Can open source IT be a money pit?

Can open source IT be a money pit?

Summary: Last year, Doug Kaye over at IT Conversations recorded an interview with MIT professor and serial entrepreneur Philip Greenspun. Greenspun's most successful venture to date (revenue-wise) was probably ArsDigita -- an open source business that flamed out after he handed the reins over to venture capitalists who, he claims, ran a perfectly good company into the ground.

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TOPICS: Open Source
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Philip GreenspunLast year, Doug Kaye over at IT Conversations recorded an interview with MIT professor and serial entrepreneur Philip Greenspun. Greenspun's most successful venture to date (revenue-wise) was probably ArsDigita -- an open source business that flamed out after he handed the reins over to venture capitalists who, he claims, ran a perfectly good company into the ground. Also under Greenspun's belt is photo.net (a prosumer photograhy site that boasts of 10 million hits of day) and, my personal favorite, a central role back in the 1980s with Symbolics Inc. About the same time he was working for Symbolics, I was working on a Symbolics system trying to learn the ropes of artificial intelligence and the LISP programming language.

PodcastWith several successful ventures on his resume, Greenspun's business insights are worth listening to. During a recent cross-country flight, I listened to Kaye's interview of Greenspun. In a segment of the discussion that I transcribed (below), Greenspun spoke eloquently about the economics of open source to two different audiences: those looking to make money at it and those thinking about building their IT around it. In the passage, Greenspun explains how an IT shop's leveraging of open source's openness can lead to the same sort of costly maintenance nightmares that customizations of proprietary software have led to. In the same breath, Greenspun adds, that maintenance headache can be the source of millions of dollars in revenue to an open source developer (or IT services company) -- provided that the focus is on Fortune 500 customers who can pay and that a very fine line doesn't get crossed. (Perhaps this is the key to IBM's success with its services group.) The passage gave me a new perspective on open source that I hadn't considered before. Here's what Greenspun said:

Greenspun: Customers don't want to be left as orphans. So, in other words, open source is great for unsolved problems that people don't understand very well. An open source word processor is not very interesting because the word processor was invented in the 60s by IBM and pretty much most people now agree on what a word processor should have. The newer the business problem, the more imperative it is that the solution be open-sourced so that the customer can tweak and extend that system. Open source is good for the customer when you have relatively novel or poorly solved problem.

At the same time, the customer will always have a few differences from your main source code and to the extent that those features aren't rolled back into the main release, they're always going to be orphans. They're always going to have this stuff on the side that they're going to have to own and maintain, which they really don't want to do. Their business isn't software development. They don't want to have ownership. They'd much rather pay you, the software developer of that code, to make the changes and put those features that are not core to their features into the main distribution of the software so that if they ever want to upgrade to a new version, they won't have to undertake the project of recustomizing that for their special needs. So, basically, if you are in control of a piece of software, you really have the ability to charge a lot more than an ordinary IT services business to make modifications. You have the power to roll that into the next release. So that's one thing that is good about open source.

The thing that's bad about open source is its very unforgiving if your costs and your time goes up. For example, in the early days of ArsDigita, we did a lot of things sort of MIT grad school style. We took fairly young people who wanted to build their careers and professional reputations and we'd have two of them to a project. So two programmers were totally responsible for the project and they met directly with the customer to find out what was needed. They wrote the specs. They wrote the docs. They wrote the code. They tested it with the customer. They made the enhancements as requested. They showed the profit when it was done.

One of the things that the venture capital folks did was they noticed, hey, this is very conventional. You don't want to have programmers selling a project, or doing project management or keeping a customer happy. So, they hired a sales person to do the selling, project managers to keep the schedule, client services people (but I never did figure out what they were supposed to do). Keep the customer happy. So you ended up with seven or eight people on a project where formerly you had two. That inevitably means that more things have to be written down.

