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Business, Featured - Written by on Monday, August 11, 2008 14:41 - 6 Comments

Sorry Carr, the Cloud Looks Silver from Here

Nicholas Carr is a well-respected thought leader who we have agreed and disagreed with in the past (see here and here). A few weeks ago, he posted The Cloud’s Not So Silver Lining as a response to Sarah Lacy’s article in BusinessWeek. Once again, Mr. Carr, we respectfully disagree, and hope to have a spirited debate on the topic and we would appreciate the comments and insights from both our readers and yours.

He describes how the software as a service (SaaS) model and on-demand computing is not a gold mine for software vendors.

Anyone who thinks the software-as-a-service business is a gold mine for vendors is wrong. The economics are fundamentally different from those of the traditional software business – and not in a good way. As Lacy writes, the Web is “just as good at displacing revenue as it is in generating sources of it. Just ask the music industry or, ahem, print media. Think Robin Hood, taking riches from the elite and distributing them to everyone else, including the customers who get to keep more of their money and the upstarts that can more easily build competing alternatives.” Web apps remain a hard sell when it comes to big, conservative enterprises, and the capital and marketing costs are daunting, particularly if you’re running your own data centers. This revolution in business software will play out slowly and, for most suppliers, painfully.

Carr is right; the economics are fundamentally different from those of the traditional software business. However, they are different in a good way. Just like how utility companies changed the electric power game by drastically reducing costs, cloud computing and SaaS vendors will change the software and server game. Carr even made this same argument in his book, The Big Switch. “What the fiber-optic Internet does for computing is exactly what the alternating-current network did for electricity.”

The problem SaaS firms are having is that they are relying too much on the technology and the medium of distribution, and not on the service. Salesforce.com has been successful and the “poster boy” of SaaS because it provided a better CRM system than what was already available.

Steve Papermaster, the CEO of nGenera said at a recent SaaS panel discussion that SaaS vendors must provide new functionalities in order to succeed: “[SaaS] changes your billing cycle, but doesn’t change the game for the customer…If you’re not providing disruptive change in the positive sense for customers so they can run and lead their business very differently from before, then you’re not providing breakout value.” As soon as more vendors realize this, on-demand computing WILL become a gold mine for SaaS vendors. If the end product to the enterprise is ultimately more valuable, SaaS vendors don’t necessarily have to charge significantly less than the offerings of current vendors.

Most SaaS vendors are targeting small and medium sized businesses (SMBs) where the margins are much smaller. For SMB’s, SaaS makes more sense as they are unable to pay the high fees of traditional vendors. This current practice results in what Lacy described as Robin Hood taking money from the rich and distributing it to the poor. However, Papermaster continues, “the issue is not so much one of ‘is SaaS going to be acceptable to the enterprise,’ it’s rather how will it be possible for an enterprise not to run globally on demand?” Both large, traditional companies and SMBs alike will be forced to make the switch, as the level of service will be so much greater than what the traditional vendors are offering. For larger companies, vendors can include value-added service and consulting work on top of the basic platform to justify charging a higher subscription fee.

Current economic arguments aside, the companies soon to be staffed by the Net Generation won’t just appreciate always on SaaS applications, they’ll expect them. This hyper-connected, tech-savvy generation will not tolerate upgrade cycles, instead expecting the daily improvements and tweaks only SaaS vendors can provide.

Although both Carr and Lacy recognize that cloud computing and SaaS is the future, the future is a lot closer than they think.

Note: BusinessWeek has published special report on cloud computing.


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Bill Roberts
Aug 12, 2008 2:15

Excellent article. The SaaS model eliminates a huge amount of inefficiency because the users of the software don’t need to install or maintain it. And that’s aside from the fact that a typical SaaS data centre will be much better managed and more reliable than a typical in-house server room for a small to medium company.

Scott Waldrum
Aug 12, 2008 11:49

An important factor in the success of SaaS applications to date has been the dynamics of the purchaser. One of the reasons Salesforce.com and other SaaS vendors targeting areas of an organization outside of IT (sales, marketing etc) have been successful is that the SaaS model takes the internal IT function out of the buying decision. These departments can now get access to the software they want without going through IT. SaaS Vendors selling into IT have still not achieved this level success.

Ben Letalik
Aug 12, 2008 13:27

Thanks for the compliment Bill, I completely agree with you.

The SaaS model provides so much economic benefit, but currently since its only being widely adopted by small and medium companies, those cost savings are being passed onto the users.

As I said in the article, SaaS vendors should be able to grab a much bigger piece of the cost savings pie when providing for large companies.

One major problem I see to adoption is that the IT departments in large companies will be very resistant to changing the model that keeps them employed. Anyone with the authority to make the decision (non IT upper management)to go with a SaaS vendor probably doesn’t know all of its potential benefits.

Ben Kepes
Aug 12, 2008 22:53

Like all things it’s not so simple. True SaaS can be disruptive and subvert traditional models – but to do so it needs to do more than just take an existing offering and offer it on-demand. It needs to leverage the very benefits that a cloud world can bring. It requires a different mindset, one which lives in a collaborative sphere.

More here – http://diversity.net.nz/lets-discuss-saas-some-more/2007/07/08/

Ben Letalik
Aug 13, 2008 9:26

Ben: Thank you for sharing the link. I like how you broke down the two types of SaaS models. Just like you, I am promoting the SaaS model for added value.

As I said it the post, though not as clearly and eloquently as you, SaaS vendors are relying too much on the medium of distribution rather than the added value service the medium provides.

The challenge vendors face is trying to differentiate their offering so that higher margin clients (large enterprises) get better value than their current, low-margin clients (SMBs). The core concept of cloud computing essentially makes the offering the same for all users.

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