B2B Analysts
About the Company   Services   Research   Pressroom  
Short Takes
Profit Optimization

Virtual Bank of Microsoft

All That Cash

A History Lesson. In World War I, England went to war with Germany in order to preserve the English way of life. They won, but in the process, that pre-war way of life was utterly destroyed.

If there is a war in the business applications space between Microsoft and SAP, et al. (see the 8/6/2002 issue of Short Takes), we can be pretty sure that the old way of life will also disappear, no matter who "wins." In the last issue, we laid out one way that Microsoft can change the rules—by changing perceptions about price.

In this issue, we extend that discussion and describe other ways that Microsoft can attack the friendly, comfortable, highly profitable way of life of the large business application vendors.

We begin with a history lesson. In the 1980s, IBM introduced a new version of its System 3xx line called the AS/400. This box was enormously successful. It was able to displace lower-end mainframes and compete quite effectively with mini-computers. The success was due to a combination of strategies:

  • KISS. This machine was and is really easy to set up and run. Last time we checked (several years ago), several hundred thousand small and medium-sized businesses had bought it.
  • IBM sold hardware, software, and consulting as a turnkey solution. And they provided financing.
  • IBM welcomed resellers.
  • IBM encouraged and even resold the development by other companies of application software for the AS/400 platform.
  • IBM standardized data management, programming languages, telecommunications, file access, and the operating system.
  • IBM created new applications or bought other applications to bolster its product line.

In that era, IBM's competitors sold openness and flexibility. If you wanted an HP 9000, you could pick Unix as your operating system, QAD as your manufacturing solution, etc. This worked, but even in the heyday of the minicomputer, the stodgy, old-fashioned AS/400 sold well, especially in Europe and Asia.

Simple, Turnkey Solutions from Microsoft? Can Microsoft's enterprise application business do roughly the same thing and grab market share equivalent to the AS/400's?

Clearly, the demand is there. Mid-market and small companies would like to have turnkey solutions, financing, standardization, simplicity, and bundling of multiple functions. For this kind of offering, use the "crazy" test. Would you be crazy if you didn't want it? The answer is yes.

There is no such offering in the enterprise application market today. Compare, for instance, with Oracle's applications for the mid-market. These probably come the closest to being a turnkey solution. Every bit of core functionality is available. It's integrated. You can buy it all on a CD (including the database), but pay only for what you use. But it's just software. Believe me, there's a long, long distance between getting a CD and getting the stuff up, running, and working. You need hardware. You need consultants. You need lots of ancillary software. And you need to do a fair amount of work yourself, understanding the system, setting it up so it can model your business, making decisions about what features to deploy, etc.

Mind you, Microsoft doesn't have a simple turnkey solution, either. Essentially, if you buy Solomon and FRx, or Great Plains eEnterprise and FRx, you get something roughly equivalent to what Oracle offers—somewhat less functionality (depending on the buyer), but somewhat more simplicity. At bottom, you have the same hardware, software, integrator, and management problems.

But they are, gradually, beginning to provide the elements of a turnkey solution.

Microsoft's turnkey strategy. What did the AS/400 do? It was simple to install and manage. It combined functions that had been separate. It acted as a platform for other applications. It gave rise to an ecosystem of resellers and developers. And IBM financed the purchase.

How is Microsoft doing? So far, it's not particularly simple to install and manage, except (as noted in the previous article) on the backs of the channel partners, and only for users who are not hypercritical. But in all other areas, they are making their moves.

You saw, for instance, that Microsoft was beginning to combine functions when they announced e-connectivity functionality for the applications very soon after they bought Great Plains. Compare for simplicity and straightforwardness with mySAP.com, which SAP is using as a wedge to drive upgrades and relicensing.

What about platform? Theoretically, acting as a platform was always part of the .NET strategy. But it is becoming more than theoretic. We learned recently that Microsoft is now approaching small software developers, often people with a niche product in an already competitive area like SCM, and asking them to act as channel partners.

