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In a Fix

Confused by the spate of takeovers in the enterprise software industry? A new crop of third-party advisers is here to help.
Jason Karaian, CFO Europe Magazine
December 18, 2006

You wouldn't know it by the company that he works for, but Gijs Houtzagers doesn't like to take risks, at least not when it comes to IT. When he joined Holland Casino, a €681m company that runs 13 casinos in the Netherlands, in 2002, he says its PeopleSoft ERP system was "in a bit of a mess" and some bold work was needed. A big reimplementation followed, and a year later the entire company was working with the same version of the software. But then, Houtzagers recalls, came "the Oracle thing."

Oracle's hostile bid for PeopleSoft was launched shortly after PeopleSoft's takeover of JD Edwards in mid-2003 and it dragged on and on. PeopleSoft grudgingly accepted Oracle's $10.3 billion (€7.9 billion) offer at the end of 2004. When the dust settled, three of the ERP market's largest vendors became one.

Like many PeopleSoft and JD Edwards customers, Houtzagers wasn't comfortable with the thought of his company's IT systems coming under new ownership. Given the rancorous takeover battle, in which each party rubbished the other's products, management and much else, Houtzagers was more than a little nervous about Oracle's commitment to its new customers, despite conciliatory statements issued after the deal closed. Sooner or later, he reckoned, Holland Casino would be forced to upgrade to Oracle's next-generation applications suite, called Fusion. Rather than take a gamble and leave his company at Oracle's mercy, Houtzagers explored his options and took action.

It's a scenario that plenty of other companies are familiar with. The group of five leading IT vendors formerly known as JBOPS—for JD Edwards, Baan, Oracle, PeopleSoft and SAP—is now three. Market leader SAP is notable for its focus on organic growth and relatively balanced revenue split between maintenance, licence and services fees. Still, it is not immune to merger fever, having been outbid for retail software specialist Retek by second-ranked Oracle, which spent some $20 billion gobbling up rivals over the past two years. The third-largest ERP vendor, private equity-backed Infor, is a collection of 30-odd formerly independent ERP vendors, including Baan, following its May takeover of SSA Global, itself a prolific dealmaker.

And ERP users should brace themselves for more upheaval. "Further consolidation among ERP vendors is inevitable," says Paul Hamerman, an analyst at IT consultancy Forrester Research.

With their market rapidly maturing, ERP vendors are finding new licence growth scarce. So their best hope for revenue growth is in the annual support contracts they set up with their customers. These typically range between 17% and 22% of the original purchase price of software. Forrester predicts that maintenance revenue will grow by an annual average of 9% through to 2010, outpacing both licensing and services growth. By the end of the decade, maintenance will account for 45% of ERP vendors' revenue, up from 40% in 2005.

But it's not all bad news for corporate IT users. Hoping to poach disillusioned PeopleSoft and JD Edwards customers, SAP launched a programme in January 2005 called "Safe Passage." The vendor offers a significant licence credit for PeopleSoft and JD Edwards customers if they agree to switch to SAP—in Holland Casino's case, 65% of its original investment in PeopleSoft. SAP also offers cut-price maintenance for a range of systems now owned by Oracle via TomorrowNow, a third-party support specialist it bought in conjunction with the Safe Passage programme.

At Holland Casino, Houtzagers calculated that the implementation and running costs for an upgrade to Oracle's Fusion or NetWeaver, SAP's latest offering, would be nearly identical. However, given the licence credit and support offer from SAP, Houtzagers decided to make the switch. He jokes that no ERP implementation can be called "smooth," but offers few complaints about the transition to SAP, which will be complete in early 2007. The "couple of hundred thousand euros" the company saved by signing up to the Safe Passage programme meant the full-featured new system from the global ERP leader was cheaper than cobbling together a system of limited functionality from small, local software vendors.

Running in Place
Not every company is as eager to rip and replace its current systems as Holland Casino. "There is little appetite to go through the upheaval of implementing a new system," notes Neil Jones, a principal at Deloitte Consulting. "In general, it's now about gentle optimisation and minimising upheaval."

This is where companies like TomorrowNow have spotted a promising niche. Third-party support specialists like TomorrowNow offer much cheaper support for "legacy" ERP systems no longer owned by their original creators. They're targeting companies that are happy with the stability and functionality of their current systems, and are unhappy about paying maintenance fees that are the equivalent of repurchasing the software every four or five years. "If I am using JD Edwards, why do I pay 22% maintenance to Oracle?" asks Andrew Nelson, a former PeopleSoft executive who co-founded TomorrowNow in 1998.

An industry rule of thumb dictates that vendors put around half of the revenue they earn from maintenance fees towards new product development. By taking those fees out of the equation, third-party providers claim that they are able to offer a minimum discount of 50% on vendor-provided maintenance. What's more, most of the service providers are staffed with former employees of PeopleSoft, JD Edwards, Siebel and other Oracle targets.

For four years, netCustomer provided outsourced support for PeopleSoft from its base in Noida, India. Following Oracle's takeover, the now-independent service provider says that it can save customers up to 75% on support for People- Soft, JD Edwards and Siebel systems. "The enterprise applications market is maturing, and the gap between what customers need and what vendors want is increasing," says Punita Pandey, net- Customer's CEO. "Our customers are okay with what they have for the next five years, and want to save on maintenance in the meantime."

As a starting point, netCustomer charges 50% of a customer's most recent vendor-supported maintenance bill. It then cuts the cost of support for modules a customer doesn't use—a surprising number of companies negotiate good deals for bundles of applications without realising that recurring support costs for unused "shelfware" can really add up, Pandey says.

NetCustomer's India-based support staff also tailors its service to heavily customised systems, something vendors tend to shun and for which western consultants charge a fortune. "We offer huge savings on what you would call utility spend," Pandey says. "This frees up a lot of the budget for CFOs and CIOs to spend on innovation, rather than paying large amounts to vendors making a 90% margin on support services."

However, third-party support services are not for everyone. By definition, these support providers do not have access to source code. Thus, they can offer publicly available patches and regulatory updates, but cannot add new functionality. For this reason, says Forrester's Hamerman, the third-party route is best for companies that: have little interest in functional upgrades to mature applications like accounting and HR; have limited geographic coverage; or want personalised service for a limited product set. But regardless of those factors, says Hamerman, companies should leverage the offering from the likes of netCustomer and TomorrowNow as a "negotiating tactic" when signing maintenance deals with their current vendors.

For the time being, the majority of third-party support providers are targeting applications bought by Oracle. But SAP is up next. In May, Oracle announced a partnership with a service provider called Systime, offering SAP R/3 users a 55% discount on maintenance costs. Oracle also gives up to a 100% licence credit to SAP customers if they agree to switch to Oracle under a programme dubbed Oracle Fusion for SAP, or "OFF SAP" for short.

Back at Holland Casino, Houtzagers is now writing a white paper for the company's board. It will detail his plans for the new ERP system over the next three years, including "spreading SAP in a broader sense to departments beyond just finance and HR," he says.

In recent years, though, SAP itself has been the subject of takeover rumours involving both Microsoft and IBM. After being caught out with his short-lived implementation of PeopleSoft, Houtzagers admits that, at the moment, any forward planning when it comes to IT is, in a sense, a roll of the dice. Think of Arthur Andersen, he says. "Companies disappear. Anything can happen."