are now catching on to the notion of renting out core enterprise resource planning (ERP) applications. In diving into this new market, these established players might finally bring it to maturity as a service-driven business. But the cost model of the ASP market could cannibalize their existing ERP profits in the process.

Although it's been around for a couple years in the form of Web hosting, the ASP or application hosting market didn't get much notice until this year. That's when the notion of renting core ERP applications, such as accounting and human resources (HR)--or outsourcing the hosting and management of these business resources for a set monthly fee--suddenly began to catch on.

"The ERP vendors jump-started the ASP market," says Asha May, an industry analyst with Dataquest Inc.'s Littleton, Mass., office. In their search for new revenue streams and a piece of an emerging market, ERP vendors have given the new ASP market credibility and respectability, say industry observers. Enough respectability, at least, to convince an initial set of customers to outsource their ERP solutions instead of turning to in-house experts or costly consultants.

Now, ERP software vendors want something in return--a piece of the action in what looks to be shaping up as one of the next Internet gold mines. The ASP market is estimated to top $6 billion by 2001, according to Forrester Research Corp., in Cambridge, Mass.

This potentially lucrative market has already attracted start-ups, including so-called "pure-play," ASPs. These include USinternetworking Inc. (USi), in Annapolis, MD.; Corio Corp., of Redwood City, Calif.; and Biztone.com, a San Jose, Calif., startup. Now, all the major ERP software vendors, including Baan USA, J.D. Edwards & Co. Inc., Oracle Corp., PeopleSoft Inc., and SAP America Inc. are joining the fray. In addition, some of the smaller players, notably Great Plains Software Inc., and Lawson Software Inc., are looking for a piece of the action.

Analysts agree that ERP vendors have a role to play in the emerging ASP market. But, since the market is so new and immature, the experts say it's hard to tell how it will evolve, and what role ERP vendors will ultimately play as it matures. "We'll have a better idea of how this market will play out a year from now," says Dataquest's May. "Today, all the ASPs have customers numbering in the tens." Predicting the ASP market's future will be easier when the vendors' customer bases are much larger, May says.

Even the ERP vendors themselves aren't quite sure how it will all shape up. "We're getting into this market now because we want to be a part of it," explains Jim Traynor, director of new business development for Great Plains Software Inc., a second-tier ERP software vendor based in Fargo, N.D. His company wants to be in place if and when the industry takes off.

As the market develops, ERP vendors will face many issues. They're looking to turn a profit of course, and so are interested in pricing. There's also the necessity of distinguishing their ASP offerings from rivals. Over the long term, observers wonder if the emergence of a low-cost, "rent-an-app" approach will create a commodity market in ERP software, and so reduce profit margins for the entire industry.

Creating a new channel

For ERP vendors, the ASP market represents a new channel to help them reach a customer base they've had trouble selling to before, largely for economic reasons. The target audience for this new channel consists of start-up enterprises and small and medium-sized companies, the latter defined by ERP vendors as companies with under $1 billion in annual revenues.

The traditional audience for ERP software, $1 billion-plus companies, including the Fortune 1000, can afford the millions it takes to purchase, implement, and maintain these systems, but such a price tag remains beyond the reach of most firms. Hence, the basic value proposition for customers hinges on the economies of scale inherent in the ASP model. The new approach opens up opportunities for the ERP software vendors, as well as others chasing Web hosting, e-commerce, and dozens of other applications and services that lend themselves to the Internet computing model.

"The ASP model allows ERP vendors to amortize the cost of applications, service, and maintenance over more companies, and presumably deliver applications at a lower price point," says Martin Marshall, a director of research at Zona Research Corp., a Redwood City, Calif., market research firm. Such an approach offers users uncertain but possibly significant savings.

The new breed of ASPs:

