Should You Buy Your Software Or Lease It?Published: September 13, 2001 in Knowledge@Wharton
To paraphrase an old saw, software seems to expand to fill the disk space allotted. Whether it be on large company servers or in household personal computers, software has tended to become bigger, more complex and more complicated to install.
Now, especially in the business-to-business realm, software makers from small players up to giants like Oracle and Microsoft are looking to transform this problem into a new business model. If they have their way, instead of those pesky software-installation CDs and disks, businesses and eventually consumers will be getting their software off the Internet. And instead of buying it, they will turn to ongoing leasing agreements and maintenance contracts.
Oracle’s CEO Larry Ellison has already called for the end of software buying. He believes that within a few years, the web will take over as the place to obtain software and it will be done through leasing.
If Ellison is right, it will be a little like automobile leasing, which has skyrocketed in popularity in recent years. A business owner looking for a certain type of accounting software, for example, can go to the Oracle website and find out how much it will cost a month to use. For that fee, Oracle or another ASP (application service provider) will maintain and upgrade the software as permutations are added - similar to the leasing agent who will provide a service contract on a car.
In the process, the business owner has solved the problem of large upfront costs for his or her software, mitigated the need to worry about upgrades and farmed out some computer service functions.
Except that not everyone is ready to join the leasing bandwagon. "For me, there is a certain comfort in software sitting on a local machine," says Gerry McCartney, chief information officer of Wharton. If the ASP’s network is sluggish or goes down, "you can still work off-line," he says. If the ASP’s software is the same price as what comes on a CD, "I would take it on the CD, no question."
In addition, in order for software leasing to work, certain security issues would need to be addressed. For example, are users comfortable with the idea that their company secrets are out there on someone else’s network? "There is a real risk of ’poaching’ of critical information," says Eric K. Clemons, professor of operations and information management. "If the applications you use to support your most important customers reside with Oracle, then any and all information you have, they have. What if they begin to compete with you in some direct way?"
Leasing software, then, is not just a simple matter of upfront cash versus what you will have to pay down the road, Clemons adds. While the possibility of poaching "is rarely explicitly or formally understood in commercial sourcing arrangements, it does enter into corporate perceptions of the desirability of sourcing."
But like other developments in the history of the software business leasing may eventually become the model. Oracle and Microsoft, especially, are always looking for new revenue streams. Recognizing that there are limits to the software-selling side of their businesses, these companies figure that by leasing and maintaining software and its updates for customers, they will be more like cable-TV companies than retailers, charging a per-month rate rather than a per-piece one and thereby ensuring a more reliable income for their software business.
Not that there isn’t an upside for business users as well. First, leasing gets rid of the installation process and removes concerns about missing a crucial CD when the package comes in the mail. Second, upgrades will be added to software automatically. And, of course, the initial outlay for the software will be mitigated.
"My experience is that it does even out the budget implications," says McCartney. "If you can spread out the financial outlay over time, that may indeed work." Leasing also gives users the the opportunity "to get out of a bad piece of software," he adds. Finally, instead of periodically having to pay licensing fees, users can be assured that by paying so much per year their software will automatically be kept up to date.
On the other hand, says McCartney, changing software often means retraining employees on the new versions even as the need for permutations in software has lessened over time. "My sense is that there are longer gaps between when people feel they need to update software. It’s not the frenzy it was five or six years ago. Now a word processor does what you need it to do. What would the next version of Word have in it to make it a compelling purchase for me?" he asks. Using new versions involves "infrastructure and training. It’s not that simple."
In fact, the business of application service providing hasn’t burgeoned as many had thought it might a few years back. Analysts have shied away from recommending stocks in that field, especially since the Oracles and Microsofts, the software companies themselves, would eventually be the ASPs for those who buy their software.
"We got a little ahead of ourselves, but five years from now I think everyone is going to be leasing software and using ASPs," says William Loftus, the former CEO of Conshohocken, Pa.-based Breakaway Solutions, one of those struggling ASPs. "But right now, it would mean that everyone would have to switch technologies. And if everyone would do that and stop paying upfront, Oracle would miss a few quarters, so I don’t think they want that right away.
"Still, in the long run, I see it coming, because I believe ASPs will be better at handling the maintenance and service functions, making the cost less to the end user," says Loftus.
But Clemons suggests that companies are wary of leasing services because of what he called "opportunistic repricing." "What happens if each of the pieces of software you use to build your customer relationship management system resides with Oracle rather than on your own system?" he asks. "Once you are dependent upon your customer relationship management system, you are dependent upon Oracle. What do you do if they reprice their services? If you own your software, you are safe. And if they raise the price for next year’s release, you can refuse to buy it. But you cannot refuse to pay for today’s customer relationship support."
There are positives in leasing, Clemons admits, but they are in special
situations. "Suppose you are totally unsure of how much demand you will have. In this case, buying enough capacity may be quite expensive. Leased software is totally scalable," he says.
"But you still have to deal with the security issues," he notes. "So
unless leasing is forced on us, I don’t see businesses going for it in a huge way. It sounds so nice to have everything Internet-based, but it isn’t always that simple."