Microsoft's proposed acquisition of Great Plains Software indicates how the computer industry is changing and how Microsoft itself may have to change in order to maintain its leadership position.

On December 21, 2000, Microsoft said that it would acquire Great Plains Software Inc. in a $1.1 billion stock purchase.

"The combination of our two companies will accelerate small and medium business efficiency and agility by offering software solutions for automating interconnected business processes," said Jeff Raikes, group vice president of Microsoft's Productivity and Business Services Group in a statement. "Together we will bridge the gap between on-premise[s] software and next- generation software and services."

This last sentence concisely states the opportunities associated with the merger. Small and medium-sized businesses typically purchase midrange accounting software from local resellers (also called value-added resellers, or VARs) who install the software on a particular customer's premises and customize the product for the customer's business needs.

However, many businesses today are choosing to use a hosting service, also called an ASP (Application Service Provider).

The software is installed on the host service's computers, instead of the customer's computers, and the customer accesses the software remotely, over the internet.

Tami Reller, Great Plains' CFO, agrees that developing the ASP marketplace is the point. "We currently have a little over 200 ASP customers, which is small compared to our 35,000 total customers," she says. "But in five years, we expect that a large majority of our customers will have some hosted services."

This strategy also involves a change in GP's target marketplace, according to Timothy Tow, an analyst with Stamford, Connecticut-based Gartner Group. "In recent years, Great Plains had been positioning [itself] to move up-market, but now that's changing significantly, as they're moving down-market to Microsoft's sweet spot in the midrange," he says. "That makes GP less competitive for other competitors, such as Sage and Epicor, who have been moving up- market."

But the risk that Microsoft is taking is represented by the element that's missing from Raikes's statement: Whether the software is on-premises or hosted, it still requires a VAR to do an installation and custom modifications.

And more than half of Great Plains' installations require software modifications, according to Charles Chewning of Solutions Inc., a Richmond, Virginia-based consultant who evaluates accounting software products.

"There's something that doesn't make sense to me from what Microsoft is saying," says Chewning. "They want to go after the small to mid-sized market, but Dynamics [Great Plains' accounting software product] is too big, too complex for that. And if they integrate [a small version of] it into their ASP hosting initiatives, then Great Plains' current ASP resellers are going to get hurt."

Indeed, some of Great Plains' competitors seem quite sanguine about the pending deal. "We've seen some pretty positive implications of the fact that Microsoft is buying into the marketplace that we're in," says Randy Keith, president and CEO of NavisionDamgaard US. "We expect Microsoft is interested in going after smaller companies, instead of the bigger companies that we go after, and the response that we're getting from our [resellers] is not one of fear."

Keith indicates that he's also heard from a couple of Great Plains' resellers expressing concern that they'd have to change products if Great Plains changed its market.

Ben Tse, president and CEO, Accountmate Software Corp., sees it a little differently. But he reaches the same conclusion. "Microsoft will increase awareness of the necessity for smaller businesses [who often do accounting on very low-end financial packages like Peachtree, DacEasy or Quicken] to get more sophisticated business software like ours," he says.

Tse is in fact not very impressed with the acquisition as a whole. "The way I look at it, Microsoft is a very high-profit-margin company, and in the accounting software business, traditionally, profit margin isn't that great," he says. Indeed, Microsoft's profit margins have run around 40 percent, while Great Plains' have been at a much more modest 5 percent. "Their business models are different and the corporate culture is different, so Microsoft may not do so well."

This could be wishful thinking by a competitor, of course, but there's good reason to raise questions.

There's a massive shakeout going on in the midrange accounting software industry right now.See sidebar.

And there's no reason to believe that Microsoft will be immune from the same pressures.

Microsoft may well be the world's master at creating software in a shrink-wrapped box that a customer buys, at which time the software almost jumps out of the box and installs itself. No other company, including even IBM, has been able to beat Microsoft at that game.

But accounting software is like that only at the very low end, with packages that sell to companies with $1 million to $50 million in annual sales. But Great Plains systems are targeted to $100 million to $500 million companies and frequently require lengthy sales cycles by the reseller.

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