They used to be called service bureaus, but now companies hosting, managing and supporting third-party applications are called application service providers (ASPs). Gartner Group’s definition of an ASP is “A company
that provides the use of an application – from basic email to enterprise applications – based on ongoing usage fees.”

The IT research companies are convinced of the opportunities in the ASP market. But they disagree widely on the size of the opportunity, and different definitions of ASP revenues makes comparisons difficult – for example, which elements of the ASP value chain to include, and whether to count only new deployments, or include the hosting of existing applications. Thus, IDC sees a global market of $7.8 billion in 2004, while Ovum estimates a market of $132 billion in 2006.

Yet 2000 has been a disappointing year for European ASPs, with little revenue and few customers. The view from the U.S. is that 2001 may be the year in which ASPs ‘cross the chasm’ and start to become a mass market. Positive factors include the recent announcement from IBM of a $4 billion investment in technology outsourcing/ASP, and that ASP pioneer USi secured $300 million from investors, including Microsoft.

Why be an ASP?
In early 2000, venture capitalists started to believe that being an ASP was an easy way to gain a high valuation. As the hype faded, many companies continue to want to be associated with the ASP tag. For many IT companies, it represents a move up the value chain towards higher-margin and less-competitive markets. This has become more important, as many of their core markets have come under pressure. Hence, telcos, software vendors and Web hosters have been keen to develop into ASPs. Even some public business-to-business marketplaces plan to enter the ASP market to gain additional revenue streams.

Target market for ASPs
The target market for ASPs has been a source of great debate. The initial view was that small and medium-sized enterprises (SMEs) represented the ideal customer. According to EC figures for the 15 E.U. countries, enterprises with fewer than 49 employees represent 99% of enterprises, 53% of employees and 37% of revenues. SMEs often have no IT department; no access to the latest software and technologies; and they want easy, scalable and quick solutions. The ASP model as a ‘rental-type’ solution can also ensure that IT costs are known in advance, if not lower overall.
Yet there is also a view that larger companies have an equal requirement for ASPs, spurred by their difficulties in recruiting and retaining IT staff, and in the complexity of their current solutions. This is typical of a ‘solution searching for a market.’ Early European adopters of ASP solutions will be those companies most willing to embrace outsourcing, and with most to gain in the short term, such as those companies likely to grow quickly and with no legacy systems.

The barriers
The questions remain over whether ASPs can provide the required reliability and functionality, and whether an ASP can be an effective business model. This has not been helped by external factors, such as the lack of DSL in Europe, IT slowdown and concerns from users about trust and security.
Being an ASP requires high expenditure with the telcos, coupled with the cost of managing hardware, storage, servers, databases, operating systems and end-user applications. The ownership of end-user software is also an expensive up-front cost.

Gross margins in the ASP market in the U.S. are typically 10-20%, yet margins in the software industry are generally in the 80-95% range, and within a given deal there are often multiple layers of suppliers all taking a margin.
A key question mark hanging over ASPs is reliability. Accessing applications over the Internet introduces several more potential points of failure, including the Internet itself.
A more fundamental question is whether much of today’s software will easily migrate to the ASP market. For example, Microsoft software often requires a fat client rather than the thin one of the ASP model.

The future
There is no doubt that ASPs will evolve into something very different, possibly even with a
different name. The majority of the pure-play companies will merge or exit the market. The market will evolve to include wireless and far greater elements of customization.
Successful ASPs will need to reduce cash burn and dependence on dotcoms, focus on reliability, service and execution, and go for larger customers.