That you need more meetings and things just go slower, the cost goes up of course. So, basically, in the closed source world, this may not be a problem. You can get your freshman microeconomics student to tell you "well, if your price goes up this much and your delivery time goes up this much, your demand goes down that much, here's where the market will clear." The problem with open source is that the only good customers are the Fortune 500 companies that all have an internal IT department. If you are a dollar cheaper and a day faster than their internal IT department of these various companies, you have a potential market in the billions of dollars. If your costs go up to the customer by $2 so that you're now a dollar more expensive and your delivery time goes up by two days so that you're now a day later than they can get it done internally, your potential market goes to zero. You go from potentially billions of dollars if they can save a little money and a little time -- there's a lot of big companies out there -- to a product that nobody wants.

Kaye: But that's true of whether it's open source or not.

Greenspun: No, because if it's closed source, they can't just download the TAR file and have their IT people make the needed changes. They have to go to you to make the customizations. So that's something that investors in an open source company have to be aware of -- that it's a more brittle business and inefficiencies that cascade and pile up on each other can devastate your business in a question of months. So, where I had been making a profit every month, the venture capitalists managed to go through nearly $50 million in cash in about a year before they flamed out. So, that's a word to the wise. If you're going to be an investor in one of these companies, really watch to make sure they don't put in any costly or slow management structures.

The audio interview, which can you can download as an MP3 (or, if you're already subscribed to our podcast feed will show up in your podcatcher automatically; see our how-to), certainly changed my perspective on open source. How about yours? Let me know using our TalkBack below.

Editors Note: The above transcription as well as the pointer (technically an enclosure) from ZDNet's podcast feed directly to Doug Kaye's interview were published with Doug Kaye's knowledge and permission. The content was originally published under the Creative Commons Sampling 1.0 Deed (Some rights reserved).
with MIT professor and serial entrepreneur . Also under Greenspun's belt is (a prosumer photograhy site that boasts of 10 million hits of day) and, my personal favorite, a central role back in the 1980s with Symbolics Inc. About the same time he was working for Symbolics, I was working on a Symbolics system trying to learn the ropes of artificial intelligence and the LISP programming language. With several successful ventures on his resume, Greenspun's business insights are worth listening to. During a recent cross-country flight, I listened to Kaye's interview of Greenspun. In a segment of the discussion that I transcribed (below), Greenspun spoke eloquently about the economics of open source to two different audiences: those looking to make money at it and those thinking about building their IT around it. In the passage, that maintenance headache can be the source of millions of dollars in revenue to an open source developer (or IT services company) -- provided that the focus is on Fortune 500 customers who can pay and that a very fine line doesn't get crossed. (Perhaps this is the key to IBM's success with its services group.) The passage gave me a new perspective on open source that I hadn't considered before. Here's what Greenspun said: But that's true of whether it's open source or not. The audio interview, which can you can download as an (or, if you're already subscribed to will show up in your podcatcher automatically; see our ), certainly changed my perspective on open source. How about yours? Let me know using our below.The above transcription as well as the pointer (technically an enclosure) from ZDNet's podcast feed directly to Doug Kaye's interview were published with Doug Kaye's knowledge and permission. The content was originally published under the

Topic: Open Source

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38 comments
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  • Open source's market

    From the article:
    The problem with open source is that the only good customers are the Fortune 500 companies that all have an internal IT department.

    [Also, open source products with a future are not those like word processors that are already defined.]

    So, if your business model is selling services, and the main reason open source is accepted is because of what the buyer's own IT can do, your chances for on-going revenue are...

    The buyer wants the supplier to create the code and then help maintain the user's own modifications to that code. Have a version of the product for every customer. And purchase only new versions with significant enhancement.

    Frankly, threading the eye of a needle from 6 feet away sounds easier than making a lasting profit in this scenario.
    Anton Philidor
    • go ahead and discount what's obviously working

      Ive' never made money out of anything that's easy to do.
      I'm pleased you're removing yourself from the market niche (less competition = more money for those that are in it).

      "The buyer wants the supplier to create the code and then help maintain the user's own modifications to that code. Have a version of the product for every customer. And purchase only new versions with significant enhancement"

      This describes most custom software, which is usually based on a template you have in your software house.

