Taking the plunge into open source

More software companies are finding that the best way to make money with software is to give it away, cherry-picking open-source software practices for commercial gain.

On Monday, a small software company called Aras will release the code of its design application--written entirely with Microsoft technologies--and shift to an open-source business model.

For a small company faced with tepid growth, letting anyone download its application for free was a risk worth taking.

"We've been growing but growing at a slow and steady rate. It was our observation, and the board agreed, that enterprise software is on the verge of a big shift," said Peter Schroer, president of Aras. "In open source, what's left is the application layer, and we wanted to be the first to offer it, not the last."

Aras' decision to go open-source mirrors moves by hundreds of software companies adjusting to the popularity of open source, where a product's underlying code is freely available.

With an open-source business model, companies often charge for services, such as support and product updates, to paying customers while allowing unsupported customers to use the product for free--or the companies offer a free edition in addition to a higher-end, paid version.

The effect of open source has swept through different corners of the software business, most profoundly with the Linux operating system and products that cater to software developers such as development tools and infrastructure software used to run Web sites and business applications. Nearly all of the largest infrastructure software companies--including IBM, Oracle, Sun Microsystems and Novell--have adopted some aspects of open source.

A handful of other companies are trying the open-source model in packaged applications, including SugarCRM, which sells customer relationship management software, as well as enterprise resource planning (ERP) application companies Compiere and OpenMFG.

By going open-source, Aras is trying to grow revenue in a product segment called product lifecycle management (PLM), programs for coordinating the design and service of manufactured products. The software is typically expensive, and the market is dominated by a few large providers, including Parametric Technology, Dassault Systemes and UGS.

With open source, Aras hopes to make its software cheaper than entrenched vendors and easier to roll out to many employees within a company.

The plan is to forgo the license revenue it would have made from licenses and make it up, over time, with two-year support contracts, Schroer said. "It's a very disruptive way to bring a product to market."

Raven Zachary, an analyst at the 451 Group, said that most software companies choose to open-source just a segment of their product lines, rather than a whole-scale business model shift.

Whether these projects, whatever the form, will ultimately be successful financially is still unclear, but the market push toward some form of open source is strong, he said.

"You see some cases where going open allowed a company to get additional venture capital or additional customers. We haven't seen a failure yet," Zachary said. But "the barrier for a proprietary start-up is pretty high."

No quick fix
Adopting an open-source business model is not only a matter of cleaning up code for popular consumption and sponsoring a project to accept outside contributions.

Advocates of open-source businesses say that the loss of license revenue, particularly for pricey business software, has to be offset with lower operating expenses. Generally speaking, that means cutting back on sales and marketing.

Aras, for example, eliminated its sales positions and is replacing them with application engineers who will provide support to customers' nitty-gritty questions. Those are "the people the customers want to talk to anyway. They don't want to talk to a salesperson," Schroer said.

"From the day we announced (the open-source plan), even though we had not made any revenue yet, it gave us more marketing visibility than $10 million would have given us."

--Peter Zotto, CEO, Iona

Another company that decided to jump into the open-source realm is Iona Technologies, which sells integration middleware to large corporate customers.

In 2005, Iona decided to create an open-source project for its Java-based integration middleware. Last month, it began offering support services for those freely available products.

That decision to go open-source had some risk because the company, started in 1991, is a relative neophyte to open-source projects and has yet to prove it can earn money from a support-only business, said company CEO Peter Zotto.

But the move has helped make Iona, which was struggling financially, "relevant" in the marketplace again, Zotto said. By adopting some elements of open source, customers and other vendors see Iona staying on top of industry trends, he said. For example, Iona was invited to participate in important standards groups with other industry players like IBM, BEA Systems and Oracle.

"From the day we announced (the open-source plan), even though we had not made any revenue yet, it gave us more marketing visibility than $10 million would have given us," Zotto said.

Even Wall Street analysts have been enthusiastic with the plan, despite the potential lost revenue, he added.

For a small company like Aras, giving customers the code to the product effectively gives them a site-wide license, rather than restricting the product's use to licensed customers. It also functions as a form of code escrow, a common practice where business customers have a copy of the product in case a smaller provider runs into financial straits.

"Early customers have an opportunity to have more influence, with the level of support they get. And they can have a greater effect on product road maps," said 451 Group's Zachary.

Free and open source are firmly rooted in a philosophy of sharing and collaboration. But for software companies adopting open source, it's far more pragmatic.

Even Microsoft, the largest proprietary software company, has adopted various open-source practices such as sharing code. The code from Aras' PLM application, for example, will be hosted on Microsoft's CodePlex code-sharing site and use one of Microsoft's Shared Source licenses.

Microsoft's change in tactics vis-a-vis open source allowed Aras to go ahead with its open-source strategy.

"Historically, Microsoft and open source have not been thought of together, but we saw a pervasiveness of Microsoft infrastructure and even more importantly, the skill sets companies have in working with Microsoft products," said Marc Lind, Aras' vice president of marketing.

While Aras intends to give away its entire product, often software companies hold something back.

OpenMFG, a company that sells ERP applications to small businesses, is typical of many software companies in that it embraces only aspects of open-source development.

The company's application is built using the open-source PostgreSQL database and Trolltech's Qt development framework. The company has set up a collaborative development process, where customers and resellers can contribute customizations to the base product.

Venture capitalists and others have urged OpenMFG to open up entirely by making its software free, but the hybrid approach suits the company, said CEO Ned Lilly. He regularly considers whether OpenMFG should offer its software for free, but he hasn't seen the demand from customers.

The advantage of going fully open-source is that it would get the software into more potential customers' hands, particularly as the company seeks to expand in Asia. But the company is growing at a manageable pace, Lilly said.

Lilly said that many companies have made products open-source to try to resurrect a poorly received product, which is a mistake, he added.

"There will be plenty of people who do it for the wrong reasons, and the pendulum will swing the other way and people will ask, 'What were we thinking, giving away our software,'" Lilly said. "They'll be blaming open source, but in all likelihood the blame will lie with a failure to execute, or taking care of customers--all those old-fashioned things."

Zachary said that many smaller companies are forced into taking a free product strategy. Large vendors like Oracle and SAP can count on recurring maintenance and support revenue, while companies with a small number of customers are far more dependent on license revenue.

"The only way to (compete) is to go open-source or software as a service--do something disruptive," Zachary said. "You have to do something to generate demand."