Your LMS Costs Too Much--And It's Your Fault

In my last post, I described the business model problems of the major (and most of the minor) LMS companies. These problems inflate the cost of an enterprise LMS beyond what it could be, and in my opinion, what it should be.

But we have this free enterprise thing going on. You don't have to buy these overpriced products. If you do, you are voting with your dollars in favor of these maladaptive business models. You are validating these companies. Since that behavior seems irrational, and I assume you are rational, something else must be at work.

In fact, the LMS vendors are themselves behaving rationally, albeit badly, in response to your (or your company's) behavior. And each time you buy from them, you reinforce their behavior. 

Before I describe your behaviors that condition your vendors to behave as they do, let me be clear that it does not matter why your company does these things. What matters is that you do them and that you are responsible for your own actions. Change is up to you. No excuses.

Enough tough love. Here are the things you do that shape your vendors' business practices and seriously inflate their costs of doing business with you, which are of course in some way or another going to be passed on to you in inflated prices.

Customization

A few years ago, Oracle CEO Larry Ellison, who is arrogant enough and rich enough to say what he really thinks, suggested that enterprise application customers should use his company's products as they are delivered. He said that customers were driving their costs way up by insisting on customization. He was roundly criticized. Few heeded his wisdom. He ultimately bowed to the market's penchant for customization by increasing Oracle's prices, especially for maintenance. Oracle thrives. Its customers, well...

Ellison was right, of course. Unless an application is central to your core business and provides unique competitive advantage, you should be using something out-of-the-box. Learning may be a strategic issue for your workforce; a learning management system is not. It is infrastructure. LMS is a mature application. Major vendors offerings are very similar in terms of features and functions. And I do not care if you are a Fortune xx (you fill in the xx that impresses you) company. Drop the ego, your learning management needs are not that special.

My experience is that all the costly customizations produce little, if any, ROI. In fact, when I'd talk to customers a year or two later, they'd often be unable to explain why they (or their predecessors) insisted on the expensive doodads in the first place. I once had a CIO fume at me for having somehow been responsible for the costly and useless customizations his predecessor had insisted on.

I know some CIOs who insist that all applications be used out-of-the-box. Their companies seem to be doing rather well.

Let your LMS vendor be a software company, not a professional services company pretending to be a software company.

(Note: customization here means something implemented by custom code; it does not mean configuring software preferences through a user interface.)

RFPs

When your vendor has to respond to a massive RFP, one way or another, you pay for it. The trend towards ever more lengthy RFPs is bad enough. Worse, it is common that when the vendor asks for clarification of an item, the customer is unable to explain what it means. If the questions are incomprehensible, of what value are the answers?

About 80% of the typical RFP asks about standard LMS features. Drop these questions, they add no value to your analysis. Focus on genuine differentiators that really matter to your organization now and will matter in the future. A short RFP (try for two pages) is actually harder to prepare than a compendium of every conceivable question cobbled together from various sources. But it is a lot better.

Contracting

Unless there is a truly compelling reason to make a change, accept the vendor's contract. Your vendor does not have a one-sided agreement. They know your legal folks will read it. They want to keep their legal costs down. They want you to be okay with their provisions. Do not let your legal department prove its worth by insisting on a bunch of terms and conditions that genuinely are not worth a thing to your organization. Do not spend time negotiating for concessions the vendor won't ever give, or that have no real value.

I have spent countless hours in this process. I have never (truly never) seen a customer get a benefit from any contract language they insisted on. All the sound and fury is a waste of time and money.

The Squeeze

Everyone tries to squeeze the vendors' prices as low as possible. Yet they want financially healthy vendors. Well, your vendor is not going to make a profit on the other guys but lose money on you. Your vendor is, instead, going to engage with you and all customers in a costly dance of price negotiation.

When everyone expects a 40% or 60% or 80% discount (because, you will recall, everyone thinks they are so special), list prices are meaningless. 

You ultimately pay the cost your vendor incurs by playing this game.

(Full disclosure: I was a founder of Silton-Bookman Systems, whose Registrar product, originally released in 1984, was instrumental in launching the LMS market. Silton-Bookman Systems merged with another LMS company, Pathlore Software, in 1999. I was COO of Pathlore when it was acquired by SumTotal Systems in 2005.)

