Subscribing to savings on demand

Users finding compelling reasons to rent - rather than buy - business applications

Manufacturing Business Technology - January 2006

By Malcolm Wheatley

When Three Rivers Pharmaceuticals opened for business in April 2000, an ambitious business plan called for getting low-cost generic treatments for illnesses such as Hepatitis C to market quickly. "Although we had no FDA-approved products to begin with, and therefore no issues with requirements such as traceability, we knew that when we did receive FDA approval, those issues would hit us quickly," recalls Christine Sheehy, VP of operations at the Cranberry Township, Pa.-based company.

Consequently, Three Rivers' choice of enterprise applications was limited to those offered by vendors with expertise in the pharmaceutical industry. The choice eventually came down to Oracle and J.D. Edwards—at which point, Oracle played a wild card. "We'd been planning to run the applications in-house, but instead, Oracle offered us a hosted option: Oracle E-Business Suite On Demand," Sheehy says.

It clinched the deal. "In three weeks our environments were ready, and we could access all our applications and begin our implementation," Sheehy adds. And although the on-demand option initially was considered a temporary solution designed to bring about a rapid implementation, Sheehy says, "At this point in time we have no intention of bringing the system in-house."

Four years after signing the contract, Three Rivers' applications still reside on servers in Oracle's giant data center in Austin, Texas—where Oracle claims the more than 9,500 servers and 2.5 petabytes of storage comprise the largest Dell/Linux installation on earth.

The metrics supporting Three Rivers' choice are compelling: compared to an in-house operation, it is estimated Oracle's on-demand option saves Three Rivers $400,000 a year on staffing costs, and a further $350,000 on hardware, software, and maintenance expenses.

With such stories becoming more common, it appears subscription-based software licensing, after a somewhat shaky start, may finally be here to stay. According to Erin Traudt, a research analyst at Framingham, Mass.-based IDC, worldwide spending on subscription-based software reached $4.2 billion in 2004—an increase of 39 percent over the previous year. In the U.S. alone, companies spent roughly $1.1 billion on subscription-based software in 2004, according to IDC (see table on p. 32 for U.S. spending projections).

Yet the conventional explanation for the subscription model's success—that is, smaller monthly or yearly payments are easier to swallow than single, sometimes multimillion-dollar expenditures—is only part of the story. While easy payment terms have an undoubted allure, so too do other aspects of the subscription model.

A strategic dimension

Three Rivers' Sheehy, for example, enthuses about ease of operation. "There's support available 24/7," she says, recalling an instance when a power outage at the plant prompted an 8:00 p.m. call to her home from an Oracle staffer saying they had noticed the problem, the systems were all backed up, and not to worry.

There is a strategic dimension as well: with its enterprise applications sourced through a subscription model, Three Rivers is free to concentrate on its core competency—drug development and manufacture—while someone else handles the IT aspects of the business. Sheehy also finds it comforting to know those applications are managed by certified experts.

"I believe we've got the best team we could have," concludes Sheehy. "[Oracle] not only has knowledge of its own software, and the requisite expertise in making it work, but it also handles chores like applying patches. If we had to hire people to do that, there'd be a salary cost, and we'd have things like covering operations during vacations to worry about."

In fact, just like prodding an anthill, the deeper one probes, the more reasons for subscription software's growing popularity become apparent. Some proponents even argue that the subscription model could help vendors sell more traditional software licenses.

In CRM, for example, the phenomenal success of Salesforce.com is believed to be driven in large part by companies wanting to test a technology that they are not thoroughly convinced will bring value to a business. As other CRM vendors have adopted the subscription model, overall CRM sales have taken an upturn.

"When you're not certain what the benefits of a CRM solution might be, it can be difficult to justify an infrastructure investment," says Andrew Buckley, director of manufacturing and construction solutions at Sage Software, which supplies business applications to medium-size companies. "The subscription model allows a business to dip its toe in the water to assess the opportunity on a cost-effective basis, making a long-term commitment only if the technology delivers."

