Pay-per-use app market blooming, benefits unclear

So far, few companies can actually point to paying clients while some analysts even question how much cost-cutting benefits users will realize by using leasing services.

Everyone from hardware and software makers to telecommunications companies are touting the dawning of the application service provider (ASP) market, where customers will pay outside providers to run expensive and difficult to maintain enterprise software.

"People are wild about retail to consumer e-commerce," said William Patzer, first vice president of the Global Value Fund at Merrill Lynch. "But that segment is going to pale compared to the business-to-business applications."

A Forrester Research report notes that the growing shortage of skilled workers is likely to encourage companies to seek outside help in maintaining their packaged applications, helping this market hit $10.1 billion by 2001. International Data Corporation, however, projects the market will grow to $2 billion by 2003.

The discrepancy seems to stem largely from fledgling players in the ASPs market having a murky understanding of how they will charge clients.

"If you ask a company whether they really understand the model in terms of profitability, the answer is no," said Joshua Greenbaum, an analyst at Enterprise Applications Consulting. "There's a lot of talk but the companies offering the service are just shooting in the dark in terms of if they have the right model."

Certainly, some large players have entered the ASP field. Last month, Hewlett-Packard teamed up with enterprise software maker SAP and telecommunications upstart Qwest to sell companies access to SAP's corporate planning software.

"These [apps-on-tap] services will need massive data centers and cyber-centers with thousands of servers with software and support to keep them running," said Ann Livermore, chief executive of HP's Enterprise Computing division, on Wednesday at an HP analysts' meeting. "We see this as a multiple billion dollar opportunity.

"Going forward, [Information Technology] will be viewed as a service paid for on a usage basis rather than as an asset that you buy and put inside your corporation," Livermore added.

PeopleSoft is also in a deal with application services provider Corio, which in turn has a deal with Sun Microsystems for its hardware.

"Most of the money that is going to be made on the onset is through equipment sales: hardware and server sales," said Carlos Mercado, a portfolio manager at Sturdivant & Company, an investment firm. "After that, it becomes a bit more cloudy."

With IBM already a leader in e-business and Oracle promising to redouble its online attack, the field is likely to get more crowded and competitive. Analysts agreed that each provider will need to find a way to differentiate itself from its competitor. However, given the similarity in services, price wars are likely to drive down the overall price structure.

Still, even with falling prices, ASPs are counting on generating even more revenue from increased usage, analysts said.

"Using pay-per-usage won't necessarily wind up being cheaper for users," said Greenbaum, noting that most ASPs are aiming to reach small to mid-sized business that cannot afford their own IT departments. "Once a system is up and running, and e-services companies are counting on this, customers will realize more and more how useful and efficient the system is and will dramatically increase usage."

However, these users will benefit from spreading IT expenses over time.

"The fee-per-use is a pretty good paradigm that will grab hold because it will take a fixed cost and make it variable," said Merrill Lynch's Patzer.

Analysts note also note that ASPs will not be buffeted about if there is a decline in usage due to a fading economic environment.

"We're not talking about real-time application rentals--at least not yet," said Greenbaum. "Perhaps there are some worries about what will happen during an economic downturn, but these ASPs will have contracts based on minimum usage and some upfront commitments."

If the ASP market catches on, what will be the impact upon the Cambridge Technology Partners and the Keanes in the IT world, which specialize in custom-configuring and building IT systems?

While some analysts speculated that these specialized IT companies may get acquired by larger players, other said they would continue to have a large number of companies that need their services.

"There will always be the need for targeted and specialized processes that only Cambridge and Keane can handle," said Greenbaum. "You can't do a lot of strategic business processes with bundled per-usage-arrangements."

While companies and research firms sing the praises for application leasing, the practical implementation of the services are still quite far down the line.

"All this talk of apps-on-tap is really more posturing," said Greenbaum. "And many of the early customers are just testing the waters and also helping the vendors test the waters."