Software vendors must learn from Web 2.0

Frost & Sullivan analyst urges for more innovation and warns about impact of rising maintenance costs; calls for enterprise software makers to learn from the consumer Web space.

While the future of the enterprise software space is bleak, market players can stem the tide by taking a leaf from Web 2.0, an analyst says.

"The software industry seems to be broken," said Subba Iyer, director of ICT practice at Frost & Sullivan during a teleconference last week. He attributed the situation to faltering investor confidence and the lack of innovation.
"Web 2.0 applications are easier to use and quicker to deploy--which I can't say with the same level of confidence for enterprise software."
-- Subba Iyer
Frost & Sullivan

According to Iyer, the level of venture capital poured into the global enterprise software market has shrunk. "It used to be about US$25 billion during the dot-com boom in 2000, but it's only around US$6 billion now," he said. The number of deals inked by venture capitalists in the enterprise software market last year has also fallen to 600, about three times lower compared 2000.

In addition, the value of U.S. electronic stock market Nasdaq, only rose by 1.4 percent last year, with 10 percent of public-listed software companies going out of business, he said.

"The IT industry growth rate has been modest," Iyer said. "Although it has shown some growth since the dot-com bust, the growth's not significant." He noted that the global IT market grew only 3 percent last year compared to 6 percent in 2000.

Where's the innovation?
The declining investor confidence is the result of a lack of innovation among software companies, he said. In fact, Iyer noted, the world's top 40 software companies last year spent, on average, 2.5 times more on sales and marketing than on research and development.

"The industry has not brought about any significant innovation to spur spending," he said.

"The software industry grew dramatically when the client-server platform replaced mainframes, and when the Web replaced the client-server [platform]," he explained. Although there's some growth in systems migration, upgrades and niche applications, there's been no change in software platform by and large."

As a result, Iyer noted that chief information officers (CIO)--who have inherited a "do more with less" mindset since the dot-com bust--are not compelled to upgrade their software.

Furthermore, an ongoing study by Frost & Sullivan indicates that CIOs have failed to realize the promised benefits of software upgrades to their businesses. "Most [software] vendors are really not aligned to user expectations," Iyer said.

Maintenance is also becoming a costly affair, Iyer said, where some CIOs spend up to 75 percent of their IT budgets on maintenance, leaving little money for them to acquire new software products.

For example, he noted that while British Petroleum spends US$2 billion on IT each year, the company spends less than US$15 million on new software licenses.

"Maintenance revenues were minimal in the 90s. However, they've become the main drivers of profitability for software companies today," Iyer said.

According to Frost & Sullivan, non-license revenues--mainly derived from maintenance and support--average around 55 percent of total revenues at software companies. Meanwhile new software license revenues have tumbled, comprising 35 percent of total revenues today, Iyer said.

Still, the enterprise software industry is not doomed. "This is a time for enterprise software vendors and their partners to change their business models," Iyer said.

He suggested that software vendors should take a look at and learn from the consumer Web space, which has demonstrated much innovation as it continues to develop.

"Web 2.0 applications are easier to use and quicker to deploy--which I can't say with the same level of confidence for enterprise software," he said.

Apart from addressing complexity issues in enterprise software, market players also need to work on their software release and upgrade cycles. "People often have to wait for years for the next software release," Iyer said.

"Also, software is being sold today based on functionality, innovation and business impact," he noted. "But the pricing model still reflects what it costs to deploy software per CPU. That metric has to change to provide more flexibility."

He suggested that selling software on a per-user or subscription basis is the way forward for the enterprise software industry. "[Providing] software as a service (SaaS) has to happen, because people understand that model much better," he added.

The SaaS model may signal a "paradigm shift" in how businesses consume enterprise software, that is, as commodity items in their shopping cart.

Iyer noted that the commoditization of hardware is now trickling down to the software industry.

Ned Lilly, president and CEO of OpenMFG, an open-source ERP vendor, agrees that software is now being commoditized. He believes that open-source products could fuel the demand for broad, horizontal business applications such as CRM (customer relationship management), but less so for specialized software.

Lilly told ZDNet Asia: "I don't think you'll see too many narrow, highly-specialized applications for certain industries spring up organically in open source. But I can certainly see people in those industries getting involved with an existing open-source product and adapting it to their needs."

According to IDC, the worldwide market for open-source ERP applications will hit about US$36 billion by 2008.

But until then, Iyer noted that companies will face "significant nervousness" about using open-source products for their mission-critical ERP systems.