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McKinsey surveys the new software landscape

April 29, 2008

A new study, to be released today by McKinsey & Company, reveals in some of the clearest terms yet the sea change that is under way in business software. The consulting firm surveyed more than 850 corporate software buyers, from firms of all sizes, and found that software-as-a-service is rapidly "becoming mainstream," with three-quarters of software buyers saying they are "favorably disposed to adopting SaaS platforms" for software development and deployment. The rapidly growing embrace of web applications is leading, says McKinsey, to a fierce competitive battle, between "traditional mega-vendors and the larger SaaS incumbents," for the future of the enterprise software business.

Companies report that they will dedicate 19% of their total software budget to applications delivered as services this year, up dramatically from the negligible amounts spent on subscription software just a few years ago. Smaller and mid-sized companies are the most aggressive adopters of web apps. Companies with fewer than 100 employees are spending 26% of their software budgets on subscription software, while the largest companies are spending 11% on web apps. Reports McKinsey: "While the faster adoption in SMB is no real surprise, what is interesting is that there are some large enterprises that are converting to the models that underpin SaaS offerings. For vendors, this is a strong indication that there is a clear opportunity even at the largest prospects for those that can offer the right product in combination with the right selling strategy."

The shift to web apps, says McKinsey, is beginning to reshape the software business, "fueling the rise of a new generation of platforms to develop, integrate, deploy and host these applications." The platforms are taking three different forms, according to the firm:

1. Delivery platforms, which take the form of either managed hosting or cloud computing: "Managed hosting, exemplified by companies such as OpSource, IBM and RackSpace, is similar to traditional hosting but tailored to SaaS. In this model, developers set up/obtain their infrastructure from a hosting provider who manages it for them. Developers can get superior service levels and support compared to doing it themselves. Cloud computing, such as offered by Amazon (EC2 and S3) is a model where a vendor provides on-demand access to infrastructure capacity over the cloud. Major advantages of cloud computing relative to managed hosting include faster provisioning of capacity and ability to scale capacity up and down as needed. On the downside, users don’t get to choose or customize their infrastructure, need to be comfortable with sharing resources and may get lower service levels and support."

2. Development platforms, which provide "all or some of the integrated developer environment (IDE) tools needed for creating an application on the Web, in addition to hosting." Examples include Bungee Labs and Coghead. While "nascent" at this time, development platforms "could create a tectonic shift in software development by opening application creation to a much wider array of developers for a modest cost and even enabling a new generation of non-developers to create SaaS applications easily."

3. Application-led platforms, such as those offered by Salesforce.com, NetSuite, and Cisco-Webex, which "rely on the initial delivery of a business application to create a customer base and establish a foundation for the platform as a separate offering. This area has the greatest marketplace traction today, in large part because of the success these vendors have in selling rapid deployment of new applications to existing customers, as well as targeting developers to write for a platform that is already popular with potential customers."

The key challenge for the platform providers, writes McKinsey, is to convince IT professionals of the viability and reliability of their services. IT departments continue to prefer the familiar managed hosting model, which gives them more direct control over IT infrastructure. "For both cloud computing and general development platforms, the issue is maturity. Especially with general development platforms, customers are still coming to terms with the value proposition, and have no signifi cant real-world examples from which to draw. Their success will depend on time, increased familiarity, and the emergence of proven success in the marketplace."

Software's new battle lines are now becoming visible, report the consultants: "These trends – the growing acceptance of SaaS and SaaS platforms – are likely to create a tremendous battle between the largest software vendors and the newer SaaS providers. While each of these players has an advantage at one end of the spectrum (large vendors such as IBM, Oracle, SAP and Microsoft do best in large enterprises, while SaaS “incumbents” such as Salesforce, NetSuite and RightNow are more in favor with small businesses), the real battle is in the mid-market space. For SaaS platform startups, that means trying to get into a room where there are already two elephants vying for the customer’s attention. Success will mean locating a unique niche - and being prepared to have it invaded."


"a tremendous battle between the largest software vendors and the newer SaaS providers"

This is one battleground, but I suspect that an even larger battle is looming as we head towards undifferentiated utility services.

Posted by: Simon Wardley [TypeKey Profile Page] at May 16, 2008 07:43 AM

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