      The custom software market is enormous compared to the shrink wrapped market.
      In all probability, the coders make a lot more money in custom software than they do for shrink wrapped work (you can outsource shrink wrapped stuff more easily).
      hipparchus2000
      • You both glossed over the major economic issue

        The target audience is Fortune 500 companies - which means they have the means to have their own IT setups. That the only way to make money in this niche to to keep the cost below what the IT staff can produce. Once your costs get close to the captive staffs then you are toast, out scratching for another job - cause what you are doing is open for everyone to see.

        Yes possible to do. However, it also means that forget about the service company expanding (yes, IBM was the exception - but IBM was already a company with a business plan and model BEFORE it adopted the open source services model) if you are a start up. And as a developer - where is your time more critical and worthwhile? In development or as a salesman/customer relations person?
        quietLee
        • A major economic issue.

          Yes, when the in-house IT can work on your program cheaper than you can, that's the end of the line for the contract. The only way to stay ahead of the wave is to keep providing modifications for the individual company faster and cheaper.

          Custom software for multiple companies simultaneously, with a time limit. The ultimate limit is when the software does what the company requires.

          But the key is, what's being sold is not service, but software. The hapless open source model of giving away the primary product and making money off ancillary charges is dead. This is just an acknowledgement of that fact.

          That's the key: open source isn't viable as a model for a company. Not unless it can move fast in innovating any number of companies simultaneously.
          Anton Philidor
          • Isn't the point to make money off services

            From what I see in the proprietary software world is that you pay say $100,000 for the software and $20,000 for annual maintenance and support (usually is 20% of purchase cost). So the proprietary guy is always trying to come up with a new product every 3-5 years to sell you to keep the maintenance costs coming in. Now if opensource software is out there already and company decided to offer service for this they can do it for less because they don't need to develope a product so you could get the equivalent $100,000 software for nothing and pay only say $10,000 a year in maintenance and suport. Over 5 years you'd save $150,000 and the service company makes $50,000 with out the over head the proprietary software vendor has. The you add in custom development and you have viable business model. Not a simple business model but a viable one.

            This business model works for Microsoft support companies why not for Linux or other opensource software. In fact why not do both and get an edge over the competition.
            voska
          • Service money from those needing services least.

            The point in the interview is the Fortune 500 market has its own IT, so open source starts out being a niche. They buy your product because it's easier and faster to hire you than to do the same thing themselves. The moment in-house is cheaper, you're gone.

            If you're proprietary and the market buys a black box solution, then they can't compete with you on your own product. If your upgrade provides value, they have to buy it; they can never improve your product themselves.

            That makes proprietary the true money pit for the buyer and continuing revenue stream for you. That's the situation you want.

            Onee way you keep it going is to give the buyer tools to adapt your product to specific needs. Then the buyer is even more tied to your product. The buyer gets useful software, but never becomes your competitor for their business.
            Anton Philidor
          • Fortune 500 Companies

            Apparently you have never worked at a Fortune 500 Company. It is quite easy to be cheaper and faster than the "in-house" IT staff. First reason, Fortune 500 companies have large HR staffs and employment policies that must be consistent throughout the enterprise. This means meetings, trainings (ethics, diversity, policies), and multiple levels of management (functional vs departmental vs project). So you get meeting after meeting after meeting. Everything must be documented to the nth degree (ISO 9001/9002) and very little productive time for their in-house IT staff to "work" on coding business logic. In short, the vast company's bureauracy put it at a great disadvantage in activities that were outside of its core competency.

            This type of business structure efficiency is summed up by the Overhead Factor applied to each "productive" persons salary rate. The last Fortune 500 company I worked for the overhead rate was over 100%. That means that every $1 paid in gross salary cost the company over $2 from its revenue stream. (This ignore the G&A cost factors that were another 50%) At this company, the IT staff consisted of only a small group that administered and gave oversight to the vast amount of work that was outsourced to smaller, much more efficient companies.

