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4:20PM

Lifestyle Vendors

I had a long chat yesteday with Dennis Howlett about the likely direction of the next five years of cloud, web apps, mobile. Dennis wrote his thoughts down this morning.

These are my rambling reflections.

For a while there's existed a loose expectation that some kind of market consolidation or shakeout would descend upon the nascent web apps space, mostly because that's what usually happens. Start-ups cease to be start-ups, lose the wide-eyed impetus that got them going in the first place and some then struggle to respond to competitive, growth or strategic challenges. And progressively some begin to give up, cash in their chips or, worse, banks begin to withdraw lines of credit. A few succeed in guessing the right moves and they prosper.

While some standard degree consolidation will occur, I think it will be different.

My general shake-out theory is this.

The same economics of internet distribution that made it very easy for a larger number of vendors to come to market over the last ten years, compared with the prior, pre-web generation when software shipped in cardboard boxes, will blunt the sharper edges of a regular market shakeout.

Some cloud vendors will give up/go under/get acquired (delete as appropriate) but this will be as much to do with internal mismanagement (fiduciary as well as strategic) as it will natural competitive forces.

However, good enough cloud vendors now have a third, relatively comfortable option that sits right between the previously binary commercial outcomes of market obliviion and market domination.

Become a Lifestyle Vendor.

Although the term sounds new, it's really a 2012 update on the old Lifestyle VAR (Value Added Reseller) tag.

Lifestlye VARs were generally competent, well run intermediaries that were responsible for physically purchasing business apps from old world software vendors and then reselling them, deploying them and offering services to the end customer businesses who ultimately used them.

The Lifestyle modifier came from the fact that the owners of Lifestyle VAR businesses were generally content to be masters of their own destinies rather than smaller cogs in a corporate entitiy, had nice cars, nice homes, modest offices and two expensive overseas vacations a year. Perfectly serviceable if plodding businesses with balance sheet cloth cut according to the rate of attrition of their annual software and hardware maintenance contracts.

However, Lifestyle VARs were generally regarded by software vendors with disdain because the inherent lack of ambition found in a classic Lifestyle VAR ultimately held back the vendor. After all, the VAR was often the sole route to market and if, as a vendor, your once vibrant VAR channel matured over time into a plump, greying and generally content bunch then the metabolic rate of your software business slowed with them.     

Fast forward back to today when we now know that the web disintermediates, spawning the current generation of online business software, no longer reliant on the classic VAR model.

However, because it doesn't cost very much to run a online software business today and because online software businesses - certainly online accounting software businesses are harder to sell* than classic software businesses, while I think we'll see some online vendors go on to build huge, successful businesses, we'll also see a good few smaller vendors revert to being Lifestyle Vendors instead of disappearing.

Lifestyle Vendors will have enough operational ability to do a excellent job of supporting hundreds or even a few thousand customers, will drive nice cars, work out of modest offices with great coffee, own nice houses and take a couple of overseas vacations every year.

While I'm evidently clever enough to predict the arrival of the Lifestyle Vendor, I not clever enough to calculate whether or at which point being a Lifestyle Vendor might ultimately become untenable. It's relatively easy today to throw together a good enough service, but that might change radically in the next ten years.

* Online software businesses are more difficult to sell than classic software companies because of the lack of security in recurring revenues. Classic software licensing and annual maintenance contracts tend to be much more stable assets to sell on because it's hard for all the customers to just stop paying upon change ownership at the software company. And because there's the theoretical risk that every customer in an online business could just cancel their monthly subscriptions should they not take kindly to the new regime, it's much more difficult to reach agreement on price when online software businesses are up for sale - the seller seeks a classic valuation, the buyer discounts because of the increased risk. This also supports an outcome where we'll see more Lifestyle Vendors.  

RELATED : Benevolent Dictatorships, The Disintermediation Of Ability

Reader Comments (2)

I'm interested in the valuation comment. Objections I often hear from businesses considering the cloud for accounting is that:

1) the change of system will be too disruptive to operations; and
2) all their accounting records are on Sage or whatever

I've never heard being tied into the maintenace contract as a reason.

I fully understand the attraction of buying a business with contracted revenues but customer churn rates are far more useful to observe in order to get a longer term view of revenue trends and I can't see any reason why they would be different for a mature business whether online or onsite.

(Incidently it's hard finding a major UK broker that covers NZSE)

May 2, 2012 | Unregistered CommenterTimCaprica

My hurried (therefore lazy) writing didn't help. As a user, if you've paid up front for software licenses and a maintenance contract, you'd need to get to a position whereby you'd feel good about writing off the remainder of the maintenance contract period and, depending on how much you paid for the software, the 18 months to 2+ years of software license value you'd have paid for up front.

In terms of valuing an online software business; someone acquiring a mature on premise software business would probably all but shut down R&D and just milk the maintenance and occasional software license version upgrade.

Someone acquiring a web app would either do so to acquire the technology if it was any good, or if it enabled them to enter a market with a ready-made product, or because they already had a product of their own just wanted the customers and would quickly shut down the acquired product.

Buying an mature on premise software business is about the relatively predictable recurring maintenance from what is likely a long standing customer base so it's easier to arrive at a valuation.

There are more variables and more risk when it's a cloud business, the seller would prefer the mature valuation formula, the buyer would seek to mitigate the higher risk of attrition or erosion of the customer base post acquisition.

(https://www.firstnzcapital.co.nz)

May 3, 2012 | Registered Commentergary

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