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Why software giants are failing

Oracle’s latest financial results illustrate that the core businesses of many of the software behemoths of the past are under strain

For Oracle, despite more than $35bn of acquisitions over seven years and shiny new cloud products, its revenues have increased by only 7% in that period.

How can this be when Oracle has been so dominant in the database technology space and has had decades to nurture and entrench a huge and committed customer base?

Over decades, the software suppliers have made substantial profits locked in by a perfect coalescence of entrenched on-premise installations, customer anxiety over any cancellation of support and a continuing process of software audits.

But this lock-in is now over as multiple cloud offerings are available. So why are customers that have had a relationship and substantial investment in one supplier now determinedly looking elsewhere for a replacement?

For major businesses, many of which still depend on on-premise software, their dominant costs are the recurrent support and maintenance contracts. These are renewed annually simply as an insurance, even where, in truth, support tickets are rarely raised and indeed many customers prefer the certainty and robustness of earlier versions, avoiding the jeopardy of distracting and unnecessary improvements.

As a result, maintenance contracts at 20-22% of the original licence price are renewed without thought – just a necessary cost of doing business. For the first nine months of the 2018 financial year, Oracle’s costs for software licence updates and support was $740m, while receiving more than $14.93bn – a 2,000% profit margin.

This wonderful legacy income has propped up free cashflow and shareholder value for many years. Correspondingly, it has been a huge drag on the software costs of corporates and public sector organisations.

Every major customer now has an alternative – equivalent cloud applications where both licence and support costs are combined in one subscription. More usefully, contracts are then renewed annually, simply by choice, with none of the intrinsic lock-in required of on-premise local installation or anxieties about leaving software unsupported.

Early initiatives from Amazon and Google

Both Amazon and Google have, presciently, acquired much of this new market. Since 2006, Amazon Web Services has gone from nothing to a $18bn cloud business, attracting customers with its very low pricing and predictable licence model. Google, too, has its G-suite, launched in 2010 and already a $4bn annual business.

As part of its 2018 results presentations, Oracle made much of its cloud services with its “Soar to the Cloud”. But this masks the fact that it is late to the party. Ten years ago, at the same time as Microsoft was announcing its Azure platform, Larry Ellison dismissed cloud computing as “complete gibberish” and “insane”. He finally converted, offering a nascent Oracle cloud from 2012.

Poor judgement over the future take-up of new technology can perhaps be forgiven. Of more concern than the value of its product offering is its historic attitude to customers.

Oracle’s insistent reliance on opaque licence wording, regular software audits, maintenance fees for matching service levels and additional demands for simply moving a program to a virtualised environment mean many have had deeply negative experiences of Oracle licensing. After a bruising audit, many say: “Never again.”

And with cloud, they can at last move away from a supplier that is seemingly obsessed with auditing its customers and then imposing what are often seen as capricious and unfair penalties.

Investment has not taken Oracle forward

It is difficult to understand the scale of this attrition. Of course, Oracle has invested heavily in new products. Since 2011, it has acquired more than 64 companies, paying over $35bn. And the financial return? Dismal. Since 2012, gross revenues have increased by only $2.7bn and profits have fallen by $71m.

These massive investments hide the atrophy. It is difficult to understand the scale of this attrition.

IBM, too, has struggled with the future. Formed in 1911, it was once the world’s largest computing company. Since 2012, however, its revenues have fallen for 22 consecutive quarters, only bottoming out this year. Its revenues are still below what they were in 1997. It, too, has spent more than $25.8bn on 83 businesses since 2010 in an attempt to staunch its collapsing business.

Another major supplier, Autodesk, has also seen sales fall over the past few years as it, reluctantly but inevitably, abandons its perpetual licence plus support revenue for ever, in favour of a cloud-based subscription model. Its revenues are lower now than in 2012 and, since then, its net income has fallen from $285m to a loss of $567m for 2017-2018.

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It is no coincidence that Oracle, IBM and Autodesk all habitually challenge their own customers through software licence audits. Many such audits trigger massive demands for under-licensing, arrears of support and maintenance and penalties – and this may be for software that is neglected or rarely used. When challenged, and when aggressively examining the true licence wording, many of these demands fall away.

The final bill may be much lower than the initial demand, but it still has to be paid. No business wants to be under-licensed and have any stigma of copyright infringement. But what is always lost in the process is any residual trust the customer may have in that supplier.

When the licence management divisions get involved, long-term relationships count for nothing. And so, what often remains, after a relationship that may have lasted 10-20 years, is an absolute determination by the CFO to move away from that supplier as soon as possible.

It is surprising that in an era of “love your customer”, some of these major suppliers have chosen still to use a confrontational audit process. This almost always results in what is often seen as unreasonable demands on customers that, with their continuing operations, have been unable to shed this particular relationship.

Licence and maintenance deals can now look like very bad deals. The audits often highlight the ruinous cost of using that particular supplier’s software.

Relationships squandered

These major software suppliers do have a legacy – an abandonment of customer trust in favour of short-term profits. And that short term is now ending as other, more agile, cloud suppliers, inexpensive and intensely focused on the best customer relationships, remove the old software supplier’s legacy income year by year.

Today, hosted applications are offered in a marketplace where costs and contracts can regularly move. Many impressive applications have indeed been developed (or acquired) by the older established suppliers. But with the residual sour taste of disarming and uncomfortable software audits still in their mouths, many corporates, not surprisingly, prefer newer suppliers for cloud solutions to their historic on-premise provider.

These established suppliers have had decades to build up a trusting and good relationship with their customers – but this opportunity has been squandered. The story is pitiful. When these suppliers see themselves continuing to lose ground to newer suppliers, they (and their shareholders) should ask why many of their legacy customers are quite so antipathetic to that supplier, irrespective of the quality of their new cloud offerings.

Robin Fry is a legal director of Cerno Professional Services, which specialises in audit defence and strategic licence optimisation.

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