A new lease on life

By Alorie Gilbert
Staff Writer, CNET News.com
July 7, 2003, 4:00 AM PT

A few years ago, the demand for "ASPs" seemed to be dying even before most people learned what the initials stood for.

Application service providers--companies that develop, run and maintain business software for monthly or annual fees--were touted at first as the perfect solution for businesses rushing to join the digital revolution. But as the success of early ASPs was hitched to the Internet stock market bubble, many fizzled, alongside countless other start-ups, when it burst.

Some, however, managed to hang on. And after several false starts, limited technologies and sometimes-desperate experiments, companies and industry analysts say the market for ASPs may finally be ready to establish itself.

"ASP technologies weren't working that well five years ago," said Sheryl Kingstone, an analyst at the Yankee Group. "(They) couldn't be customized, didn't have offline capabilities, couldn't be integrated with other systems and didn't have this or that feature. The ones that survived have kicked out all those 'but-but-buts.'"

The concept of "hosted" software should sound familiar to many who tuned into the Internet hype of the late '90s. ASPs deliver business applications that a customer's employees can access via the Internet, from their desktop. With its low set-up costs and monthly fee, the system provides an alternative to the expensive licensing fees and unwieldy installation associated with buying business applications. Like outsourcers, ASPs seek to relieve companies of cumbersome, but necessary, functions.

RightNow Technologies and Salesforce.com are among a handful of ASPs that endured the brutal shakeout of the New Economy and have even managed to log double-digit growth throughout the technology slowdown. Others include NetLedger, Onyx Software, Salesnet, UpShot and Workscape.

The stagnant economy may actually have helped draw interest in ASPs, because they offer ways to save money, at least in the short term.

Large software systems from the likes of Oracle and SAP typically require an initial investment of many thousands of dollars--if not millions--to cover installation, training, purchase and licensing costs. By contrast, hosted software, which is essentially rented from an ASP, usually costs several hundred dollars a month, an amount small enough to be absorbed among routine expenses within corporate departments.

"It's just a lot easier for a company to leak this cost into their profit-and-loss statement, over time, than it is for them to take a big hit up front," said Timothy Clifford, chief executive of Workscape, an ASP based in Framingham, Mass.

That, in turn, helps companies minimize the vexing problem of "shelfware," or software that lies idle because it is too difficult to support or use.

The business of specialization
Unlike SAP, PeopleSoft and other major software makers, which offer an exhaustive range of interconnected business applications, ASPs typically specialize in software for particular business tasks, such as managing sales opportunities.

Though most ASPs initially targeted their pared-down wares at small and midsize businesses, some have recently gained a foothold in larger corporations through deals for departmental projects and with smaller divisions. For instance, Salesforce counts America Online, Mitsubishi and Fujitsu among its customers.

With hosted applications, "the risk is very low for the customer," said Joshua Greenbaum, an analyst at Enterprise Applications Consulting in Daly City, Calif. "You don't buy the perpetual license and hope you use it some day. You pay for what you use, which makes sense in a bad economy. It makes sense anytime, but particularly now."

Oracle's battle to buy rival PeopleSoft could bode well for application-hosting companies such as Salesforce, said Laurie Orlov, an analyst at Forrester Research. Database maker Oracle has said it plans to discontinue selling PeopleSoft's applications and eventually stop supporting them, should its acquisition bid succeed. That could leave a large percentage of the more than 5,100 PeopleSoft customers--many of whom have voiced opposition to the deal--looking for a new set of applications.

"If the whole applications market is thrown into chaos by this deal, as it appears to be, then the idea of a no-installation, potentially no-license, hosted application must feel a bit like a breath of fresh air," Orlov said.

Hosted software puts fewer demands on in-house computing staff--as the ASP takes care of updating and maintaining the applications--and, in some cases, even allows business managers to bypass their information technology departments altogether.

Frank Mallozzi, vice president of sales at Electronics for Imaging, appreciates the ease with which the network printing company can create customized reports and make changes with a customer information system from his ASP, Salesforce.

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Many ASPs say their sales are climbing and their work forces expanding. The leading providers are privately held, and Salesforce is believed to be at the top of the heap, having reported its first profit--$188,000, on revenue of $19.1 million--in the quarter ended April 30. The San Francisco company expects annual revenue to double this year to $100 million, said Marc Benioff, chief executive of Salesforce. He added that the company is ripe for an initial public stock offering.

