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Pay-per-view ERP

Is on-demand transaction software ready for prime time?
John Edwards, CFO Magazine
February 1, 2006

Managers at Thermos Inc. faced a painful choice. Stick with the old, outdated enterprise resource planning program and risk losing highly prized customers, or switch to a new, 21st-century ERP system and risk alienating the company's only in-house source of tech support.

If you think there's a back story here, you're right. In 2001, managers at the Rolling Meadows, Illinois-based thermos maker were facing the same pressure as executives at other manufacturers of consumer goods. Simply put, big-box retailers wanted suppliers to deliver products faster and with fewer screwups. While management at Thermos obviously wanted to satisfy the requests of business partners, doing so would involve ripping out the company's existing ERP system. And tearing out an old ERP system, as many CFOs will attest, is a bit like having your eyebrows plucked out by a farsighted cosmetologist: it's a hit-or-miss affair punctuated by long periods of anxiety, dread, and cranial distress.

Despite the fear factor, Thermos management eventually decided it had little choice but to step into the modern world. Then it ran into an unexpected snag. The IT workers who specialized in the old ERP system were dead set against the new ERP system, and they weren't shy about expressing their feelings. According to COO Alex Huang, tech staffers dug in their heels: "Our MIS manager basically told me that if some of his people went, the company would come to a halt."

Facing the prospect of a crucial, complicated technology project in the face of a defiant and hostile tech staff, management appeared boxed in. But in an inspired bit of thinking, the company came up with a simple, elegant solution. In 2002, Thermos signed on with Oracle's On Demand solution, which delivers enterprise applications over the Internet. In essence, Thermos outsourced its ERP headaches. "[The lack of IT cooperation] was the motivation to go to on-demand," explains Huang. "I needed outside help from the get-go."

The move paid off. With the new system, Thermos saw almost immediate improvements in its warehouse and inventory operations, as well as in finance. What's more, the hosted approach freed Thermos from making sizable investments in hardware and facilities. It also lowered the company's IT management costs, enabling the company to shed some of its disenchanted tech staff. Says Huang: "Now, the MIS staff is building more value — stuff I can observe — as opposed to just keeping the system up."

Therein lies the main appeal of hosted ERP products: they get companies out of the software caretaker business. Not surprisingly, this freeing up often leads to decreases in overhead costs and increases in productivity. In fact, consulting firm Shack & Tulloch estimates that the on-demand ERP project at Thermos will generate more than $6 million in benefits and an ROI of 222 percent over the life of the software.

Tabular Rasa
That's a healthy return for any tech investment. Of course, the value proposition for hosted software is hardly unknown in the business community. Unlike conventional licensed software, which usually resides on company-owned and -operated servers, on-demand programs are housed on computers maintained by a software vendor or a third-party operator. In most cases, the customer pays a monthly fee that covers both hosting services and software licensing, although sometimes a program is simply rented (called apps on tap; for more on the different delivery methods of software, see "Program Guide" at the end of this article).

Over the past few years, a number of software publishers have popularized on-demand delivery of business programs. Most notably, Salesforce.com Inc. and NetSuite Inc. have developed a loyal — some would say messianic — following by offering hosted customer-relationship management (CRM) software along with other enterprise applications. Salesforce.com's rise to industry stardom has been nothing short of meteoric. Four years ago, the company had 25,000 registered subscribers. Today, that number is closer to 350,000.

Even with the wild success of Salesforce.com, ERP vendors have been slow to embrace hosted products. Many have questioned whether a market exists for Web-based resource planning software, which typically pulls data from a company's transactional and supply-chain systems. Frank B. Modruson, chief information officer at Accenture, a business advisory firm, thinks that on-demand ERP is a nonstarter for most global corporations. "They already have ERP systems that are very entrenched and integrated into their ongoing business operations," he says. "They're not about to dump everything and start over with something new."

That's not necessarily the case for small to midsize companies. Experts point out that many SMBs have yet to turn to resource planning technology to help with tabulations, transactions, or turnaround time. Absent expensive legacy systems, smaller companies are often ideal customers for on-demand ERP software. Says Albert Pang, director of enterprise applications research at tech consultancy IDC: "ERP is pretty much a clean slate for these businesses."