Enhance security

The subscription model also provides the means to enhance security of both applications and the data that they use. For example, when U.K.-based Monks & Crane Industrial Group, an MRO services provider, won a major new account, it found it needed a supply chain execution system to service that account, explains Stuart Singleton, commercial director for Monks & Crane.

A hosted solution from British vendor VSc Solutions helped meet the tight nine-week implementation schedule. But the hosting location, at VSc Solutions' data center, fell short of the security and business continuity requirements of BS 7799—the widely used British security standard upon which the international IT security standard ISO 17799 is based, and against which Monks & Crane is registered as compliant. The solution: an application hosted instead by Liverpool-based 7global.

With the applications now running in a fortress-like data center comprising a stone-built former Bank of England building overlaid with 21st century security provisions such as zoning and perimeter controls, Singleton is content.

"The attraction for me is that my data is secure, and my customer's data is secure—and I don't have to manage it, and my customer doesn't have to manage it," he says. Instead, a monthly subscription buys all the required security.

"Five years ago, there was a lot of hype about hosting and the ASP model," notes Martin Walker, 7global's director of marketing. "Now it's starting to happen. Is improved security a driver? Yes. It is the main driver? Probably not: cost is the prime driver. But security is certainly a significant one."

Yet if cost is the prime driver behind the subscription model's present popularity, the logic isn't necessarily as clear-cut as "cheaper is better." The real issue is affordability—or overall cost of ownership—rather than price. The distinction may be subtle, but it can be critical for manufacturing or IT managers seeking approval for new software applications.

"A lot of businesses are structured in ways that mean if you're trying to buy something that looks like a capital expenditure that needs to be depreciated, then there's a particular process for buying it. And if you're trying to buy something that looks like a subscription, there's a different process for buying it, even if the cost is the same," points out David Dobrin, president of Cambridge, Mass.-based B2B Analysts.

Needless to say, the subscription process normally offers a much lower hurdle to clear. "It's called gaming the system," says Dobrin. But sometimes, it's the CEO who's doing the gaming."

Easy on the budget

Andrew Anagnost, senior director of product management within Autodesk's manufacturing solutions division, agrees. To Autodesk, subscription-based software isn't buying the right to run an application, but a subscription to access Autodesk's Web support, e-learning, and to get "red carpet" treatment at company conferences. Just as important, the subscription includes annual product upgrades.

"The attraction is predictable budgeting: with one predictable fee, customers know what the Autodesk upgrade cost will be—and in the process, they sidestep complex approval procedures within their companies," Anagnost notes. No less than 80 percent of the installed base of Autodesk Inventor and Autodesk Inventor Professional is now on a subscription basis, he adds—with users typically paying $1,095 per license per year.

Predictable budgeting was a key factor in the decision for Latrobe, Pa.-based specialty metals manufacturer Kennametal's to adopt e-procurement software from Ketera Technologies, explains Jim Cebula, Kennametal's director of global purchasing and travel.

Roughly 500 people within Kennametal's worldwide business regularly access Ketera's software as a service procurement application from their desktops, typically paying for their purchases by procurement card, Cebula says. The logic is clear: with users, in effect, cutting their own purchase orders and making their own payments, the administrative burden on the procurement department is sharply reduced.

"We don't want our professionals processing orders when the pricing has been decided," says Cebula. "Effectively, we're freeing up their time so that they can review strategic opportunities to reduce cost."

But the savings extend beyond administrative efficiencies and improved procurement leverage. In dollar terms, when compared to a conventional application, the license cost of the Ketera application is significantly cheaper, points out Cebula—adding that Ketera's ASP-like subscription model frees Kennametal from having to provide servers on which to locate the applications, and IT staff to maintain those servers.

What's more, the license cost is consistent. "The subscription fee is always the same, no matter how frequently people access the applications—whether they use it on a daily, weekly, or monthly basis," stresses Cebula. "The result is a budget that doesn't vary, which has to be a good thing."