Still, the ASP business is not without its risks--including some of the same problems that helped decimate the market in the late 1990s. Potential customers are reluctant to let a third party handle valuable business data, fearing for the security of hosted systems that operate outside their own firewalls. In addition, questions persist about the whether hosted applications can be made to work with systems from other developers.

Salesforce.com has attempted to tackle these issues with a new initiative called "Sforce," which allows businesses to customize their Salesforce applications. A second version of the program, expected next year, is intended to let other software makers use Salesforce's infrastructure to deliver hosted applications.

Beyond the here and now
Perhaps the most difficult question for ASPs is their long-term outlook. Analysts and others in the industry wonder if hosted services are simply stopgap measures that will eventually give way to traditional, purchased systems when the economy improves. Moreover, even if the business does endure, the competition to provide cheaper, easier-to-use business applications is growing.

Microsoft entered the fray in the last year with a low-cost customer relationship management software package aimed at much of Salesforce's targeted market. SAP and PeopleSoft are also renewing efforts to sell to midsize businesses with simplified versions of their sprawling software programs. Oracle has launched its own hosted software division, called Oracle Outsourcing, that it touts as one of its most promising new endeavors.

ASPs say they have no delusions about conquering the Goliaths of their industry overnight. Greg Gianforte, chief executive of RightNow, said his company's biggest foes are "inertia and empires with momentum"--shorthand for reluctance among IT managers to change their approach toward software and for huge companies, such as SAP and Oracle, that don't want customers to challenge the status quo.

"Someone's kicked out the first brick in the wall," Gianforte said. "It will take a decade for the wall to come down."

Regardless of size or specialty, all ASPs have a common mantra: Software is a big pain, and that's got to change. Critics of large software makers claim businesses are tired of the aggressive sales tactics common throughout the industry. And ASP executives say many customers are paying the price for traditional software packages, bought when budgets were flush, that have not delivered promised benefits.

"All these companies bought all this software--accounting applications from SAP, call center systems from Siebel (Systems)," said Zach Nelson, chief executive of NetLedger. "They woke up with a hangover because none of that stuff works together, and it didn't work as advertised."

Many software companies--including SAP, PeopleSoft, Oracle, i2 Technologies and Siebel Systems--have faced rising criticism from customers. Siebel was the subject of the most recent controversy, which involved analyst reports of customer dissatisfaction.

"The software industry is in a state of crisis right now because so many companies haven't kept their promises to customers," Gianforte said. "Why? It's because of the complexity of the software and because of hit-and-run licensing practices. People are fed up with the traditional enterprise software model."

Evidence of a backlash can be seen in declining sales and layoffs at many leading business application companies. Siebel reported that its 2002 revenue slid to $1.64 billion, a drop of 22 percent compared with the year before. The fall in Siebel's software revenue, its core business, was even steeper: a 34 percent drop, to $700.3 million.

PeopleSoft's 2002 revenue declined 8 percent to $1.95 billion, while its software revenue sank 18 percent to $530 million. Oracle's software revenue from its applications business fell 31 percent to $702.6 million in fiscal 2002, and it has continued to shrink in year-over-year comparisons every quarter since.

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Salesforce, UpShot, NetLedger and Workscape all expect double-digit or triple-digit revenue growth this year. "We're certainly not seeing any downturn," said Keith Raffel, chairman and founder of UpShot, based in Mountain View, Calif.

Executives at Salesforce say they are making inroads in Siebel's customer base. But the rival software company discounts such claims, maintaining that the vast majority of its customers are happy with its products.

"We have thousands of customers," said Ken Rudin, a Siebel vice president and general manager. "I'm not surprised if Salesforce.com is going to cherry-pick one or two that didn't go with our best practices for implementation."

Some potential customers, however, complain that Siebel's "best practices for implementation" often require months of consulting, analysis and planning--which mean time and resources that many companies simply don't have.

Sovereign Bank, a subsidiary of Sovereign Bancorp in Philadelphia, was one such company. It opted for Salesnet's customer information system for its commercial lending division.

"We didn't do a big return-on-investment study," said Bill Patten, the bank's technology director. "We saw intuitively--from the quality of sales, increased bookings and increased prospects--that it was working."