Take the situation at Circle L Roofing Inc. Circle L, which serves customers ranging from Fortune 500 housing developers to individual homeowners, has 900-plus employees scattered across 10 locations in Florida. The ongoing housing boom and a string of devastating hurricanes over the past few years have kept the roof maker very busy, straining the company's IT department. Compounding the problem: hurricanes that help plump up business also threaten Circle L's own network of computers in Florida.

When management at the Bradenton-based business began shopping for its first ERP system, it decided immediately that the company needed something that would keep pace with Circle L's breakneck expansion. On-demand ERP technology, which is quite scalable, fit the bill. What's more, with financial information stored on the out-of-state servers of the third-party software provider (Intacct Corp.), Circle L's managers now pay more attention to business strategies than to data-recovery strategies. Says company CIO Abraham Elias: "There's real power in not having to worry about backing up data, or wondering how we are going to adjust if four hurricanes hit the region."

Elias estimates that the Intacct system generated more than $100,000 in savings during its first year of use. He also calculates the hosted software reduced the cost of purchasing and maintaining financial systems by half.

You've Been Upgraded!
On-demand apps are not only maintenance savers, they're also a heck of a lot easier to deploy than conventional software. An on-site or proprietary system must be carefully tested for server compatibility, performance, and other hardware-related issues. By contrast, deploying a Web-based program typically requires just a few weeks of prep work (mostly spent configuring the software, scrubbing data, and training users). At Circle L, Elias says he was surprised by how easy it was to roll out the on-demand application.

The hosted approach also tends to take the hurt out of updating software. "With on-demand, everybody gets upgraded at the same time," notes Robert DeSisto, research director of CRM at Gartner Inc., a technology research firm headquartered in Stamford, Connecticut. "There's no need to plan a rollout strategy, which can make upgrading cheaper and faster."

That's a big selling point, particularly for managers currently coping with several versions of one program. Likewise, Web-based ERP technology is especially alluring to businesses competing in fast-changing markets or sectors being reshaped by mergers and acquisitions. "Whenever a company buys another company, it has to integrate all of these systems in a short period of time," says IDC's Pang. "So they might look to an on-demand ERP vendor to help smooth that process."

But Randy P. Remdenok, president of Troy, Michigan-based Peerless Steel Co., warns that businesses should never attempt to turn an existing on-site ERP application into an on-demand system. He believes it's best to start from scratch. "Take the time to review your business processes and make the changes you need to improve your business," says Remdenok. "You'll really gain benefits by doing that rather than just taking a bad system and putting it out onto the Web."

On-demand ERP software comes with other caveats as well. For one thing, absolute vendor control means that customers stand to lose much of their ability to tweak ERP software to meet their own particular needs. While most third-party hosts offer an extensive menu of service and feature options, the choices still may not be sufficient for businesses with unique requirements.

Moreover, on-demand programs raise a welter of compliance concerns. Vendors may host the software, but when a regulatory concern crops up, all roads lead back to the finance chief's corner office. "[Hosted ERP software] customers figure that if a compliance issue arises, it's the CFO's problem regardless of where the software sits," says Bruce Richardson, AMR Research's chief research officer. "Outside the firewall they may not have control over it, but they're still responsible for it."

Transcendental Remediation
Worse, if a material weakness is discovered in the internal controls of a company that outsources its ERP system, remediation promises to be a fun-filled adventure — one that involves several participants. "The hosting partner might not necessarily be the software vendor itself," says Pang. "And there might be other [problems] concerning control and data ownership introduced into the picture."

So far, Elias says, Circle L hasn't run into any compliance problems with its hosted ERP system. The software has enabled the company to consolidate its financial IT operation, which was dispersed across numerous sites and several business lines, into a unified, online location. That's crucial, since each line of business maintains a separate P&L, and some offices support all the lines of business. "Before we started using Intacct," says Elias, "it took a tremendous amount of time to combine the results from different locations and business units."


That's the beauty of accessing information from a single, offsite location via the Web. But given recent headlines about high-profile network breaches (Sam's Club, et al.), it's hardly surprising that some potential on-demand ERP adopters fret about the technology's potential security vulnerabilities.

Such concerns may explain why scores of banks, brokerages, aviation companies, government contractors, and other businesses that undergo close government scrutiny have yet to embrace on-demand ERP software. "Health-care organizations tend to want to have control over the systems they rely on," says IDC's Pang. "They don't necessarily want to outsource or let somebody else take care of their data."

