06/04/90 SOFTWARE: IT'S A NEW GAME

Return to Past BW Coverage Table of Contents

SOFTWARE: IT'S A NEW GAME
Computer Networks Demand New Products and a New Service Mentality
Not long ago, Jim P. Manzi had a vision. The 38-year-old chairman of Lotus Development Corp. pictured millions of personal computers all hooked together on networks and all of them chugging away on spreadsheets, data bases, and other packages sold by Lotus. In April, his dream seemed close to coming true. By merging with Novell Inc., the overwhelming leader in PC networking software, Lotus would instantly emerge as the most important player in networking -- and in the next era of computing.
On May 19, that illusion was shattered. At the last minute, Novell's directors sandbagged the deal, fearing that Novell would emerge as the junior partner in the combined company. Officials at Lotus and Novell say that the companies will continue to work together on joint product development and marketing projects, but a merger is now extremely unlikely. To make a bad week worse, rival Microsoft Corp. on May 22 introduced its long-awaited Windows 3.0 graphics program to great fanfare and enjoyed a 3-day, 6 3/4-point rise in its shares.
Manzi's scheme to take a shortcut into networked computing may be derailed, but he hasn't given up on his vision. Indeed, what he calls ''the Lotus way'' is really the way the entire software industry is headed. From microcomputer software giants Lotus and Microsoft to mainframe software companies such as Computer Associates International Inc., software makers are changing the way they do business because computer networks are dramatically changing the way their customers handle information. The old way, using a mainframe to control the work of thousands of terminals, didn't give individual workers tools to do their jobs. And PCs, which put massive computing power on the desks of ordinary workers, have not been very adept at letting individuals share information or work collaboratively.
'PLATFORMS.' What's needed is a hybrid, and that's networking. On PC networks, workers retain the autonomy of a PC but benefit from sharing information -- from one desktop computer to another and from desktops to other types of computers on the network, even mainframes. Making the basic connections among all those machines is fairly straightforward. The opportunity Lotus and its rivals are rushing to exploit is in creating networking software. It's not enough to let the computers -- and the people who use them -- exchange messages. To be a substantial improvement over older computer systems, the networks must increase productivity in the organization by helping individuals work together. Packaged software, the mass-produced programs that have made business software a $4.35 billion market, is simply not up to the job. For one thing, no canned program can anticipate all the combinations of hardware and software a network will have to accommodate. Customers have sunk millions of dollars into programs and data bases that run on their IBM mainframes, Digital Equipment minicomputers, or Apollo workstations. The new networks will have to be able to grab the information from whatever systems a company already has.
More important, customers are finding that to get the most out of their networks they need programs that are geared specifically to their businesses. They may base their systems on generic packages such as spreadsheets or data-base programs, but such basic software must be customized. So, Lotus has developed versions of 1-2-3 that run on everything from PCs and workstations to mainframes. The base program will be the ''platform'' on which custom software will be built. ''The network is the target,'' says Franklin H. Moss, the vice-president who heads Lotus' efforts in this area.
The software companies whose packages become the basis for these new applications will gain a strategic edge in the networking era. But it will be an expensive proposition. To push his company into the networking-applications business from the packaged software market, where it enjoys a lush 81% gross margin, Manzi may have to live with margins that are just half that. In network setups, Lotus won't be able to simply spit out thousands of shrink-wrapped packages of 1-2-3 to an eager mass market. Instead, the company will be forced to hire highly paid specialists who will spend weeks and months lavishing attention on just a few hundred customers. ''We've got to go into a company and say, 'Here's our way, and here's how we're going to get there with you,' '' Manzi says.
That requires a radical change in the way software makers market and distribute products. Suddenly, the hottest buzzwords in the business are ''service'' and ''consulting.'' Instead of filling store shelves with boxes, software makers are reaching out to form ''partnerships'' with customers. They're sending teams of programmers to write customized applications and, if customers want, to help tie different programs together, or even help string the wires for a network. ''Our customers say, 'If I make this strategic investment, who do I look to to guide me through this technological Land of Oz?' '' says Peter R. Tierney, senior vice-president at Oracle Corp., a leading maker of data-base software.
DAILY GRAND. Indeed, Oracle this spring switched gears from its growth-at-any-cost strategy to focus more on consulting. Already a $100 million business for Oracle, consulting services are seen as a way for the developer to make sure that companies select its data-base programs as the basis of their networked applications.