Why Your LMS Costs Too Much

If you have a learning management system (LMS) from SumTotal Systems, Saba, or one of their smaller rivals, you likely have two problems. One, your LMS costs too much. Two, your vendor's longevity is at risk.

Their are two culprits here: your vendor and your company. Today, let's look at what your vendor does wrong: your vendor is really a professional services company pretending (perhaps even yearning and trying) to be a software company.

Unlike a real software company (see my post on the software company business model on January 2), Saba, SumTotal and a lot of other so-called enterprise software companies are really in the professional services business. They use software as a loss-leader for professional services. They do this primarily because they are obsessed with top-line revenue growth in order to appease investors. The problem is that professional services are inherently low-margin. And they lose money on the software. So the net result is that they produce little, if any, profit. In fact, Saba and SumTotal have lost a monumental amount of money over the years. The result of this is that these companies get a low market valuation (see my December post on the zero billion dollar LMS market).

These companies do not think they lose money on software. They will, instead, patiently explain away their losses, year after year. They will tell you how each part of their business is profitable, yet, mysteriously, the total is not. 

But their software is way too expensive to maintain and support. It is not designed to minimize maintenance and support costs. It is not designed to be easily configurable to meet user needs. It is not designed to minimize the cost of installation and upgrading. Instead, it is designed to provoke the need for customization by adding code to the product (that is, by requiring professional services). It is full of complexity to support different versions for different customers. Everything from installation to upgrading to adding a feature is seen as an opportunity to add professional services revenue, not to make the core product better. This lack of focus on the core product as the profit and revenue generator, which is at the heart of the software company business model, is the root cause of the overall profitability problem.

The rule of thumb is that a software company should derive the majority of its revenue from software, not services. But a more careful analysis is needed, because many so-called software companies have costs buried in R&D and technical support that are really costs associated with software designed to generate the need for professional services. It can cost ten to twenty times (yes, really, no typo) as much to support software that is thus  poorly designed and architected. These costs usually get absorbed in R&D and tech support, but they are properly part of the overhead of professional services. In other words, you have to dig deeper to understand exactly how much professional services cost the company.

These companies must then try to recoup their costs from customers, driving up prices. Even so, they lose money. The hidden costs of being a professional services company instead of a software company mean they really lose money on every sale. And those losses escalate into the future because the true cost of support cannot be covered by maintenance revenue; the annuity stream is a money-loser. You cannot make that up  on volume. Question is, how long can you survive?

(Full disclosure: I was a founder of Silton-Bookman Systems, whose Registrar product, originally released in 1984, was instrumental in launching the LMS market. Silton-Bookman Systems merged with another LMS company, Pathlore Software, in 1999. I was COO of Pathlore when it was acquired by SumTotal Systems in 2005.)

Time For Microsoft To Embrace Firefox

In August of 2006, I wrote a post suggesting that Microsoft get out of the browser business. Actually, I should have said browser charity, since Internet Explorer is a cost sink without revenue. So I ask again: what would be the bad thing that would happen for the Softies if the successor to IE 8 were Firefox?

Here is part of that post, which seems as relevant today as it was over two years ago:

I think it may have happened this way: At some Microsoft meeting...someone said something like, "I know this is a bit whacky, but why do we really care if people use Firefox instead of Internet Explorer?" After a long silence, someone else said, "You know, that is a very good question. We used to care a lot, but I’m not sure there is any longer a reason to care."

When Microsoft declared war on Netscape a decade ago, Windows had no Internet capability. The threat was that the Netscape browser might somehow evolve in such a way as to take over the user interface and make Windows irrelevant. Microsoft did not much understand the Internet or the web and its brain trust used an extreme version of the "attack their strength" strategy, attack and kill ("embrace and extend" in polite company). The rest is history.

That was then. Today, Windows has Internet and web functionality deep in its guts. Desktop applications can and do use these capabilities regardless of which browser a user may choose to use. In fact, Internet Explorer is now really just an application that uses Windows internet services, Improving Internet Explorer is costly. Its security problems have given Microsoft a black eye that never seems to heal. It does not bring in a dime of revenue. It causes antitrust problems. And Microsoft now fully understands what a web browser is and is not, and that a browser is no longer a strategic threat to Windows.

...How exactly would that threaten the Windows franchise? Perhaps it would not. Perhaps it would expand the market for the platforms which run Windows. Perhaps it is time to end the browser war so the Microsoft brain trust can focus resources on more important strategic issues?