There haven't been any security leaks so far — or at least any that have been publicly reported. But that's probably cold comfort to CFOs who worry about sending very private operational data over the very public Internet. "It's one thing to be afraid that someone might get access to your customer list," says Richardson. "It becomes thermonuclear when you stand to lose access to other elements of your business process. The ERP side has got all of your financial data, orders, inventory, and so on."

Many observers believe CFOs might be worrying needlessly, noting that authentication technologies have improved considerably over the past five years. "It's funny: we trust our payroll data, which has some very sensitive information, to ADP," says Richardson. "But we're very concerned about having other stuff outside of our firewall."

Rewards Program
Peerless Steel's Remdenok isn't one of those people. He deployed a hosted ERP program (from Plexus Systems) at the steel distributor some five years ago, making the Michigan company something of an ERP pioneer. Remdenok says the rewards of the hosted approach have far outweighed any risks to the business. The proof? Peerless Steel has consistently achieved an annual ROI of at least 20 percent on its hosted ERP investment.

Most of Peerless Steel's returns have come from downsizing its IT department. That's hardly surprising: hosted software is basically a form of business-process outsourcing. "When you eliminate eight salaries," notes Remdenok, "the cost to operate [the software] is less than what we're paying for our existing staff."

In Florida, Elias also feels he's blazing a new and groundbreaking technology trail. "This is the future," he insists. "Three years from now, I don't think there will be any companies that develop software through the traditional route."

John Edwards, who covers technology for CFO, is the author of The Geeks of War.


License to Bill
Project of revenues from ERP software licensing and hosting (in $ billions)
Revenue Source 2004 2005 2006 2007 2008 2009 Growth Rate*
Licensing $16.1 16.6 17.8 19.0 20.2 21.8 6%
Hosting $1.1 1.5 1.9 2.3 2.7 3.1 22%
*Annual
Source: AMR Research

Program Guide:
Three Methods for Delivering Software
Custom Applications
Created in-house or by external developers exclusively for a specific business, which then owns the product
On-site Licensed Applications
Developed by commercial software publishers for a wide range of businesses, usually running on the licensee's own servers
On-Demand/
Subscription Applications
Accessed by customers via the Web and run on servers supplied by the software provider or an authorized third party
Initial
software cost
High Moderate Low
Customer owns the software Yes No No
Customer's ability to customize the software High Moderate Low
Upfront hardware costs High High Low
Software maintenance/
upgrade costs
High Moderate Low
Compliance protection High Moderate Low
Vendor lock-in High Moderate Low

Late to the Dance


Top ERP vendors trot out hosted products — finally.

Although upstart Salesforce.com has found a ready audience for hosted customer-relationship management (CRM) applications, marquee enterprise software vendors have been slow to embrace on-demand software. Their thinking? Customers may be willing to hand over niche applications to third-party providers, but they'll never outsource core business systems.

The unbridled success of Netsuite 10.0 and its bundled ERP product has shot that logic all to hell. Not surprisingly, many of the big enterprise software players have begun hurriedly rolling out on-demand ERP products. Oracle, which jumped into hosted programs fairly early, is flogging Oracle On Demand, a software-as-service offering. According to Juergen Rottler, vice president of Oracle Support and Oracle On Demand, the setup allows customers to mix and match traditional on-site programs with hosted tools.

Meanwhile, IBM has teamed with San Jose, California-based Intacct Corp. to deliver enterprise resource software to customers via the Web. Intacct's ERP On Demand product supports an array of functions, including general ledger, cash management, and payroll functions. "The partnership [with IBM] allows us to provide a Fortune 50-level data center to our customers," says Robert Jurkowski, CEO at Intacct, which was one of the first ERP vendors to embrace the Web delivery model.

About the last to do so: industry giant SAP. After much hemming and hawing, management at SAP is finally expected to roll out a subscription-based CRM service sometime this year. And the ERP giant does market a hosted version of MySAP, which is aimed at small businesses. But MySAP is not a true subscription model: users purchase the software license up front. "We want to help customers solve business problems," notes Gary Fromer, senior vice president of SAP Managed Services (SAP America). "But we don't have a unique hosted solution." Not yet, anyway. — J.E.




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