Analyst estimates say recurring maintenance fees can account for nearly 50 percent of most application vendors' total revenues.
The maintenance fee is the sacred cash cow for enterprise software vendors. A vendor's maintenance and support fee on each software license, usually 20 percent to 25 percent of the net license price per year, delivers bountiful margins that annually replenish the coffers of vendors like SAP and Oracle.
"Maintenance is the most profitable part of the business," says Ray Wang, a principal analyst at Forrester Research. "Because by year four or five [of the software contract] there's 60 percent to 80 percent profitability just on maintenance alone."
For those on the other side of the deal (the customers buying the software), the onerous economic realities can be head-scratching.
Typically, companies buy enterprise software packages every 10 years. At an annual rate of 20 percent to 25 percent of the license purchase price, by year five companies have bought the software again-and that's just to maintain the application, says Wang. "In 10 years, you're buying the software twice over."
In talking with Forrester clients, Wang notes that "there are very few people who can tell us that they're getting that value, of two times the cost of the software, over 10 years."
Nevertheless, enterprise software vendors are reluctant to alter any part of this arrangement, which has been going on for decades. In January 2008, SAP quietly announced that as of 1 February, it was phasing out its Basic Support offering (which, at 17 percent, was a bargain for many companies) for all new customers.
Basic Support entitled customers to SAP services relating to: problem resolution, quality management, SAP standards for operating its ERP software, as well as knowledge transfer and continuous improvement. In addition, customers had access to the SAP Solution Manager (a support platform) and the SAP Service Marketplace (a platform that links customers to SAP and its partners' services), according to Wang's report on the fee increase.
Instead, new SAP customers now have to purchase its Enterprise Support plan, priced at 22 percent. According to an e-mail from Andy Kendzie, an SAP spokesman, Enterprise Support is a "next-generation support offering that provides an integrated quality and application management process for the customer's entire solution landscape."
In addition to the base support services, Enterprise Support offers SAP customers more services, the most notable being: a pool of support advisors available 24/7; an enhanced version of the Solution Manager platform; and a new methodology, called Run SAP, for standardising enterprise services-oriented architecture (SOA) processes.
While SAP made this licensing change, there was no formal announcement from the German software giant about it. "This probably wasn't one of those things where SAP wanted to make a big deal or make a large announcement about it," Wang says. "Usually when people raise prices, it's not something you want to talk about.
Why SAP raised its fees
SAP's rationale for the move was a result of growing system complexities (with SAP and non-SAP applications) as well as SAP's recognition of its customer needs, says Kendzie. "Customers are asked to reduce the cost of their IT operations while ensuring innovation in parallel," he says. "The standardisation of operations is the only way to handle both challenges.
As such, Enterprise Support "offers increased service value considering the technology stacks and integration needs that exist today," Kendzie says. "It also provides mission-critical capabilities that mitigate customer risk." (Kendzie notes that there has been "no decision or communication from SAP to current customers" as to whether they will be forced to move from Basic Support to Enterprise Support.)
In the recent Forrester report, Wang notes that SAP wanted to eliminate multiple support offerings. "SAP cites the growing complexity of IT landscapes and the movement toward enterprise service-oriented architecture environments as key drivers for a more comprehensive, differentiated and streamlined support offering," he writes.
In short, Wang says, SAP's move "reflects their view that software maintenance has gotten a little bit more complex."
The Oracle factor
Another reason for SAP's shift had to have been the competitive financial pressures exerted by its chief rival: Oracle. During the last several years, Oracle's operating margins have hovered around 40 percent, and the company's long-standing goal has been to increase that to 50 percent, mostly by making strategic acquisitions. In its most recent quarterly announcement, Oracle CFO Safra Catz reported that operating margins had increased to 41 percent compared with 39 percent in the quarter the year before.
"Our operating margins are now substantially higher than our competitors," Catz said. SAP's 2007 year-end financial data showed an operating margin of 27 percent last year. And those numbers, Wang says, needed to change. "They want to have some parity or at least get close in achieving those same margins," Wang says. Whether Oracle's financial successes pressured SAP to alter its maintenance fees is known only to those inside SAP. Kendzie says that in keeping with SAP policy, "we do not to comment on speculation."
To its credit, SAP has historically offered some of the lowest maintenance fees in the industry. "SAP has resisted the temptation to raise support subscription prices for several years," Wang says, "focusing primarily on growing license revenues." By resisting that temptation and leaving its Basic Support offering at 17 percent, SAP had a "major competitive differentiator" when compared with Oracle, which, according to Wang, has priced its application support at 22 percent for several years.
However, Wang says, it appears that the maturity of the enterprise applications market and decreasing number of large customers, coupled with Oracle's success in achieving higher profit margins and investor pressure on SAP to grow top-line revenues and margins, made raising support prices inevitable.
"By raising maintenance fees 5 percent," Wang writes in the Forrester report, "SAP joins other large vendors in trying to extract more revenue from customers who lack reasonable third-party alternatives, without a corresponding increase in value."
A recent Forrester survey of 215 business process and applications professionals found that maintenance fees are still too high. The result was not surprising. "We are hearing many more complaints about maintenance than ever before," Wang says of Forrester's clients.
A suggested alternative to maintenance fees
So just what is a fair value for enterprise software maintenance and support? More than half of the respondents to a Forrester survey (57 percent) said that a fair maintenance fee should fall below 16 percent. And they'd be happy to pay that, Wang notes. "But when you actually look at what they paid, it's about 26 percent."
Those percentage points add up, course: Every percent reduction in a US$1 million deal equates to an annual savings of $10,000, Wang points out.
Vinnie Mirchandani is a former Gartner analyst and founder of Deal Architect, a consultancy that works with technology buyers in the vendor selection process. He contends that maintenance should be priced on tiered levels, not a one-size-fits-all rate.
For example, Mirchandani suggests that there's one category of customers who are content with the software's current release, just want bug fixes and application tweaks that comes with base support, and have no desire to upgrade. They would pay 10 percent in maintenance fees.
A second category of customers (charged 15 to 17 percent) is one that plans to stick with the product and carry out upgrades, as well as receive base support. And a third category (charged full maintenance rates) is one that is looking for high-level support and all the bells and whistles-next-generation software-as-service (SaaS) and service-oriented architecture (SOA) applications, for example.
Forrester's Wang notes that the typical maintenance and support cycle has a big drop off of customers needs at the end of an application's life. "When you get to year six, seven or eight, when there's really nothing going on-just regulatory updates or patches, maybe some changes to hardware-you really should be paying somewhere between 5 percent and 10 percent then," he says.
The result of "maintenance discontent," Mirchandani writes in an e-mail, is that CIOs have to fight harder for initial license discount, since maintenance is usually a percent of net license cost. Annual maintenance renewals are more contentious-"vendors love to sell multiyear renewals to avoid that scenario each year," he says. And lastly, lots of companies are evaluating third-party maintenance options.
"Many just use it to negotiate the software vendor down," Mirchandani says. "But a growing number are walking away to a third-party provider like Rimini Street."
In the end, it's important that IT executives and business leaders remember when they have the most leverage with their vendors. "Use licensing, maintenance fees and provisions for the software licensing contract as part of vendor selection criteria upfront," Wang says. "The only time you have leverage is when you first sign that deal, so how you structure that contract is so important."