Tierney thinks more of his sales will resemble his deal with ITT Hartford Insurance Group. Oracle sold Hartford data-base software for a network of 30 Digital Equipment Corp. minicomputers. Then, Oracle personnel trained the company's systems analysts to write custom programs to administer claims processing and do other insurance jobs. Hartford executives winced at the steep cost of consulting -- typically $1,000 a day. But the expertise ''helped reduce the learning curve,'' promising bigger savings in the long run, according to Hartford Assistant Vice-President James Mackintosh.
Lotus' most ambitious whack at the new market is Notes, a ''groupware'' program that runs on PCs and lets workers on the network communicate more effectively. Instead of a finished package, Notes customers who pay $62,500 get a programming system, 200 copies of Notes for individual PCs, five days of consulting from Lotus technicians, and six months of free telephone support. The result: an application that is tailored to a particular business. Other software developers are taking a similar tack. Sybase Inc., another seller of data-base programs, in January bought a service firm with 80 consultants. Sybase President Mark B. Hoffman says he had little choice:
Customers were demanding so much support that the people who were supposed to be helping line up new prospects were tied up helping existing customers. Computer Associates, the billion-dollar mainframe software maker, says that its customers are also demanding more consulting assistance, and American Management Systems Inc., a mainframe-software company that is quickly converting to networking, says it doesn't sell a single program without selling consulting to go with it.
And, although Microsoft emphasizes that its main thrust continues to be pushing new technology, it has also improved its service. The company has signed some 3,000 contracts with customers who want the software maker to help customize applications programs or build networks. Microsoft also recently hired a former Ernst & Young executive to beef up the consulting business. He's in the process of hiring 300 people worldwide who can do the job.
Customers say that they rely on the consulting and programming skills of software companies to install their big networks. Take United Parcel Service Inc. in Greenwich, Conn. The company will have spent $1.4 billion by 1991 to overhaul its corporate information system, a massive effort that includes moving as many software programs as possible from minicomputers to PC networks. The goal: to keep closer tabs on the thousands of parcels that UPS ships each week and to link its PCs to its mainframes. For programming, consulting, and training, it turned to Novell. ''There's a big change going on in our corporation,'' says Marc Dodge, UPS's network support manager. ''We're rethinking most of our applications.''
HAND-HOLDING TIME. So is Eaton Corp., the $4 billion Cleveland-based maker of automotive parts and electronics. Eaton has been a Lotus customer since 1-2-3 was first released in 1983. These days, it's also buying consulting services from Lotus, which has helped Eaton automate plants in Kings Mountain, N. C., and Shawnee, Okla. ''If the expertise is from the same company that supplies our software, then so be it,'' says Robert L. Martin, Eaton's manager of executive-support systems.
Ironically, the move to consulting is something of a back-to-the-future strategy. Thirty years ago, when computers were young, IBM and its rivals gave away software to sell their machines. To make sure that the new electronic brains would really work for those early customers, teams of programmers were dispatched to develop custom software. Then, systems engineers took up residence and made sure that the machines kept working. In the 1980s, when PCs moved into corporations and no single computer maker would claim responsibility for the resulting mishmash of technology, a new support system sprang up. Called systems integrators, these companies helped clients buy all sorts of software and computers and then kept them running. But in the new networking era, systems integrators -- whose expertise usually lies in large computers -- aren't doing the job, software makers say.
Now, the software companies figure that it's their turn to hold the customer's hand. After all, they are the ones developing the stuff that will make the new networks really work. ''We should be selling one dollar of consulting for every dollar of software,'' says David Friend, chairman of tiny Pilot Executive Software in Boston. ''There is a tremendous amount of money being left on the table.'' Indeed, new network-applications software is ''where all the action is, and where it's going to be for the next 10 years,'' says Patricia B. Seybold, president of Office Computing Group, a Boston consulting firm. Seybold estimates that for each dollar a company spends on standard packaged software, it spends $5 on consulting, systems integration, and custom programming.
Besides, the packaged software business isn't what it used to be. Growth in the PC software market has slowed to 15%, down from 40% just two years ago. That makes new sources of revenue attractive. So, even though consulting and systems integration are people-intensive businesses with far higher costs of sales, they are a natural extension for many software makers. Typically, consulting firms have gross margins of about 40% or less. Systems integrator Electronic Data Systems had 1989 gross margins of 24%, a third of what Lotus and Microsoft make on packaged software.
