Software makers can turn cloud disruption into transformation
By Ravi Vijayaraghavan, partner at Bain & Company Boston, Gregory Garnier and Abdulrahman Addas, both partners at Bain & Company Dubai. All three work with the firm’s global technology practise
It’s unclear whether the cloud is good for the software industry’s giants. Software has been a high-growth and profitable sector for years, and disruptive changes are rarely kind to incumbents. How should software leaders interpret the changes in their business landscape and what should they do to make sure that they’re not left behind by the software as a service (SaaS) wave?
We believe the rules of the game that create leaders in the sector today will endure.
Platform power will continue to be paramount. When other developers build applications that work on top of yours, longevity is an inevitable consequence. Just ask Salesforce.com and the thousands of developers that build apps on top of its Force.com platform.
Scale economics will still matter too. Newcomers often show promising growth, but selling enterprise software is a scale business with heavy selling costs. That won’t change. Moreover, product stickiness will also remain important. New SaaS applications may be easy to access online, but the real friction –porting data and retraining employees – is just as real in a cloud environment.
In addition, we see a ‘new rule’ that comes into play with cloud-based models. Software makers can learn a lot more about their customers in an SaaS world: When they host applications on their services, they can see – in great detail and often in real time – how customers use their products. Analysing this data delivers insights that help them to make better software, which, in turn, grows revenues.
With this opportunity in sight, software vendors face a choice – defend the status quo and risk being bypassed or transform their business and embrace the SaaS model. Many are making the smart choice to experiment and evolve. In our experience, we see four steps that vendors need to get right to ensure they hold their leading positions:
• Commit to a strategic path. Software companies transitioning from a licensed to subscription model need to decide on their migration path and commit resources to it. Almost always, it requires patience and discipline. On one end of the spectrum is a simple shift from license to subscription pricing models, with the software code base and delivery largely unchanged. Adobe started on this path for its Creative Suite and it has now announced a full-scale transition to a subscription-only model.
At the other end, Ariba’s radical transition, from a traditional software model to an SaaS provider in 2005, put the company under intense pressure, as license revenue dropped dramatically. It endured three consecutive years of losses during the transition. However, the effort has paid off, since by 2010, subscriptions accounted for more than half of revenues and its total revenues have been growing by more than 20 per cent annually since 2009, prompting SAP to acquire Ariba in 2012 for $4.3 billion.
• Embrace customer insights and intimacy. The rapid development of SaaS cycles require more customer contact than with the traditional model. In the old game, software companies focused mostly on sales and then on maintenance renewal.
Now, customer contact happens every day and vendors are learning that long-term loyalty is no longer optional, but essential for success. With SaaS, the renewal process is continuous and customer loyalty is important every day.
• Organise for innovation. The differences between selling licensed software and running a software service are greater than what most executives anticipate. One major challenge lies in managing two distinct businesses within one organisation. Aligning sales incentives can be particularly challenging, since commissions are typically based on a large, up-front fee. Cloud customers pay for small, recurring payments, often with no up-front cost or commitment. Sales organisations need to revaluate their commission structures – for example, compensating sales forces based on the expected lifetime value of customers.
• Speed it up. Development cycles need to speed up, sometimes by an order of magnitude or more. The old model of taking years to develop and debug new releases before unleashing them has given way to ‘release early, release often’.
The same acceleration is required across all business functions, from marketing and selling to customer service and support. Microsoft, as an example, has announced weekly updates for its Office 365, a dramatic change from the historical two- to three-year cycles.
The software business of 2020 will look markedly different than it does today and we expect the leadership in just about every category to be reshuffled. The path to success lies in expanding the new SaaS business, while maintaining focus and consistency in the legacy business.