THE DISCREET CHARM OF THE SMB
How small- and medium-sized businesses can get the best deal from software vendors.
By John Goff

As a rule, finance executives at small- and medium-sized corporations in the US tend to be less guarded and less politic than their counterparts at larger companies. It's not entirely clear why that is. Some believe it's because smaller companies usually are closely held, and therefore less subject to shareholder and regulatory scrutiny. Some claim it's because quotes from executives working outside of New York, Chicago, and other major cities rarely show up on the front page of The Wall Street Journal.

Ask a question of a finance manager at a small manufacturer, and it's likely you'll get an honest-as-the-day-is-long kind of answer. No pausing, no editing, no deferring to general counsel.

Hence, when Dave Stout, international controller at Wisconsin-based Miniature Precision Components (MPC), says: "This is a huge event for us," you know he's not embellishing. The huge event is MPC's rollout of a new enterprise resource planning program - the first change in the company's ERP software in 30 years. Management at MPC, which makes molded-plastic auto parts at its five factories, believes the software will (among other things) help the company generate faster, more-accurate price quotes for the Big Three auto makers. "It's going to trim our administrative costs and improve our profitability," predicts Stout.

That's big stuff for the smallish MPC. So, too, is the US$500,000 or so the company paid California-based vendor IQMS for the licensing rights to the software, which is called EnterpriseIQ. While large deployments of enterprise software can cost millions of dollars, US$500,000 remains a sizable investment for a company with annual revenues of US$150 million.

Given the stakes, it's not surprising that small to midsize businesses (SMBs) in droves have held off replacing their ERP systems for many years. But with the economy gaining steam, and with lots of business customers now asking suppliers to automate their order and inventory systems, SMB spending on ERP packages appears primed for a rebound. AMR Research, for one, foresees a 10 to 12 percent bump-up in ERP software investments this year by companies with revenues of US$50 million to US$250 million, and an 8 percent increase in ERP spending by businesses in the US$250 milliontoUS$1 billion range.

By comparison, AMR figures spending by large companies on new ERP software will remain flat. "We didn't see an [ERP] buying boom by midmarket companies in the mid-1990s," explains AMR Research senior vice president Jim Shepherd. "So there's a real sense of pent-up demand."

Marquee ERP vendors, which tend to salivate at the phrase "pent-up demand", have begun to move down into the SMB sector. "There are only so many tier-one companies," explains one analyst. "But there are thousands of tier-two and tier-three companies."

Last year, market leader SAP AG demonstrated its rising affection for the lower tiers, substantially ramping up its main midmarket initiative, called mySAP All-in-One. A few months earlier, rival PeopleSoft came out with 13 new midmarket applications geared to businesses with US$50 million to US$500 million in revenues. And Oracle - which may see its hostile bid for PeopleSoft as a way to grow in the SMB market - is readying the US launch of Oracle E-Business Suite Special Edition. That stripped-down ERP package is aimed at companies with as few as five users. "The faster we can come up with midmarket solutions," says Jacqueline Woods, Oracle's vice president of global pricing and licensing practices, "the better off we'll be."

This growing vendor interest is good news for SMBs. Certainly, the looming specter of the Big Three ERP players puts added pressure on niche vendors to close deals - and fast. As Larry Austin, MPC's vice president of finance, notes: "Some of the vendors we talked to had real hungry looks on their faces."

Fine Young Cannibals

Publicly, representatives of smaller ERP software vendors deny they're in panic mode. Certainly, CFOs at tier-two and tier-three companies should not expect the kind of absurd price breaks vendors offered after the enterprise-software market tanked in mid-2000. "The period of deep discounts is over," claims Tom Westerlund, vice president of solutions management at US-based software maker Mapics. "There aren't any unnatural acts [being committed] by the vendors that have survived."

Still, analysts and consultants say savvy shoppers can wrangle good deals from ERP-software salespeople. Typically, the list prices for ERP apps aimed at smaller businesses range from US$100,000 to US$500,000, including the core license fee and per-seat charges. Established vendors eager to break into particular industry sectors, or fledgling vendors looking for anchor tenants, will usually offer the best deals.

Industry analysts say less-prized customers can work discounts as well. "This is still very much a buyer's market," insists AMR's Shepherd. "The customer always looks at three or four products, and there's a great deal of functional overlap of products. Every deal is contended."

