S+S: From Possibilities to Specifics

In narrowing its Software plus Services talk into a real program, Microsoft had to go from dozens of promising options to one controversial reality. Many partners see opportunities in the program, but concerns abound.

It lives! Microsoft's Software plus Services (S+S) strategy, which has so far been more talk than substance-not to mention a particularly awkward topic of discussion in the channel-finally has legs. Microsoft unveiled much of its S+S strategy, including a partner compensation model, at its Worldwide Partner Conference (WPC) in Houston in July. But while we know now much of what's included in Microsoft's cloud computing plan, there's plenty that we still don't know. For instance, we don't know exactly how the plan will affect the channel as a whole-and there will be an impact because, like the technology it promotes, Redmond's S+S plan is disruptive. And we don't know the effect of one of its biggest changes: giving Microsoft control of customer accounts -- something the software titan has generally left to partners in the past. Above all, we don't yet know how partners will respond.

For some channel members, the S+S model represents a chance for increased profitability and a platform on which to build lucrative specialized applications. But for others, it's a shot across the bow -- the mother ship in Redmond seemingly firing on its own indirect sales force, talking, for almost the first time in the company's history, about something that sounds eerily like a direct-sales strategy.

So just how will partners respond? The question hung heavy in the humid Houston air, and, weeks after the conference ended, many partners were still searching for answers.

Details of the Deal
At first glance, Microsoft's S+S play sounds simple enough. The primary offering is the Microsoft Business Productivity Online Suite, which consists of hosted Exchange, SharePoint and Office Communications servers and also includes LiveMeeting. That suite will be available for $15 per user per month.

Another package, aimed at "deskless" workers, or employees such as nurses and factory-floor workers who don't use computers much but still need to get to applications occasionally, will include hosted versions of Exchange and SharePoint and will be available for $3 per user per month.

Simple enough, right? Well, yes -- until the partner details come into play. Microsoft isn't excluding the channel from its strategy; in fact, it's requiring customers to do business with partners. The company won't sign customers directly to the two new hosted suites -- as it does, for instance, for Dynamics CRM Online -- so customers will need to at least have a "reference partner."

But here's the sticky part for many in the channel: That reference partner, in turn, will get 12 percent of the subscription fee for the first year of the contract and 6 percent every year thereafter. Other than that, it's all Microsoft -- Redmond bills customers, up-sells other services and sets prices.

And, some channel players say, that model squeezes partners out -- not just from the S+S business, but out of customer accounts altogether. On the S+S front, partners won't be able to bundle apps they way they do now, and they'll no longer "own the customer" and be able to profit from lucrative up-selling opportunities. They'll get their money, and Microsoft will get their customers. In a broad sense, it's Microsoft's first small step toward direct sales, some partners say, and many in the channel are not at all happy about it.

'A Knee-Jerk Reaction'
"It's a crack in the door, and [partners] are not sure what else Microsoft will do with that crack, what else Microsoft will sell that will replace that VAR over time," says Ravi Agarwal, co-founder and senior executive officer of groupSPARK, a Gold Certified Partner and Microsoft hosting partner based in Burlington, Mass.

The Microsoft S+S Offering

Microsoft Business Productivity Online Suite
Includes: Exchange, SharePoint, Office Communications servers, LiveMeeting
Price: $15 per user per month
Release Date: Elements will be available this year

Deskless Worker Suite
Includes: Exchange and SharePoint servers
Price: $3 per user per month
Release Date: First half of 2009

S+S Partner Compensation Model
Partners receive 12 percent of the subscription fee the first year of a customer's contract and 6 percent per year thereafter.

Agarwal could feel the effect of Microsoft's new strategy quite acutely: groupSPARK provides private-label hosting to partners, and it's about to be in direct competition with Redmond. Beyond groupSPARK, though, partners should be worried, he says. Agarwal calls Microsoft's S+S model "a knee-jerk reaction" to competition from Google Inc. and an increasing group of companies hosting Exchange, and even Microsoft executives admit that the plan isn't fully baked. The way Agarwal sees it, Microsoft's strategy will wrestle control of customers away from partners and into the hands of the software giant.

And that result could have a lot of unpopular ramifications. For instance, partners sometimes charge different customers different fees based on certain factors -- for instance, financial-services companies or large enterprises might pay more than other customers, Agarwal says. But Microsoft's very public pricing scheme will make it more difficult for partners to vary pricing, and, beyond that, partners will have to compete with aggressive Microsoft pricing for hosted applications.

The whole thing, Agarwal says, will start to feel like a breach of trust. After all, he says, Microsoft built its business on the channel, and now some partners see Redmond as trying to take some of that business away: "Certain partners will feel betrayed," Agarwal says. "As details unfold, they will feel betrayed. Over the next few years, these VARs will start feeling it."