Traditional software Vendors join the fray

Baan USA
Reston, Virg.
www.baan.com
ASP offering: A separate outsourcing division within Baan USA with profit and loss responsibility offers the Baan IV application suite. Customers can rent or purchase software.
Business model: Partnerships with ASP/application outsourcing companies selected on a regional basis with the intent to achieve global reach. Current partners include Metamor, Productive Online, and Premier Systems in U.S.; Hong Kong Productivity Council, Southeast Asia; and Groupe Bull, France and Europe. Division is not yet profitable.
Biztone.com
San Jose, Calif.
www.biztone.com
ASP offering: Proprietary ERP software written in Java called Biztone.com ERP. Applications rented on a per-transaction basis. Service includes applications, application hosting, support, and maintenance.
Business model: Start-up company, "pure-play" ASP with direct sales. Not yet profitable. Developing own ERP apps, beginning with financial suites, and offering them only through its own ASP data centers.
Great Plains Software Inc.
Fargo, N.D.
www.greatplains.com
ASP offering: Application hosting and management based on Dynamics ERP suite.
Business model: Business unit with P&L responsibilities within existing corporate structure to provide ASP services through alliances with existing network of 1,400-plus resellers. Most will resell ASP services hosted by IBM Global Services. A few select resellers with the right facilities will become ASPs in their own right.
J.D. Edwards & Co.
Denver, Colo.
www.jdedwards.com
ASP offering: World and OneWorld ERP suite application hosting and management via IBM Global Services. Other existing resellers with data center capabilities will provide vertical market specialization, such as World Technology Services of Seattle, which targets the construction industry.
Business model: Outsourcing business division within existing corporate structure. Not yet profitable.
Lawson Software Inc.
Minneapolis, Minn.
www.lawson.com
ASP offering: Application services based on Lawson Insight II ERP suite.
Business model: Alliances with USinternetworking Inc., which will add Lawson Insight II applications to existing ASP product offerings.
Oracle Corp.
Redwood Shores, Calif.
www.oracle.com
ASP offering: All modules of Oracle Applications Suite v. 11.0 are available on an outsourced basis to Oracle Business Online customers.
Business model: ERP software vendor with its own ASP business unit. Oracle's Business Online is the exclusive ASP for Oracle applications. Also established iHost to allow its ISVs to offer ASP services that combine third-party apps with Oracle ERP modules.
PeopleSoft Inc.
Pleasanton, Calif.
www.peoplesoft.com
ASP offering: PeopleSoft application suite available on an outsourced basis with customization and maintenance services.
Business model: Partnership with two ASPs: Corio and USinternetworking
SAP America Inc.
Newtown Square, Penn.
www.sap.com
ASP offering: SAP R/3 application services, customization and maintenance available through partners.
Business model: SAP is establishing a select list of partners that have very targeted markets. All partners have primary and secondary target markets. Primary markets are based on revenues, i.e. Eonline's primary target market is start-ups with $200-300 million in revenues. Partners Qwest and Hewlett-Packard target companies from $200-300 million to under $500 million. Electronic Data Systems targets companies over $500 million in revenues.




For the most part, ERP software vendors are following similar business models for reaching the new ASP market. With the exception of Oracle and start-up Biztone.com, the ERP software vendors are forging a sometimes complex series of alliances and partnerships to reach the ASP market. SAP, PeopleSoft, and Lawson have joined with new allies, including systems integrators, telecommunications companies, hardware companies, and dedicated ASPs. Baan, J.D. Edwards, and Great Plains, companies that have traditionally relied heavily on a network of resellers to reach vertical markets, are looking to leverage those existing relationships into the ASP space.

In contrast, Oracle and Biztone.com offer their own applications directly to the end customer, skipping partners. For both, their own ERP applications form the core of their offerings. Oracle, in fact, has a two-pronged approach to the ASP market. It will sell application services to traditional corporate customers and sell a complete software infrastructure to other ASPs that don't have their own ERP suites.


The ERP vendors are relying heavily on their applications to provide them with a competitive advantage.

Profits are largely nonexistent in the nascent ASP market, but that's to be expected in any new territory. All of the ERP vendors have formed separate profit and loss centers on their balance sheets for their ASP initiatives, though none of them are willing to give out numbers just yet. Oracle's Business OnLine (BOL) is the most formal manifestation of that approach, and may be spun off as a separate company later on. Oracle is also the only company in this market that claims a profit so early in the game, with 25 signed customers, and about half in production.

Of all the ERP software vendors, however, J.D. Edwards claims to have 27 customers in production, according to the company's vice president of outsourcing Gayle Sheppard. Still, Sheppard doesn't claim profitability.

Making money is no problem as far as Tom Melchiore, SAP's director of outsourced solutions is concerned. "We know what our costs are," says Melchiore. "We can build our margins into the monthly rental fees."

Competitive advantages

With so much in common, the ERP vendors are relying heavily on their applications to provide them with a competitive advantage. Some stress service levels and reliability. Oracle's Business OnLine, for instance, promises 99.3% application availability and 100% network availability in its standard contract, says Oracle BOL vice president of sales and marketing Gary Robinson.

