ISG Software Research Analyst Perspectives

As Workday continues to expand and the likelihood of its IPO becomes a more frequent topic of discussion, so does the movement of ERP systems to the cloud. Thus far, only a minority of companies have chosen to put their ERP and accounting systems in the cloud, but the numbers are growing and there’s evidence of success. NetSuite, for example, reported a 26 percent increase in its revenues to $145 million in the nine months up to Sept. 30, 2011. To be sure, this is not close to Salesforce.com’s size and growth rate over the past decade, but it does indicate a growing acceptance of the cloud for this software category, which I have commented on. Moreover, I expect that as more companies adopt cloud-based systems successfully, we’ll see accelerating adoption by more cautious buyers in the classic diffusion of innovation pattern described by Everett Rogers (and later reworked by Geoffrey Moore). So, amid these shifts, who wins and who loses? The answer is we don’t know yet. Around this issue the only sure bet is that uncertainty won’t stop industry observers from making extravagant predictions that will be widely disseminated. Some of these analysts already look for rapid, wholesale replacement of existing on-premises ERP deployments. The historical record, however, doesn’t give this view much support. After all, mainframe computers, which were dubbed dinosaurs two decades ago, are still going strong at IBM. Indeed, I believe that the business technology landscape is more additive in the short and intermediate terms. Then, too, pundits seem to expect on-premises ERP vendors to be too sluggish to develop and implement a viable cloud strategy. No doubt this will happen to some, but the lessons of the colossal blunders by once-dominant software category owners such as Lotus Development and Dunn & Bradstreet Software has not been lost on today’s software executives. While “upstarts win and the status quo loses” is a provocative theme, I’m afraid that in this case the crystal ball is a bit cloudy (forgive me) when it comes to the winners and losers. The ERP vendors that only have a cloud offering are gaining momentum and have the advantage of starting with a new approach and steadily maturing capabilities. They have fewer business model issues because they have started with a subscription fee structure and do not face the income statement disruptions that would hobble on-premises vendors whose results depend on perpetual license revenue. Epicor (acquired earlier this year by Apax) and QAD are two that have cloud offerings. The latter’s subscription fees are still tiny but doubled in the past year. At the same time, the large vendors Infor, Microsoft, Oracle and SAP have – or are likely to develop - cloud offerings aimed at buyers of various sizes, and can offer public and private cloud options and flexible licensing terms, depending on how the buyer wants to configure its infrastructure and finance the purchase. Still, the incumbents have vulnerabilities. I believe Workday, with a focus on people-intensive services businesses, presents a serious threat to Infor’s Lawson Software customer base and, to a lesser extent, Oracle’s installed base of PeopleSoft users. Intacct, NetSuite and Workday pose threats to Microsoft Dynamics. Until recently, midsize companies (those with 100 to 1,000 employees, by our definition), which account for most of the Microsoft Dynamics customer base, have typically put off migrating from entry-level accounting and finance packages to more capable software because of the cost and ongoing resources required to support that software. The three cloud vendors noted above have been successful in getting those companies to migrate from entry-level packages sooner because they can deliver greater capabilities and are less costly alternatives to on-premises software for midsize companies. Microsoft Dynamics’ great strength is its reseller channel, but it is challenged in getting these resellers to fully embrace the cloud with a set of offerings that better leverage Microsoft’s server and Office assets. Analysts aren’t encouraged to be economists (“on the one hand… but on the other…”), since people look to them for clarity and perspicacity. However, I think at this point it’s too pat to state that in the ERP category the cloud vendors are going to whip the status quo. Those identified as cloud vendors that publish financial statements are currently showing strong growth. Yet what we mean by “cloud computing” is likely to evolve, as will the incumbents’ offerings. The big vendors have big resources, they have (or will have) cloud offerings and are pursuing broader platform strategies that may provide compelling advantages to some customers. The smaller vendors are showing flexibility. The cliché of the fat lady has yet to sing applies to the current environment. Best regards, Robert Kugel – SVP Research

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