Buying software the new way, and what it could mean for software companies

By Tyson Weihs

Before the Internet exploded, software came in shrink-wrapped boxes that our IT staff or consultants would install on shiny new Compaq servers sitting in amidst a rats nest of servers and cables in the office “server closet”. If you’re Blue Cross and Blue Shield, that software probably was installed by vendors, EDS, or Accenture consultants on large IBM servers in a giant basement filled with of every make and model backup system, power supply, switch, router, database server, and operating system on the market.

The first time I walked through a Blue Cross and Blue Shield data center I saw gear that ranged from giant swing-arm tape backup arrays to the latest and greatest IBM mainframes. Hundreds of applications were running on all these servers and they were all supported by millions of dollars of other “life supporting” hardware. Something interesting I noticed was a lot of empty space. What was once filled with large banks of servers was now occupied by air. The increased presence of air, I think, is a function of some important industry and technical developments that are changing the way we consume and use software.

Instead of buying shrink-wrapped boxes of software and installing it on local servers, business users can now fire up their browser, input credit card information, and immediately obtain access to sophisticated, scalable business applications without having to buy anything else. We refer to this as “self-provisioning”. That is, a user can browse the web, find software that meets a need, buy access to it, and not have to talk to IT, buy hardware, or make go through the pain of installing and configuring. Even our operation as self-provisioned its own applications, including online data rooms, business process diagramming tools, email, and collaboration applications - all without having to install anything on our local computer networks.

Software you can buy via the web and begin using immediately through your browser is what the industry has termed “Software as a Service”, or SaaS for short. Salesforce.com, which you may have heard of, makes its sales management software available through a browser that users can pay for by the drink. It simply means you can, using a web browser, buy and use software today and pay for more capacity or users as needed.
Many software companies are making a run at delivering their software as a service. The pace at which they are doing this is increasing because the tools for building applications are improving and technical improvements are driving down the investment required to build a very scalable application. Lower development and production costs means lower barriers to entry and less required investment. Lower barriers to entry means more competitors will make a run at building substitute products that compete with software delivered the old way.
Two innovations that I think will keep driving down the costs of building and deploying software as a service applications are what are called “compute clouds” and “storage clouds”. Amazon has developed a set of each. Their compute cloud is called “Amazon EC2”, and their storage cloud is called “Amazon Simple Storage Service (S3)”. Remember that space in the data center I referred to earlier - these new services mean that software developers don’t need to buy computers to run their applications or store their data. They simply ask the cloud for more compute power or more storage space. Amazon gives you more of both at a very low cost.

With these clouds, a developer simply says “Amazon, I need two more servers”. Amazon responds with two more servers and charges you $0.10 per hour of time the server is online. Instead of needing to figure out where your next 100 gigabytes of storage will come from, the developer simply says “Amazon, I need 100 GB of storage”. Amazon gives you more storage and only charges you $0.15 per GB stored. No more thinking about what processor you need or which storage solution you should purchase.

The point of all this rambling is that the price of developing and deploying applications continues to drop; more business users are comfortable whipping out a credit card, buying access to software, and accessing that software through a web browser; the IT department is becoming less influential in the decision making process; and competitors can launch scalable alternatives to existing software with a smaller capital investment. Therefore, business application software companies need to be mindful of the cost advantages of these emerging technologies, the potential for competitors to launch quickly and efficiently with a product customers can try today, and the acceptance of web-based business software by business users. As investors, we have to be mindful of these developments, because an investment in a company building software the old way may find itself pitching against a company who’s software can be purchased today, online, and without anyone worrying about how many servers they need to buy to get it running.