PeopleSoft, on the other hand, stresses customer service. Farrell Griswold, PeopleSoft's director of new business development, says the company's ASP customers sign only one contract and have only one interface for support and problem resolution. In contrast, Griswold contends that some of the other ERP vendors require customers to negotiate and sign multiple contracts--one with the ERP vendor, one with the vendor's hosting partner, and possibly a third with an implementation partner, for example. And service and support is just as complex, he adds.

All of the ERP vendors offer customers the choice of renting applications from an ASP or purchasing the software, either upfront or over time, and then outsourcing the actual application hosting, management, and servicing. Because the situation varies so much from customer to customer, and the market is so new, there are no standardized price points yet that can give one ERP software vendor a competitive pricing advantage over another.

Prices vary from customer to customer, and vendor to vendor, depending on the number of applications, the number of users, and the service provided. These software vendors essentially have the pricing power to make their margins. SAP's published prices, for instance, range from $400 to $600 per user, per month. Obviously, the lower the cost, the more customers ERP vendors can reach via the ASP channel. "Pricing will be key in this market," says Dataquest's May.

The ASP market could even conceivably weaken any competitive advantage ERP vendors have today, notes Zona's Marshall. The risk is that margins will plummet and compel vendors to scramble for customers in order to turn a profit.

Although they originally started in financials, HR, and manufacturing, the larger ERP vendors have expanded the scope of their applications suite to encompass additional areas such as supply chain management and customer resource management (CRM). Despite their broad product lines, each of the major players in ERP software today possess particular strengths in their application suites--SAP in manufacturing, Oracle in financials, PeopleSoft in HR, for example. There's little to stop a pure-play ASP such as USi or Corio from creating a "best-of-breed" suite comprising the strongest applications from each vendor, and integrating them, at least superficially, with a common Web-based front end. This, in fact, is Usi's basic business approach, says USi vice president of strategic development Jim Stalder. "You can look at our product line today and it's not difficult to see the gaps we're likely to fill," he says.



Leaving Their Mark

In laying claim to a piece of the ASP action, the ERP vendors join a growing list of more than 80 participants, according to recent research from Zona and "ASP News Review," a U.K.-based online newsletter. Some analysts believe ERP applications will prove key to the emerging industry. "ERP vendors will provide the backbone infrastructure that will drive the ASP market," says Steve Bonadio, a senior analyst at Hurwitz Consulting Inc., in Framingham, Mass.

Zona's Marshall disagrees. He says his firm's research shows those ASPs offer a wide variety of applications and services, including Web hosting, e-commerce, personal finance, storage services, excess processing capacity, and more. Because of the great diversity of offerings, he doubts ERP applications will drive the market.

"Companies that need to establish a quick Web presence for e-commerce will continue to drive this market," says Marshall. ERP applications will form an important secondary product category, but they don't drive the market forward.

The evidence so far is mixed. At USinternetworking Inc., a pure-play ASP, the company's $95 million in revenues for 1998 breakdown evenly into four areas: 25 percent each for PeopleSoft ERP, Seibel Systems Inc. CRM, e-commerce, and complex Web hosting and management, says USi's Stalder.

Dataquest's May says e-commerce and Web hosting may be what pulls in customers but, very quickly, those same companies will see a need for CRM applications for sales automation, order entry, customer management, and customer service. And, once those customers have e-commerce and CRM in place, they'll very soon realize they need to tie those into ERP applications.

Still, analysts admit it's not altogether certain that the target audience will buy into the ASP market in large or significant numbers, despite the rosy market research forecasts.

Zona's Marshall, for one, says many companies simply won't want to give up control of what they perceive to be mission-critical business applications to an outsourcer, no matter how low the cost or how good the service.

The biggest danger some analysts perceive for ERP vendors in the ASP market may be how it could alter the economics of their existing marketplace. Hurwitz's Bonadio, for instance, says it's a distant but definite possibility that ERP vendors could inadvertently create a commodity market by driving down prices to reach a broad base of potential ASP customers.

USi's Stalder agrees. He predicts that over the next ten years or so, the ERP software market "will become one in which the majority of business transactions are rentals rather than purchases."

If that comes to pass, says Bonadio, the key to making money will be the services end of the business, not the rent-an-app segment. And if that's the case, the Oracle approach of going direct and providing all the applications and services itself could end up being the right one for long-term profits, says Bonadio.

That would be a major change of direction for an industry that has been driven so far by technology and products. It would likely pose significant challenges to companies unprepared for such a shift in focus.

