Microsoft's Vertical Innovation Strategy

Partners may see Dynamics and R&D spending being cut, but Microsoft is ramping up to gain on the market leaders.

As the depth of the current recession continues to grow, Microsoft's dependence on its partners to bring innovation to market may mean that a formerly valuable asset is becoming a competitive liability.

At stake is a cornerstone of Microsoft's Dynamics market strategy: To become more competitive in the global marketplace with vertical and micro-vertical functionality that can augment the largely horizontal functionality that Dynamics AX, NAV and GP offer. With the market clamoring for a portfolio of products that supports the needs of customers in specific industries and geographies, Microsoft's hopes of gaining share in the midmarket hinge on its ability to deliver a much more specialized product line worldwide.

At the center of that strategy are partners, on whom Microsoft is relying to convert industry and geographic expertise into packaged add-ons that extend the functionality of the Dynamics products.

Here's the rub. In recessionary times, "do or die" spending patterns start to take over as companies sacrifice for the long term in order to stay in business. For many companies, this translates into cuts in research and development (R&D) spending. As R&D is usually budgeted as a percent of revenues in any company, the decline in revenues that Dynamics as a whole has suffered -- 7 percent in the quarter leading up to the Microsoft Convergence show in March -- makes a decline in R&D spending almost a given.

These cutbacks won't necessarily impact the core of the Dynamics line. Microsoft is spending billions on R&D, and a good portion of it on Dynamics. But it's easy to see that partners will have to trim their budgets both for R&D and for marketing new vertical solutions.

A downturn in partner marketing spending is something Microsoft can address through existing co-marketing programs. But, as of Convergence, the company had no plans to help its partners on the R&D side. Nor does it have an interest in taking a significant equity stake in its vertical partners the way competitors like SAP have been doing in recent years.

Which brings us to the competitive problem that Microsoft faces if there's a slump in its partners' ability to develop a growing portfolio of vertical solutions. Microsoft's two biggest competitors-particularly in driving innovation to the market-have vastly different models for putting new vertical capabilities into their customers' hands. And neither of those models is facing as big a potential threat from the recession as Microsoft's.

SAP, the clear leader in vertical expertise, tends to depend on a combination of internal development and partner products for its industry-specific offerings. While its partner spending on innovation could also be under siege in the recession, SAP's current model allows it to maintain a significant amount of vertical innovation in-house, as well as invest directly in partners that need help in bringing products to market.

Oracle's model is also largely recession-proof, as it relies on acquisition to bring vertical solutions to market. While Oracle's innovation model can make life more complicated for customers that have to support the different code bases used by Oracle's flagship E-Business Suite and its acquired products, the economic pressures in the market make it possible for Oracle to buy a lot more vertical products for its acquisition dollars than otherwise.

How this will sort out in the market remains to be seen, but clearly Microsoft will have to be careful to keep its vertical innovation strategy on track or face a decline in its competitive profile. Which would, of course, impact the company's partners as well.

It may be necessary for partners to budget more than they'd like for vertical innovation during the current recession. Failure to do so could prove to be a poor investment at a very critical time in the Dynamics market. And critical mistakes are the kind that no one can afford to make right now.

About the Author

Joshua Greenbaum ([email protected]) is founder and principal of Berkeley, Calif.-based Enterprise Applications Consulting.