Steve Ballmer, are you listening? Just declare the browser wars to be over, and offer Firefox as the Windows default browser. Then how about focusing on products that produce healthy revenue and profit streams instead of just cost?

How Times Have Changed

It's a new year, MacWorld is coming, and I get teary remembering the image of the huge head of Bill Gates looming over Steve Jobs at MacWorld in Boston in 1997. You remember, too, don't you, how Gates saved Apple by tossing Jobs a hundred and fifty million dollars? In exchange, Microsoft got a settlement of Apple's patent suit that accused Windows of ripping off parts of the Mac GUI. Microsoft got Internet Explorer as the default Mac browser. Microsoft got Jobs to bless its Mac Office, which extended its Office hegemony. The audience was stunned. Boos and cries of horror were rampant. And Jobs pleaded with the crowd to stop bashing Microsoft.

How times have changed. Today, Microsoft once more dominates the tech headlines. Internet Explorer market share plunges below 70% (oh, yeah, Apple released its own Safari browser a few years ago). Early reviews of Window 7 are mainly focused on whether it can rescue the Windows brand after the Vista debacle (oh, yeah, Mac OS X has grabbed about 10% market share from the once seemingly unstoppable Windows monopoly). Zune forgets about leap years and stops working on the 366th day of the year (oh, yeah, the fix is to drain the battery; gotta kill it to save it!) And rumors circulate that there may be 10,000 fewer Softies soon due to layoffs in Redmond.

As for Apple, the main questions seem to be about Steve Jobs' health and how to further expand the iPhone, iPod, iTunes, iWhateverGadget drive to world domination. No one asks about Ballmer's health (would we notice a change?). No one asks about anything new from Microsoft dominating anything. 

How times have changed!

The Software Company Business Model

In my last post, I suggested that the beleaguered major Learning Management Systems companies like Saba and SumTotal Systems might do a lot better if they behaved like real software companies. What do I mean by a "real" software company?

Here is how the software company business model works. You invest in R&D and create a great product. You then leverage your R&D costs by selling lots of copies of that product. You make lots of margin on each sale because your cost of making each copy is very low. You add an annuity stream to your profit and grow a revenue base by selling updates to your product, which you assure customers want by providing constant meaningful improvements. Then repeat. This magical model  has powered almost every successful software company. Those with other models may develop software, but, as we shall see later, they are not really software companies.

It does not matter if your product is sold as a service (the increasingly popular, web-enabled, software-as-a service or SaaS model) or as a product (software-as-a-product or SaaP). The difference here is primarily delivery, that is, how you get the software's benefit to the customer. In SaaS, you deliver a virtual copy over the web through a browser, and the software itself resides on your server. In SaaP, the software is physically installed on the customer's computer (server or client). Either way, virtual or physical, you are delivering a copy of the software to the customer. What drives the business model is the same: very low cost to deliver each "copy" of the product to the customer.

Do not confuse subscription pricing with the SaaS versus SaaP debate. Either model can use subscription pricing. That's a phony issue. There are some important differences between a SaaS business and a SaaP business, but these do not change the fundamentals, though they can be used to confuse the SaaS-SaaP debate. True, SaaS is typically subscription priced. But in SaaS or SaaP, a subscription price means an update is realized through a subscription renewal, rather than a maintenance contract renewal or an update purchase. That is merely form, not substance.

Another consideration in the business model is the role of marketing versus sales. Some markets call for a high-touch, sales driven scheme; others call for a low-touch, marketing driven scheme. But this is mainly about which way the marketing and sales dollars get apportioned and does not change the business model fundamentals.

But there is another very important thing about the software company business model: professional services are kept to a minimum. Why? Because professional services are low margin and the ability to annuitize is at best dicey.  

Professional services include customized software development, along with consulting, training, implementation and so forth. Great software companies let others perform these services around their products. They grow by the resulting network effects. They keep their own margins high and stick to what they do best: developing great software that delivers value to customers. They are rewarded for this discipline by high valuation multiples because they are so profitable. In fact, much of the productivity gains that the tech industry has pumped into the economy over the last few decades have been because of the efficient use of all varieties of capital by practitioners of the software business model.

In a future post, I'll look at how the major LMS companies (and, in fact, most so-called enterprise software companies) fail to follow the software business model and thus are doomed to low profits, or none at all, and low valuation multiples.