Products and Services require different Business Models
i. Cost Structure
ii. Level / Source of Margins
iii. Productivity
Strategies
i. Market Positioning
ii. Competition
Capabilities
i. Technology
ii. Marketing
iii. Sales
iv. Support
v. Customer Relations
Hard to be “great” at “both”?
Enterprise Software Example
· An Extreme case of the benefits from productization as
Well as the need for customization and other services
· Hopefully some lessons for firms in other industries.
Software Business Model Contrasts
Products:
Volume, Share, Scale Economies;
Platforms and standards & Incremental Upgrades.
Key: Understanding general Customer needs
Example companies: Microsoft, Adobe
Strategy Model: Printing Press, Best-Seller book (akin to conventional mass production)
Services:
Custom/Semi-customization, Scope economies
Recurring revenues, account management.
Key: Understanding Specific customer needs
Strategy Model: Bank / Asset Management (akin to conventional consulting)
(Like large number of contracts generating stream of revenue over multiple years)
Why the Great Attraction of Products versus Services
· Simple benefits of standardization and mass production (economies of scale)
Similar to other industries but to the extreme in software and other digital businesses.
Cost the same to make one copy or a million copies.
· Potentially enormous sales productivity with gross margins on product sales of up to 99%.
· If your product becomes a standard platform or a killer app, it’s like a license to print money.
· By far the preferred business model for software entrepreneurs and venture capitalists.
Business Objects
Product versus Services
Gross Margins: Direct Cost associated with selling a particular product or service.
Problems with Software Products
o Hard to write Best-Sellers or killer app.
o In bad economic times, product sales can fall off a cliff.
§ Siebel, i2, Oracle ( despite enormous sales & marketing $
o Software products can become commodities.
§ Example Average Selling price for same software license fell $1.5 million in 2000
§ To $400,000 in 2002 and less in 2004.
o Products always subject to discretionary IT spending
o Only guaranteed revenues in bad times or “the age of commoditization” may be services and maintenance.
Products Company to Services & Maintenance Company
Companies that got transitioned from Products Company to Services
& Maintenance Company in due course are
1. IBM
2. Oracle
3. Peoplesoft
4. SAP
5. Business Objects
Microsoft remains a product company with 100% revenues through product lines.
Three Business / Life cycle Models
I. Products
II. Hybrid Solutions
III. Services
Over the last decade there is a shift to service oriented among
Product oriented companies.
Flaws on product line strategy.
The Empirical Reality
Most software product companies become services or
Hybrid companies. Like it or not!
Services revenues can rise dramatically!
- in bad economic times
- over the period of life cycle
Services / Maintenance fees can double or triple
the revenues of a product firms.
Plan for Hybrid business and prepare both strategically
and operationally.
Products and Services/Maintenance Linked for Enterprise Software
New software products (license fees) the engine that
drives future services revenue.
Average 70% software life cycle costs paid out in maintenance &
Service fees.
Products from 50% to 30%
Products
Services
Maintenance
Total
Year 1
$1.00
$1.00
$0.00
$2.00
Year 2
$0.30
$0.15
$0.45
Year 3
$0.25
$0.15
$0.40
Year 4
$0.15
$0.15
Year 5
$0.15
$0.15
Total
$1.00
$1.55
$0.60
$3.15
Problems with Services
Much more labor intensive than products
Hard to scale without adding people
- (SAP example 1:1)
Hard to attract VC funding or do an IPO
Costs not as easy to control compared to standardized
Product development and production.
Low-cost competition from India and elsewhere pushing
margins down further
Wide Range in Gross Margins
Products: 85 %( i2) to 99 %( Bus Objects)
Services: 30 %( Compuware) to 61 %( Bus Objects)
Conclusion
Software product companies often unprepared to manage services
Efficiently. More difficult to drive scope Vs scale economies.
i. Cost Structure
ii. Level / Source of Margins
iii. Productivity
Strategies
i. Market Positioning
ii. Competition
Capabilities
i. Technology
ii. Marketing
iii. Sales
iv. Support
v. Customer Relations
Hard to be “great” at “both”?
Enterprise Software Example
· An Extreme case of the benefits from productization as
Well as the need for customization and other services
· Hopefully some lessons for firms in other industries.
Software Business Model Contrasts
Products:
Volume, Share, Scale Economies;
Platforms and standards & Incremental Upgrades.
Key: Understanding general Customer needs
Example companies: Microsoft, Adobe
Strategy Model: Printing Press, Best-Seller book (akin to conventional mass production)
Services:
Custom/Semi-customization, Scope economies
Recurring revenues, account management.
Key: Understanding Specific customer needs
Strategy Model: Bank / Asset Management (akin to conventional consulting)
(Like large number of contracts generating stream of revenue over multiple years)
Why the Great Attraction of Products versus Services
· Simple benefits of standardization and mass production (economies of scale)
Similar to other industries but to the extreme in software and other digital businesses.
Cost the same to make one copy or a million copies.
· Potentially enormous sales productivity with gross margins on product sales of up to 99%.
· If your product becomes a standard platform or a killer app, it’s like a license to print money.
· By far the preferred business model for software entrepreneurs and venture capitalists.
Business Objects
Product versus Services
Gross Margins: Direct Cost associated with selling a particular product or service.
Problems with Software Products
o Hard to write Best-Sellers or killer app.
o In bad economic times, product sales can fall off a cliff.
§ Siebel, i2, Oracle ( despite enormous sales & marketing $
o Software products can become commodities.
§ Example Average Selling price for same software license fell $1.5 million in 2000
§ To $400,000 in 2002 and less in 2004.
o Products always subject to discretionary IT spending
o Only guaranteed revenues in bad times or “the age of commoditization” may be services and maintenance.
Products Company to Services & Maintenance Company
Companies that got transitioned from Products Company to Services
& Maintenance Company in due course are
1. IBM
2. Oracle
3. Peoplesoft
4. SAP
5. Business Objects
Microsoft remains a product company with 100% revenues through product lines.
Three Business / Life cycle Models
I. Products
II. Hybrid Solutions
III. Services
Over the last decade there is a shift to service oriented among
Product oriented companies.
Flaws on product line strategy.
The Empirical Reality
Most software product companies become services or
Hybrid companies. Like it or not!
Services revenues can rise dramatically!
- in bad economic times
- over the period of life cycle
Services / Maintenance fees can double or triple
the revenues of a product firms.
Plan for Hybrid business and prepare both strategically
and operationally.
Products and Services/Maintenance Linked for Enterprise Software
New software products (license fees) the engine that
drives future services revenue.
Average 70% software life cycle costs paid out in maintenance &
Service fees.
Products from 50% to 30%
Products
Services
Maintenance
Total
Year 1
$1.00
$1.00
$0.00
$2.00
Year 2
$0.30
$0.15
$0.45
Year 3
$0.25
$0.15
$0.40
Year 4
$0.15
$0.15
Year 5
$0.15
$0.15
Total
$1.00
$1.55
$0.60
$3.15
Problems with Services
Much more labor intensive than products
Hard to scale without adding people
- (SAP example 1:1)
Hard to attract VC funding or do an IPO
Costs not as easy to control compared to standardized
Product development and production.
Low-cost competition from India and elsewhere pushing
margins down further
Wide Range in Gross Margins
Products: 85 %( i2) to 99 %( Bus Objects)
Services: 30 %( Compuware) to 61 %( Bus Objects)
Conclusion
Software product companies often unprepared to manage services
Efficiently. More difficult to drive scope Vs scale economies.