            This same principle is true for technology development companies. Many small high-tech companies (making scientific instrumentation, satallite components, application specific computing infrastructures for remote vehicles, aircraft or ships) are getting a great deal of business from larger companies that don't want to invest in developing the talent or technology in-house. Many time the smaller companies consist of ex-emplyees that know the problems and solutions. they sell it to the big guy and make a lot more money because they provide it at a reduced costs but can pay themselves the money that went to the bureaucracy if they stayed "in-house." What this does is eliminate a lot of unnecessary "middle management" (pointy haired bosses) from the flow of goods/services and money.

            Open source software provides for the little fast and efficient companies to thrive while supplying better vale to the Fortune 500 Company. If you read the interview, you would have noted that the additional "team" members that the VC insisted upon placing in the work-flow process, to "protect" their interest in the process, actually made the process much less efficient and ruined the company. It's been my experience that this is what VCs and their team of MBAs usually do. However, in many cases, they can keep it secret that the company is melting down just long enough for the IPO and their cash-out. Then it's the problem of the stock investor who gets the real bath.

            I find it amazing how many people will profess that they understand business models when they haven't been exposed to the full range of business experience/structures from start-up to small company to bought-out company to Fortune 500 company and back. It looks like a large company is poised to buy my employer. These guys started and grew the company for over 30 years and it's now employee owned. These senior guys (holding most of the stock) don't have a clue regarding what's about to slap them right in the face as they have been sheltered from the realities of the big, global company beasts.
            jacarter3
          • Be glad for the inefficiencies of large companies.

            You're right that large corporations are burdened by the pointy-haired bosses in their midst.

            As an aside, colleagues and I have been debating whether the Peter Principle or the Dilbert principle is more appropriate.
            The Peter principle is: individuals get promoted from positions in which they are competent until they reach a position in which they are incompetent. There they stay.
            The Dilbert principle is: incompetent individuals are promoted to get them out of the work flow, so that the remaining, competent individuals can get the job done.
            Obviously, the key difference is whether the individuals promoted were ever competent at any job. Thus, discussions become tests of memory and informal evaluation of past competence. That's why it's almost impossible to come to a decision.

            However, as the quote from the article shows, large corporations are capable of producing something sometime, particularly when a lot of the work has been done in products already purchased:

            The problem with open source is that the only good customers are the Fortune 500 companies that all have an internal IT department. If you are a dollar cheaper and a day faster than their internal IT department of these various companies, you have a potential market in the billions of dollars. If your costs go up to the customer by $2 so that you're now a dollar more expensive and your delivery time goes up by two days so that you're now a day later than they can get it done internally, your potential market goes to zero. You go from potentially billions of dollars if they can save a little money and a little time -- there's a lot of big companies out there -- to a product that nobody wants.


            The companies incapable of producing anything at all dio not remain forever with their own in-house IT. Or, at least, not under blatantly ineffectual leadership. Though resolution does take time.

            One of the difficulties is that the people who want to get into the stratosphere at large corporations realize they have to avoid IT. I remember a NY Times Magazine story about an extremely successful woman at a large corporation had begun in IT. She moved to sales as soon as possible, and tried consciously to assure no one remembered her time in IT.
            That's why corporations will sometimes have executives from elsewhere take over IT. They come in to get credit for fixing problems, but anticipate escape as soon as they've earned sufficient credit.

            As Tolstoy said in Anna Karenina,
            Happy families are all alike; every unhappy family is unhappy in its own way.

            Large corporations find their own way to manage IT, but there are similarities.
            Anton Philidor
          • Analogy - but no more cars!!!

            Yes yes I know, analogies are always suspect, but let me forge on anyways...

            Lets keep this in a service model. Person puts up his shingle as a carpenter - his 'trade secrets' are his experiance and time spent learning the trade, plus the very strong economic incentive to create alliances with suppliers, other tradespeople, and having professional tools.

            Now comes the current 'fad' of the DYIer - is that person a threat to our friend the carpenter or not? After all, our weekend warrior can just run to the local Home Depot and get the same 'stuff' as the professional carpenter.

            Where the professional does have the edge is in time and experiance - his 'edge' is the value he provides in terms of those two items. The weekend warrior, no matter how good he/she is, can never match it.