Or it could be that some ERP applications might become commodities, and not others. General ledger applications aren't strategic and aren't generally customized, making it more likely they could become commodities in the ASP market, while others, such as CRM, would not.

Dataquest's May disagrees. "The emerging and small company market space is a large enough opportunity not to commoditize application sales." Handling the transition to annualized subscription sales will be the real bump in the road for ERP software vendors, says May. "The real question for ERP vendors is how they will manage the transition from licenses sales to subscription revenues, and how those software companies going to recognize the revenues," May adds.

And while subscription revenues should smooth out some of the ups and downs ERP software vendors have suffered, providing a continuous stream of rental revenues may not resonate immediately with Wall Street investors.

No matter what challenges await, the ERP vendors see the ASP market as too big an opportunity to pass up. PeopleSoft's Griswold sums up a common sentiment in the ERP software vendor community, "I take those market forecasts with a grain of salt," says Griswold. "All I know is it's going to be a big opportunity."

Philip Gill (philipgill@aol.com) is a San Diego-based freelance writer.





Personnel shortages drive companies to ASPs

Application outsourcing is a cost-effective alternative to consultants.

In this article:
Sebastiani Vineyards purchased SAP R/3 and outsourced the hosting
Start-up ConvergeNet conserved precious capital by going the ASP route

A critical shortage of appropriately skilled information technology (IT) professionals is what drives many small and medium-sized companies to outsource critical business applications to application service providers (ASPs).

With IT talent so hard to come by, it makes sense for corporate IT managers to turn to specialists who have a pool of talent and experience from which they can draw. As if to emphasize the benefits offered by ASPs, early ASP customers cite costs, implementation speed, time-to-benefit, and the need for a quick Year 2000 fix as reasons for turning to vendors of outsourcing services.

Quick start in the vineyard

Andrea Norup, a systems analyst at Sebastiani Vineyards Inc., says that when the Sonoma, Calif., winery went looking for a quick solution to Y2K compliance issues with its existing systems, finding the software to remediate its systems was a lot easier than finding the personnel to implement and maintain it.

Norup says the outsourcing approach provided the fastest solution to the company's Y2K concerns, as it didn't have to hire in-house SAP professionals, who are scarce and expensive in the San Francisco Bay Area. "It's very hard to attract and to keep the skilled IT personnel we need," Norup says.

Sebastiani purchased SAP's R/3 modules, including accounting and HR, but outsourced the hosting and maintenance of the applications to Electronic Data Systems Corp. (EDS). As is usual in such arrangements, a specialist company provides business-logic and screen-display customization.

Best use of resources

For others, it's not just a scarcity of people but also of dollars. ConvergeNet Inc. president Dick Watts, whose San Jose, Calif., company is building a storage area network (SAN) product for debut later this year, says the ASP approach made the most economic sense, given that his company doesn't have unlimited funding.

"We wanted to preserve our capital for our business," Watts says. "We felt it was better to invest the capital in our products than in purchasing hardware and software for our business applications, when we could rent them at a lower cost."

The company is leasing Oracle Financials to start and expects to rent additional modules from Oracle Business OnLine--Oracle's ASP initiative--such as purchasing, supply chain management, sales automation, and customer support, as it builds business. Watts notes that another advantage of the ASP model, especially for small, fast-growing companies, is that it allows the company to start with only what it needs, and ramp up as it grows.

ASPs appear to be hitting their mark. Among the announced ASP customers so far, there's a preponderance of small high-technology firms, many of them start-ups in e-commerce or related Web-business ventures. For example, two early Oracle Business Online customers are Core Technology Group, Inc., a vendor of enterprise database and data warehouse technologies, and ConvergeNet Inc., which sells data storage systems. Both are San Jose, Calif., start-ups.

Redwood City-based Corio Inc.'s customers include Clarent Corp., Excite@Home, Internet Service Provider, Internet telephony company, and integrated voice and data communications firm, Vertical Networks.

USinternetworking Inc. (USi), which shares Annapolis with the Naval Academy, serves Lattice Communications Corp., an applications software developer for mobile computers, Liveprint.com, a marketing communications firm, and NetGift Registry LLC, a Net-based gift registry.

ERP vendors say that such a Web-intensive, high-tech focus is to be expected, given that many of these companies are basing their existence on the Internet computing model already and so should have a higher comfort level with ASPs. "They get it," says Great Plains manager of new business development Jim Traynor, manager of new business development for Great Plains Software Inc., Fargo, N.D. "They [naturally] understand the value proposition of the Internet." --P.J.G.



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