Vendor Margins and the Cloud

It’s all cloud all day in the buzz about the software business, and that definitely includes ERP software. With conventional wisdom pointing to a need for purpose written cloud software (multi-tenant architectures etc.), it is no surprise that on the acquisition front

81% of respondents in SEG’s 2011 survey said it is important or very important that the investment target be all or substantially SaaS/subscription-based, up from 51% in the 2010 survey.

The cloud gets the money and the attention. What does this mean for the rest of the ERP software customers? Does research and development for current products continue? What happens to the wonderful margins vendors command with on-premises ERP products?

Bob Evans provides a cautionary example in Cisco.

So because it was not—and perhaps still is not—keeping pace with the requirements and demands of its customers, Cisco’s high-margin legacy products are being cannibalized by its new gear, which offers the performance levels customers need but can’t yet deliver the profit margins investors demand. And this deep-seated problem of Cisco’s

Will ERP vendors keep pace with the requirements of their legacy customers, or do they face self cannibalization and margin erosion? For now the common approach is to price cloud offerings so that a customer on three years of the cloud product pays the same total dollars for software licensing (plus more for hardware and operations) as they would pay for comparable on-premises software. Of course any customers retained after three years would yield a far greater margin to the vendor (no break for paying the “original license fee” over three years). ERP vendors believe they can avoid Cisco’s fate by forcing higher margins on the innovative new products than they received with their traditional products.

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