            Now, not to say that OS folks are weekend warriors, that is not the point of the analogy at all. However - again as the code source is open to all to see, what is the value being provided - UNLESS THERE IS NO IT DEPARTMENT TO COMPETE AGAINST? The open source supplier is not competing against weekend amateurs - so he has to keep his costs so low as to keep his price competitive - as his/her work can now be easily maintained/improved upon/copied by the customer. Now while keepng cost low by keeping overhead reduced is a good thing, it also means that the open source guy has to spend more time being a generalist and running the business, and lose time doing his/her craft - a loser in the long run and not very efficient.

            At least this is what I got out of the article.
            quietLee
          • Re: Analogy

            "Now, not to say that OS folks are weekend warriors, that is not the point of the analogy at all. However - again as the code source is open to all to see, what is the value being provided - UNLESS THERE IS NO IT DEPARTMENT TO COMPETE AGAINST?"

            This is correct as far as it goes, but you must also take into account that the experitse is not the only factor. What if I have to get my roof fixed by Sunday before the big storm, but no "professional" is available until next Wednesday?

            Availability is another factor, especially in these times where IT departments are leaner and meaner. Many IT business models have a built in budget for contract labor for those needs that are outside the norm. Most companies do not have staff to customize all of the SW they want customized, so on those projects where the need is not going to be long term and/or ongoing, contract labor is used. In this case, the "professional" is augmented by another "professional" that is just used on a temporary basis.
            Mack DaNife
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      • The inherent value of the software.

        Yes, custom software. We're agreed: this is paying for the software. Important initial point.

        Then the question becomes repeat business and continuing contracts. Wouldn't you agree open source is at a disadvantage?

        Advantage for custom as opposed to inhouse comes from upgrades faster and cheaper, as well as from sales of the base product. Which is able to charge more and more often, open source or closed?

        So, I'd say your point is a good argument against open sourcing custom software.
        Anton Philidor
        • Disagree

          " Which is able to charge more and more often, open source or closed?

          So, I'd say your point is a good argument against open sourcing custom software."

          You argue that due to it's proprietary nature, CSS can charge more and more often than OSS. First, I would debate that point. A good programer(s) is more important in that equation than the license his(her) software is distributed under. Second, the fact that you can better gouge your customre is not necessarily going to sell me on your product or service. It is a fine line to tread between a full service partner and a money pit. Much of it is perception. From a purely preceptional point of view, I see and advantage to OSS. "You can do this yourself, or if you do not have resources to meet your deadline, I can to it for you." Since the code is open, this is an easy case to make. Proprietary Software however, is much less friendly to this kind of pitch. "It's mine and you can't touch it, but I'll take your request under advisement and provide it someday...maybe."

          In the end, there are many arguments on both sides. Most of them even have merit. Anyone who advocates a unified landscape with either PSS or OSS is ignoring the fact that customers are perfectly capable of weighing these factors and choosing for themselves. Both will survive and even flourish. We are just going through the shaking out period where both are searching for their places in a market with new competition.
          Mack DaNife
          • Responsiveness

            The black box portion of proprietary software does change slowly. But, in return, tools are made available that allows quick adaptation to circumstances. A company which considers services its primary source of value is not going to be very encouraging of software which reduces the need for those services.

            You wrote:
            From a purely preceptional point of view, I see and advantage to OSS. "You can do this yourself, or if you do not have resources to meet your deadline, I can to it for you." Since the code is open, this is an easy case to make. Proprietary Software however, is much less friendly to this kind of pitch. "It's mine and you can't touch it, but I'll take your request under advisement and provide it someday...maybe."

            Actually, in terms of response to the need for adaptations of the software to specific situations, proprietary software may sometimes have an advantage.


            Also, though you see proprietary anmd open source software slowly discovering how to share the market, I see open source as an encroachment. The final result will show how far open source has been able to go in expelling proprietary.
            Anton Philidor
          • Certainly a different mindset.

            "though you see proprietary anmd open source software slowly discovering how to share the market, I see open source as an encroachment. The final result will show how far open source has been able to go in expelling proprietary."