And Agarwal's concerns aren't coming from the perspective of some disgruntled or less-than-successful partner. At the WPC he accepted, on groupSPARK's behalf, the award for 2008 Microsoft Partner of the Year for Advanced Infrastructure Solutions, Hosting Solutions.

Hand-Holding in Houston; Tough Love from Redmond
Sensing that Agarwal wasn't the only one seeing drawbacks to Microsoft's S+S announcement, the company's executives spent a lot of time in Houston reassuring partners that Microsoft wasn't abandoning them or trying to invade their territories.

In his keynote at the show, Stephen Elop, a relative newcomer to Redmond, presided over something of a mass hand-holding session.

"We each only succeed as the other succeeds," said Elop, president of Microsoft's Business Division. Calling the Microsoft-partner combo a "deliberately dependent relationship," Elop told partners: "In the history of Microsoft, we have only been successful when we have gone to market with you ... Any partner can sign up for and participate in this S+S transformation."

Elop evangelized S+S, too. He cited a forecast by analyst firm IDC indicating that the Software as a Service (SaaS) market will grow by 32 percent year-over-year through 2011, developing into a $21 billion market. He also quoted Gartner Inc. as predicting that 25 percent of all new business-application deployments will be in Web environments by 2011.

Microsoft isn't leaving partners out in the cold on making a transition to SaaS and the S+S model, either. Marie Huwe, Microsoft's general manager of partner strategy and programs, says that the company has established within the partner portal a Web site that she calls a "prescriptive guidance tool," developed with IDC and aimed at giving partners of all stripes direction on how they might profit from a hosted model.

"You answer some questions about who you are and what your business is," Huwe says in explaining the tool. "Then you talk about what opportunity you want to take advantage of, and it gives you some guidance."

But not all Microsoft's talk about its S+S plans has been designed to placate nervous partners. CEO Steve Ballmer himself, while reaffirming the company's commitment to the channel, has nevertheless posited that Microsoft's S+S offering is poised for faster growth than are partner-hosted options.

"Cloud services will grow faster than the hosting opportunity, but that doesn't mean hosting won't grow," Ballmer said during his WPC keynote. Still, he insisted that partner skills will carry over from the traditional software world into S+S -- "if you know Exchange, you know Exchange," he said -- and that Microsoft would use its S+S experiences to drive functionality into its traditional server products.

The real message from Ballmer, though, was the same mantra that Microsoft, many analysts and some partners were repeating at the WPC: It's now or never; if Microsoft doesn't put an aggressive S+S strategy into place, it'll lose ground to competitors such as Inc. and will cede the SaaS market to other companies. And, the name that kept coming up as enemy No. 1, although from analysts and partners more than from Microsoft, was Google.

Paul DeGroot, senior analyst with Kirkland, Wash.-based Directions on Microsoft, says Microsoft must act unless the company wants to watch the industry walk away from it. "They run the risk of being locked in a desktop ghetto," DeGroot says.

And it's not just Microsoft whose potential business is under threat, says Michael van Dijken, Microsoft's lead marketing manager for the hosting business and communications sector.

Van Dijken works as a liaison to Microsoft's hosting partners -- many of whom will soon be competing with the company -- and warns that those partners' businesses are vulnerable to a lot of industry players.

"There are several other large-brand companies that are rolling out these types of services," van Dijken says. "Service providers need to offer services that differentiate from what the big-brand companies are doing or meet special requirements. That's not to say it's an easy move to make from what's driving success for them today to what success is in the future."

But it's a necessary move, Microsoft officials say. In fact, the need for that move reflects a message that Microsoft has repeated frequently of late, and not just with regard to S+S: A partner's best bet is to go vertical or to hone in on one specific role or task. In other words, profit lies in customizing on top of what Microsoft offers. "Partners that host have to bring flexibility to customers. I don't think it's that different in the online services world compared to how it is in the on-premises world," van Dijken says.

It's also worth remembering, observers inside and outside Microsoft note, that Microsoft has a track record of pulling partners along. Many of the other players in cloud computing have neither that experience nor that inclination.

Giving Microsoft Control
Some partners see clear opportunity not only in SaaS in general but also in Microsoft's customization-focused S+S message in particular. Eilert Giersten Hanoa, CEO and founder of Gold Certified Partner Mamut ASA, an Oslo-based SaaS provider, says his company will focus on customization and benefit from cost savings in Microsoft's model.

Hanoa's company is a hosting provider and, as such, will soon be in competition with Microsoft for application hosting, specifically around Exchange. But Mamut also provides a range of services on top of simple application hosting, and that's where the company's real revenue comes from, he says. For that reason, Hanoa is just as happy to let Microsoft run the actual data centers that do the hosting as he is to run them himself.

