Missing the (Inflection) Point

I never cease to be amazed at how consistently and comprehensively Siebel has failed to understand the true nature and threat of hosted services. Future generations of business school students will marvel at the company's prowess in becoming a perfect case study illustration of Clayton Christensen's The Innovator's Dilemma, achieved while that book remains in the business bestseller lists, and yet without ever once having any inkling of how perfectly it fits the profile: a successful company doomed to failure by its inability to embrace an emerging disruptive technology.

The latest episode in this sorry saga comes in a published report citing sources saying the two vendors are preparing a service in which Siebel's business applications will be hosted by IBM Global Services. The calamitous extent to which these two companies just do not get it is revealed in the way in which the service is described: as a slimmed-down version of its client-server application.

Frankly, I find myself shocked and appalled that there are still people around who remain convinced that the ASP model is simply a matter of what for several years I've characterized as serving up "cut-down software for cut-down companies." If that's all that Siebel and IBM have in mind (and unfortunately there's every reason to suppose it is), then let me put the record straight here and now. That concept bears no relationship whatsoever to the hosted services offered by Salesforce.com, UpShot and their like.

Siebel's error is to perceive hosting as what Christensen calls a 'sustaining technology' -- one that marginally enhances the established client-server paradigm on which Siebel's current products are founded. The company's commitment to that paradigm is so ingrained that it is incapable of recognizing the 'disruptive technology' underlying the hosted services of the emerging companies who now appear destined to usurp its market position.

What Siebel is thinking of is application outsourcing, in which software is hosted in a provider's data center rather than being installed at the customer site. In some circumstances, there can be cost savings, but it's marginal. Coincidentally, I recorded an IT Conversation with Doug Kaye on this very topic last week, in which I describe the specific conditions in which that form of application outsourcing makes sense.

Also last week, I cited an analysis by Microsoft Research scientist Jim Gray, which demonstrates why the economics of conventional application outsourcing don't stack up. Unless you offer a truly shared service, you're just adding telecoms costs to an already largely defunct model.

That's why, as the eponymous company's CEO Tom Siebel himself said last year, "it's just not how people want to buy software." The really bad news for Siebel -- along with Oracle, PeopleSoft, SAP and every other packaged enterprise applications vendor -- is that people don't want to buy software at all. They don't even want to pay for it -- and with hosted services, they don't have to.

Hosted services use a shared-service model that, instead of dedicating a bundle of software code to each individual customer, relies on a completely shared, service-oriented application infrastructure, with delegated, self-service configuration at the process and presentation layer. This shares the cost of the software at a much deeper level than conventional application outsourcing. But there's more.

The most successful of these hosted service ASPs cut their costs even further by using free software. Their services are built on open-source platforms such as Linux, Apache and Perl. They've eliminated software as a cost component.

Tim O'Reilly has been giving interviews recently about how Google and Amazon exemplify this same approach to software: "Don't try to be proprietary. Build software and deliver the services over the net, and be profitable with those services," he says in The Independent today.

Amazon last week expanded on that strategy when it said it will start offering its online payment processing as a service to partner websites, including support for controlled access to web content (ie subscription services). This is a hosted service with all the same characteristics as those of web-native ASPs, and Tim is right: this is the future of software (or perhaps, as I called it recently, The end of software).

Of course, there are many obstacles that still have to be overcome. Some of the most challenging ones are outlined in a transcript of the middle section of my IT Conversation with Doug Kaye. But some insiders have already seen the writing on the wall for the established enterprise software vendors -- last week salesforce.com announced Peter Gassner, a former VP and general manager at PeopleSoft, has jumped ship to head up the ASP's hosted service integration initiative, sforce.

Will any of this make any impact at Siebel? Unlikely. The company's last online venture, sales.com, which masqueraded as a hosted service play, was in reality an attempt to cash in on the dot-com boom with a quick-fire IPO that, like so many similar initiatives, crashed and burned with the pricking of the bubble.

Siebel has never seriously investigated hosted services and seems destined to miss the point yet again -- or, to borrow former Intel chief Andy Grove's phrase, miss the inflection point, "when the balance of forces shifts from the old structure, from the old ways of doing business and the old ways of competing, to the new" (quoted from Only the Paranoid Survive).

Siebel executives will doubtless be reassured by research from Forrester, which finds that while hosted CRM revenue is growing faster than sales of licensed software, "hosted revenue will remain a fraction of the total CRM market." But their calculations will once again be off the mark. Whereas Siebel collects the whole license fee upfront, a hosted provider collects the equivalent sum spread over 36 monthly payments, so a year's hosted revenue equates to three times as much as Siebel revenue. And by offering shared services based on open-source software, hosted competitors can undercut Siebel's prices by an order of magnitude, which adds another 10x factor into the equation.

Put the two together, and it means every dollar of revenue hosted service providers earn at the expense of Siebel is thirty dollars denied to the incumbent -- and thus 3.2% market share already equates to parity. The downside for the newcomers is that they have to acquire thirty times as many customers as Siebel to equal its revenues; but at prices like those, it shouldn't take them long.

This article was first published at Loosely Coupled, a weblog created by ASPnews.com founder Phil Wainewright dedicated to providing news, commentary, resources and services for planning, deploying and managing loosely coupled business process automation.

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