            We certainly do see things differently, yet in some ways the same. I do not think OSS was an eventuality. I do think competition is a natural state in a capitolistic environment though. I have postulated before and am becoming convinced that MS is in large part "to blame" for the current OSS state. If competition like BeOS or OS/2 Warp had been able to find their niche rather than being ruthlessly exterminated by MS, the market might never have turned to OSS and all programers would be employed by PSS companies instead.

            I do think competition and commiditization are the vehicles that drive maturation though. Over time these forces tend to drive the value of products lower. It is only as we can open new markets and provide new inventions that premium pricing can be maintained. Additionally, these "breakthroughs" must be desired. MS has tried to make this case for years, but as the upgrades to their last few cash cow offerings (OS and Office Suite) have been fueled much more by OEM sales than retail, it appears that their marketing is failing. The competition of OS X and Linux only exacerbate a problem that already existed.

            The other fundemental difference that you and I have is that you believe that most OSS developers are volunteers stealing jobs from paid develoepers. I believe that most OSS developers are paid by someone to contribute to an OSS project because their employer sees value in it and wants their own ideas incorperated.

            As long as you believe that OSS is a threat to your livelyhood, I will never change your mind, but as long as I believe, and I do, that you opperate from a flawed premise, you will also never change mine.
            Mack DaNife
        • open sourcing custom software or customising open source software

          The fact is the bottom is about to drop out of the enterprise
          apps market due to the improvement in tools (PHP, many SQL
          databases, many other advancements like XMLclasses and EJBs).

          The tools improvement will make it very easy for applications to
          be changed. As I feel that in the main these will be webapp
          based, you'll probably see a warrior-poet style PHPprogrammer-
          web-designer standing in this niche.

          If your apps are web based, why not purchase intranet
          webhosting via VPN from say IBM? IBM looks after backups and
          so on under contract.

          Personally I see this as the future of ERP/CRM/MRP/MRP2/CMS
          systems. (and Document Management Systems).

          The reductionism of the PHP type approach means that formerly
          complex applications will become simple to implement.
          When these applications closely resemble examples in the
          documentation, it's going to be hard to sell a closed source
          system to a corporation.

          In all probability I feel there will be less jelly bean programmers
          fulfilling this role, and a fewer number of very talented PHP
          architect-programmers with some web design skills (it used to
          take say a year to set up a website using CGI bin C program
          talking to SQL back end that you can now put together in a few
          hours in PHP).

          IMHO arguments for or against open sourcing are kind of
          academic, since the textbook examples won't be very far from
          implementations.
          hipparchus2000
    • One man's view

      "The problem with open source is that the only good customers are the Fortune 500 companies that all have an internal IT department."

      This is only the view of one man. It is a business model that he claims works, but none of the companies he has run have turned into long term successes. At best, his business plan could be compared to Mazerati or Rolls Royce. Still plenty of room for Chevy, Dodge and Ford. Can't lump all cars into one business plan, nor can you lump all of OSS into one plan. Obviously there is something about his strategy that fails as Word Processors and Browsers are currently the best known OSS projects other than the Linux system itself.
      Mack DaNife
      • He's talking about making money on open source.

        Both the "... Word Processors and Browsers [that] are currently the best known OSS projects other than the Linux system itself." are free products.

        I assume you're talking about OpenOffice and FireFox.
        Anton Philidor
        • Correct, but...

          ...more fundimentally, he is talking about people making money from supporting OSS. Most of the FF and OOo developers are paid. Some direcly by the non-profit project, and others by companies that want their ideas contributed and adopted. IE: Many developer make a living developing for Firefox even though the non-existant firefox corporation does not.
          Mack DaNife
      • After thinking longer...

        ...it seems to me that the media player paradigm may become the status quo over the next few years. What if FF kept it's current browser free, but developed a premium edition for pay? or charged $1 per plugin?

        This is another way that OSS and Proprietary SW could coexist. Since there is nothing that precludes you from offering your SW under multiple licenses, what would stop you?
        Mack DaNife