SAAS Growth

Following are some analysts' forecasts for the growth of the Software as a Service (SaaS) model over the next few years:

Saas will grow 32 percent year over year through 2011, developing into a $21 billion market.
Source: IDC

Demand for SaaS business applications will double within four years, growing from $8 billion to $12 billion by 2012.
Source: In-Stat

One-quarter of all new business-application deployments will be in Web environments by 2011.
Source: Gartner Inc.

"If you put yourself in a hoster perspective, no customer will give you credit if you have 100 percent uptime, but they will give you a hard time if you don't have 100 percent uptime," Hanoa says.

"The easier it is for us to provide premium uptime, the better," he continues. "If you're a partner delivering your own [intellectual property] on top of Microsoft offerings, the more Microsoft does to ensure quality of service, the better. Our customers aren't giving us any added value for us hosting Exchange. They don't care who hosts. Basically, today, we're spending too much time from a resource and money and head-count perspective on doing plumbing that we shouldn't do instead of on something we can charge for. Instead of us having a hosted environment, let's be excited about delivering that IP that no one else is delivering for small business."

The cost savings is significant. Hanoa says that he's actually been able to double his revenues from some customers that have moved from his hosting platform to Microsoft's. "I'm hoping that in 10 years my data center will be much smaller," he says.

While some partners are grumbling about the percentages Microsoft is offering in its compensation model, other partners see the S+S plan as providing a good deal for the channel: "Microsoft is offering an annuity-based pricing model that makes great sense for partners," says Bill Breslin, vice president for application development at Insource Technology Corp., a Houston-based Gold Certified Partner. "Even if at first the dollars don't seem big, the real point to consider is this: If a partner doesn't make an effort to sell these services to its own customer base, then they're missing an opportunity to 'lock in' their customers for years of relationship."

And Hanoa says that he's not concerned about giving Microsoft control of his customers' accounts. "For a generic Exchange hoster, it's obviously a big problem," he says. "[About] 20 years ago, you could sell PCs and get a 40 percent margin. That stopped rapidly. The same is going to happen with commodity hosting services such as Exchange. Unless you can have a stickiness on top of that, you can't have a good business model. What will be very important for us is that we can continue to bill our customers on the unique IP that we can deliver. [Microsoft's S+S strategy] resonates with partners who are confident in their own additional value but not in partners who have not taken that transition yet."

A Foggy Road Ahead
Of course, not every hosting partner is in a position to compete the way Hanoa is doing with his company. Van Dijken says that about 6,700 hosting partners subscribe to Microsoft's service provider licensing agreement, including about 1,000 Exchange providers. For maybe 100 of those Exchange hosts, hosting the server is "strategic and core to their business," van Dijken says. It's those hosts that might be in trouble under the new S+S plan, he says, adding: "I wouldn't be surprised if over time they move to a reseller model through Exchange online or through a private label."

While van Dijken's numbers give a good snapshot of the number of hosting partners seriously impacted by Microsoft's move into hosting Exchange for smaller customers, the overall number of partners directly affected is larger. Many of the hosting providers for whom Exchange is strategic have reseller networks with hundreds of VARs participating.

But what about the channel as a whole? Although Microsoft has at last spelled out its S+S strategy, many partners are likely to still have more questions than answers -- and many will need to adjust their business models to accommodate not just for S+S but also for the overall SaaS wave.

The good news for everybody is that Microsoft's entry into the market will be a boost for S+S in general. van Dijken notes that Microsoft will drive awareness of the broad SaaS model and increase opportunities for both those partners who compete with Microsoft in the space and those who don't -- an opinion that Agarwal shares.

In fact, Agarwal sees several positives in the new structure. He estimates that partners are currently reaching about 3 percent of the market for hosted e-mail and office productivity applications. Having Microsoft's "air cover" of broad-market advertising will be a boost to the market, he says. And low-end offerings can give VARs an opportunity to make sales at small companies that don't have the budget for an on-premises implementation of Exchange or SharePoint. But Agarwal says the moves will require adjustments in VAR business models.

And it's those adjustments that partners will have to struggle with in the months and years -- most observers see S+S specifically and SaaS in general more as evolution than revolution -- to come: "I think we are too early to really know how this all will play out," says Arlin Sorensen, founder and CEO of Heartland Technology Solutions Inc., a Gold Certified Partner and IT solutions and services company based in Harlan, Iowa.

"We'll need to move to creating value through process and integration that drives bottom-line performance for our clients," Sorensen says. "[S+S] will change top-line revenue significantly and our relationship with distribution in some ways. We'll participate and be on the front-end of trying to figure out how we should structure our organization yet again to keep up with the change in technology. I expect we'll hire more consultant-like folks so we can offer real business value to our clients."

The offer from Microsoft is on the table, and now it's partners' turn to respond to it. But Microsoft's answer to the long-standing question of what its S+S strategy would involve has mainly led to more questions -- and how partners answer those questions will decide the future of Microsoft and its channel in cloud computing.