The ecosystem is actually more problematic. Microsoft does have 30,000 channel partners. But no matter how many there are, they are not necessarily a channel for an enterprise application. Unless Microsoft provides far more enabling than they have so far promised, the Mickys of the world won't be able to install a satisfactory solution. (There are, of course, some Solomon and Great Plains channel partners who are excellent, just not 30,000 of them.)

Still, that doesn't stop them from making moves. Though I know of no cases, the kinds of small application consulting companies that put in Baan or even SSA must surely be asking Microsoft about partnerships. And there is nothing, except history, stopping Microsoft from buying them or locking them in in other ways.

Which brings us to financing.

All That Cash. In Microsoft's recent 10-K: "Cash and short-term investments totaled $38.23 billion as of December 31, 2001. Cash flow from operations was $6.95 billion in the first six months of fiscal 2002, an increase of $1.08 billion from the first six months of the prior year." Microsoft, who has never paid dividends, is in the rare situation where it may need to either pay a dividend, buy back more of its stock or start a financing arm. We're betting on the latter.

A financing arm doesn't do when it's financing products that cost $249. But business applications? Not only can it make money by itself, it can help sell the applications (and all the other .NET components). By offering convenience and easy money to small and mid-sized businesses, Microsoft can control what customers will buy (i.e., all-Microsoft, you can be sure) and how they'll connect their businesses to the Internet. The best distribution strategy for .Net is to get the small to mid-sized business world to embrace it.

Will customers and VAR's support this? Absolutely! Many resellers would benefit from having Microsoft finance their customers' purchases and integration fees.

Look, too, at the long-term control over the market that this would promote. If Microsoft limits variations in its solutions, promulgates standards through its resellers, and stands behind its offerings, easy financing will eventually allow it to create a de facto Microsoft standard in these applications analogous to what the AS/400 had.

Can Microsoft do it? If they spend enough money, certainly. But it would be unbelievably expensive. The makeover on the products required to make them far more turnkey than they are now (install them the way you install XP would be the eventual goal) wouldn't be a quick visit to a 5th Avenue salon. It would be more like plastic surgury, with an organ transplant or two thrown in. The financing would be expensive, and while the products don't run well (relative to the ideal) and aren't simple, the support costs and risks of unhappy customers are enormous.

What to Look For, What to Do? To see whether Microsoft is adopting this strategy, look at the product(s) carefully and watch the announcements carefully. The more they are bundling in solutions, the simpler the product is to use and install, the lower the cost of implementation and integration, the more highly integrated with other Microsoft tools, the closer Microsoft will get.

If they are adopting this strategy, and it seems to be working, who will benefit and who will be hurt?

The most obvious victims will be software companies that need the mid-market or are focused on the mid-market who don't have much cash. They will need to respond to a turnkey message with one of their own, and that will require resources.

Beyond that—and this is the idea we started with—the victims include apps companies whose products are simply not as simple, easy-to-install, easy-to-integrate, and comprehensive as the Microsoft products will pretend to be. Lots of money will have to be spent on improvements, and lots of little profit centers will disappear. Investment in backfill and repair R&D is not terribly productive, so during this time ROI will go down.

The most obvious beneficiaries are niche business application companies that can be swallowed up or otherwise persuaded to adopt the .NET platform. Microsoft may have to encourage these companies, either by buying them or subsidizing them in order to accelerate their own development. If so, it will be an odd reversal, since Microsoft has such a long history of stifling innovation in areas where it wants to play.

Other beneficiaries may include consulting companies or other companies with intellectual capital in this area. (Like B2B Analysts?) Microsoft may simply have to spend some money to grab the capital.

And finally, look at successful companies that provide services that can be part of the bundle. Brian suggests that Microsoft may want to look at PayChex. This publicly traded firm handles the payroll processing of a significant number of small to mid-size businesses. It would be a nice complementary service to this customer base. The cross-selling opportunities could be significant.

The PeopleSoft conference has snuck up on us, and there's a lot of other news, so we're going to hold off on the third in the Microsoft series until sometime this fall.

If you missed a recent Short Take, click here for a listing.