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SAP Dangles A Big, Fat Carrot


Hasso Plattner, the spark-plug co-founder and former chief executive of SAP (SAP), always held annual executive retreats in the dead of winter at his thatch-roof cottage on the island of Sylt, a Martha's Vineyard look-alike on Germany's seacoast. The forbidding weather kept people focused on what transpired in his spartan living room. But the 2003 meeting, Plattner's last as CEO, was more intense than he would have preferred. SAP's software license revenues -- a key measure of future health -- had shrunk the previous year for the first time since the company broke them out. Was SAP over the hill?

Picture barrel-chested Plattner seated in a captain's chair at the head of a large wooden table that barely left room for the 10 colleagues pressed around it. Soft-spoken, professorial CEO Henning Kagermann, who was then co-CEO, sat beside him while others squirmed uncomfortably on wooden benches. Plattner, who just weeks later would become board chairman, made it clear just how dissatisfied he was. Rather than go conservative, Plattner said SAP should strive for a shockingly optimistic goal: 15% annual growth. "It was an extreme stretch," recalls Kagermann.

Amazingly, the company did even better than the two men had dared to hope. SAP achieved 18% software license growth last year, contributing to $10.8 billion in overall revenues. And SAP has become even more dominant as the leading supplier of enterprise software applications, which manage accounting, human resources, customer management, procurement, and manufacturing. No wonder its stock has shot up 40% in the past 12 months.

But Kagermann, 59, won't be able to take a breather. His pal Plattner has set another stretch goal for him: On May 9, SAP announced that it will pay $381 million to several hundred managers and key employees if they can double the company's market capitalization -- from a $57 billion starting point -- by the end of 2010. A third of that would go to the top seven executives.

The bonus plan, unveiled at the annual shareholders meeting in Germany, is way out of character for SAP, which has a reputation since Kagermann took over for being very well managed but unexciting. It's also out of character for a business in Germany, where executives are typically paid less than half as much as their American counterparts. "I don't think it's appropriate," says Heribert Fieber, former chairman of the employees' council at electronics giant Siemens, who is advising a group of restive SAP employees. "There are workers who haven't even gotten raises in line with inflation."

"THE MERLIN ROLE"

Plattner argues that the bonus payout would be fair compensation for an impressive feat. SAP is already highly valued by investors, with a price-earnings ratio of 39. That compares with 24 for Oracle Corp. (ORCL) and 16 for IBM (IBM), the two largest players in the overall corporate-software sphere. Plattner has a ready-made argument for shareholders: "If you want extraordinary growth, you want to have an extraordinary bonus scheme."

The fiery 62-year-old executive, whose ultra-aggressive personality was forged in war-devastated Berlin, isn't likely to wither under criticism of the bonanza. He sees it as a way to inject entrepreneurial vim into a 34-year-old company with 35,000 employees and a vast array of products. Since he handed off his CEO duties, he has continued to play a vital role, helping shape technology strategy and pressing relentlessly to make products easier to use. He often rushes from his office at SAP headquarters in Walldorf, Germany, to present Kagermann with bold ideas. It was just such a Plattner brainstorm last summer that brought about the incentive plan.

Remarkably, given his forceful manner, Plattner has managed a delicate balance: He plays an active advisory role without interfering with his successor. He cajoles, provokes, and inspires, but he doesn't try to run the company. "He's playing the Merlin role," says Jeffrey Sonnenfeld, a professor at Yale University's School of Management. "He's keeping the revolution forever young" at a company that is being managed for the first time by a nonfounder.

SAP's top executives welcome the chance to prove they can accelerate growth yet again. "For me, the important impact is that the entire company understands we're on a journey to something special, and it's achievable," says Kagermann. "People want to be in a good company, and they want to have dreams."

ORACLE ON THE MARCH

In fact, Plattner's stretch goal may not be so farfetched. Analysts figure that if SAP can increase software license revenues by an average of 15% over the next four years, it will be able to more than double its earnings. The company delivered $6.30 in earnings per share last year, and analyst John Segrich of JPMorgan Chase & Co. believes that it can achieve $16.50 in 2010. Segrich says the new generation of software that SAP plans to release next year will reach its peak demand three years later.

To win the big prize, Kagermann and his staff will have to overcome challenges from Oracle, Microsoft (MSFT), and pesky up-and-comers such as Salesforce.com Inc. (CRM) Oracle, in particular, is not to be taken lightly. As a result of a $20 billion acquisition binge, adding PeopleSoft Inc. and Siebel Systems Inc. among others, Oracle increased its market share in enterprise applications from 5.2% in 2004 to 12.2% today, according to AMR Research. sap, meanwhile, gained share through internal growth, climbing from 19.5% to 20.8%.) Oracle has a strong hold on corporate tech buyers, thanks to its No.1 position in database software, and has been coming on in middleware, which knits various programs together.

Oracle also has its own inspiring presence in founder and Chief Executive Lawrence J. Ellison. He seems to relish the come-from-behind role. In new print advertisements, Oracle claims that its application licenses, excluding the effects of acquisitions, grew 29% last quarter, vs. 3% growth for comparable SAP revenues. It also says SAP's count includes revenues from software made by others that it packages with its products, including Oracle's database. sap denies the claim, and analysts agree.) "We're going to wear them down," boasts Oracle co-president Charles E. Phillips.

So far, though, SAP appears to be winning the fight. It has capitalized on the customer uncertainty that Oracle created with its acquisitions. SAP says it has landed 240 former Oracle and PeopleSoft accounts, including the likes of Amgen (AMGN), Waste Management (WMI), and Samsonite. When sports-equipment maker Easton-Bell Sports Inc. decided late last year to standardize on one software maker, SAP got the nod. "Oracle has been growing by acquisition. It will take a while before it's integrated," says Sharon Nelson, Easton-Bell's chief information officer. "SAP has grown organically. That made it the safe choice."

Instead of buying market share, Kagermann launched a handful of ambitious initiatives. The biggest one involves creating updated versions of all of SAP's applications based on the latest so-called Web services technology. SAP will break the applications into smaller chunks that customers can snap together or pull apart like LEGO blocks. Customers can pick and choose the features they need and add software they write themselves or get from other suppliers. This should let them create and modify applications faster and more cheaply.

Most of the major software makers are following a similar path, but SAP got off to a fast start. Analysts believe its new applications will hit the market one to three years ahead of Oracle. That's because Oracle has taken on the daunting task of modernizing its software and weaving together applications it picked up through acquisitions in one swoop. Oracle believes its customers will wait for the update, which it expects to complete in 2008 or 2009, rather than switching. But analysts anticipate more defections.

SAP also will push to win smaller customers. Many of its current customers are large enterprises, but it now has two product suites aimed at companies with fewer than 1,000 employees. To win them over, the company has to build up distribution channels and deliver products that are easier to install and use.

Does it all add up to SAP being able to double its market capitalization? Ein Slam Dunk, it's not. But under Kagermann's leadership -- and with a vigorous push in the back from Plattner -- this is one mature software maker that may be up to the challenge.

By Steve Hamm, with Sarah Lacy in San Mateo, Calif., and Jack Ewing in Frankfurt


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