There's also strategic advantage in cementing consulting relationships with customers -- advantages that will someday offset any earnings pressure now. That's a big reason Manzi wanted the merger with Novell so badly. Novell brought with it Netware, which has 65% of the market for network operating systems, the programs that perform basic network functions. Novell's service-oriented Netware dealers would be the ideal vehicle for promoting Lotus' network packages.
More important, as owner of Netware, Lotus would have been in position to determine the technical standards for networking -- the way its archrival, Microsoft, has done with MS-DOS, the operating system that controls stand-alone PCs. And Lotus would have been able to create applications that took best advantage of Netware. Now, Microsoft has the networking advantage. Its LAN Manager network operating system lags badly behind Netware, but Microsoft can market it as part of a family of products. That may prove an important selling point for customers who are confused by the complexity of networking.
Despite the high cost of providing services such as consulting, Wall Street analysts welcome the move. In addition to giving strong strategic advantages, says David G. Bayer of Montgomery Securities, ''consulting can create demand for sales of existing products.'' Of course, that could backfire: Customers may reasonably wonder whether a software developer's evaluation is really objective or just a way to disguise a sales pitch. Even the developers acknowledge that this is a risk. ''It's like asking a house painter to come out and judge whether or not you need your house painted,'' says Sanjay Kumar, Computer Associate's senior vice-president of planning.
SCARCE TALENT. The developers also face plenty of well-heeled competition. The consulting arms of Big Six accounting firms such as Ernst & Young and KPMG Peat Marwick are all looking at the same opportunity in networking. And the two billion-dollar players in systems integration, Anderson Consulting and General Motors' EDS, have launched full-scale publicity campaigns extolling their expertise in networks. These systems integrators typically bring a broader understanding of technological issues to the party and tend to focus on the strategic needs of clients and industries. Some integrators specialize in construction industry applications, others in financial services. It will take years of consulting for the software makers to accumulate such industry-specific expertise. Even then, systems integrators may have an edge because they don't push a particular brand of software.
The software companies also face logistical hurdles. The biggest is a scarcity of qualified consulting talent. Consultants must not only be capable technologists but must act as software social workers -- able to keep customers calm during the upheaval of switching to a network. To cope, Manzi says, Lotus will add consultants a bit at a time. In the next six months, Lotus will hire just 20 specialized consultants. Eventually, Moss says, consulting could be one-third of Lotus' business.
When software makers can't buy the right expertise they are aligning with it. The American subsidiary of German mainframe-software developer SAP says it will get help in the networking arena from traditional consultants such as Anderson Consulting. SAP America has already signed on with three such firms and plans to team up with two more.
Microsoft is also seeking alliances because Chairman William H. Gates III says customers don't always want their software suppliers as consultants. ''Customers know what they want,'' he says. ''They're not just little children, crying, 'Come, help!' '' Still, as networks proliferate, says outgoing Microsoft President Jon A. Shirley, ''we're starting to move into a different world. We'll have to offer a blend of services, some of which are going to have to cost something. While Lotus is emphasizing support after the sale, Microsoft also wants to consult before customers make purchase decisions. ''Demand creation'' is the goal, says Shirley.
ICING? All this consulting represents a cultural change for software makers that could prove tough to manage. Companies such as Lotus are used to churning out products by the thousands, then dashing them off to dealers who compete largely on price. ''If you've built your company around the fast break, it's very hard to switch to a half-court offense,'' observes William H. Gallagher, chief operating officer of Atlantic Data Services Inc., which provides custom software to financial institutions.
And what happens to the software itself? Some industry-watchers worry that as software companies focus more on service, they'll pay less attention to beefing up the underlying products. That's why No. 1 word-processing software maker WordPerfect Corp. rejects consulting. ''We intend to solve problems by making a better product,'' says W. E. Peterson, WordPerfect's executive vice-president. Microsoft's Gates seconds that emotion. Consulting and other services are simply the icing on the cake, he says. ''I'm not going to deliver the cake without the icing. There will be lots of icing, more all the time. But let's keep selling the cake.'' After all, there is such a thing as a deal that's too sweet.

Keith H. Hammonds in Cambridge, with Deidre A. Depke in New York, Richard Brandt in San Francisco, and bureau reports