Potential buyers can use this overlap to their advantage. For example, analysts say a customer should never whittle down the short list of vendors too quickly. Likewise, a possible buyer would be wise to keep mum about which vendor is the front-runner to win the contract. In short, play vendors off one another. Says Austin of the beauty pageant at MPC: "We kept three vendors in it right to the end."

The result? While MPC management won't give exact details, controller Stout says the company paid less than list for the IQMS software. "I think you can get ERP vendors [to come down] 20 to 30 percent [on the] list price without much work," he adds.

Customers doing their homework may get extra savings. At US-based Berner Foods, head of business technology Troy Grove says the US$70 million (in revenues) retailer was fortunate to purchase its Ross Systems ERP software during the dark days of 2000. "Back then, they were so willing to discount it was funny," he recalls. While Grove says the market for enterprise software appears to be improving, he believes customers can still cut good deals by negotiating licensing fees at the right time. "A lot of ERP software vendors are public companies," he explains. "So try to play them on the close of a quarter or their fiscal year."

Of course, king-size discounts may also portend king-size troubles. Cautions John Moore, vice president and general manager for enterprise advisory services at industry analyst ARC Advisory Group: "A company that quotes too good a price could have serious cash-flow issues.".

The Tier Drop Explodes

Certainly, no CFO wants to lay out US$250,000 on software only to see the vendor go out of business three months later. At best, it's an embarrassment. At worst? "A misstep on an ERP investment could cost somebody their job" at the SMB level, claims Troy Edgar, CEO at US consultancy Global Conductor Solutions Group.

Hence, niche vendors, which often generate less income than the clients they serve, spend time trying to convince potential buyers that they'll be around ten years down the road. It's no easy sell. As Moore notes: "Other than SSA Global [which owns Baan], all the midlevel vendors are in play."

Some large vendors, too, as evidenced by Oracle's PeopleSoft bid. Stephen Galliker, CFO of US-based Dyax, faced the issue of vendor stability when he began looking to replace the biotech company's accounting and project-tracking software last year. "There's always consolidation in the ERP market, and that's always a concern," he says. "The modules you bought can become second tier and isolated."

Ultimately, Galliker went with iRenaissance, an ERP package from Ross Systems. (Ross was acquired by Chinadotcom six months later.) In general, consultants say it's wise to consider only niche vendors that have a reasonably large installed base. That way, if a vendor is taken over, the acquirer will continue to support the software. As added protection, some smaller sellers of ERP software grant customers the rights to their application source code. For his part, Galliker's not so sure that's a selling point, particularly for companies with minuscule IT staffs. "The last thing I want to do is rewire somebody else's source code," he says.

Large ERP vendors rarely, if ever, offer up their source code to customers. That, in turn, could prove a minor hindrance as they try to sell to smaller businesses. A bigger obstacle: years of bad headlines about botched ERP implementations by major vendors. "There's real skepticism at small businesses about big ERP vendors," says Global Conductor's Edgar. "They've heard some bad stories."

Overcoming that skepticism won't be easy for large vendors, which only recently have started this "tier dropping" from first- to second- and third-tier customers. One manager at a small supplier, wooed by several vendors, described representatives from one well-known ERP software maker as "carpetbaggers". Sales reps spent most of their time talking down their competitors, the executive claims, rather than talking up their own products.

Many niche vendors sprang up around specific industries, analysts point out, breeding a familiarity that can provide an additional level of comfort for finance executives at smaller businesses. "Every ERP salesperson said their product was geared toward my market," says MPC's Stout of that company's recent dealings with vendors. "But one of the Big Three vendors asked us a thousand questions about how we run our business."

It's the old axiom of selling: land the contract, then worry about fulfilling it. "Some of these guys told us their software could do something," recalls MPC's Austin. "Then we asked them to show us, and they said, 'Oh yeah, we can do this, but we didn't know you wanted to see it.'".

New Order

These snares can make purchasing software hazardous duty. Even vendors acknowledge that customers worry about hidden traps in implementing ERP. "Software price is an obvious cost," says Gary Fromer, vice president of SMB and hosting at SAP. "But training can be harder to see."

In some cases, implementation fees, usually including training and software deployment, can get out of hand. At Berner Foods, Grove says the base application prices for all three ERP finalists were roughly the same - around US$250,000. But the implementation costs of one vendor were four times Ross's. Eventually, Berner management agreed to pay Ross a US$125,000 fee for a set implementation period - but no more.

To counter worries about runaway deployment fees, an increasing number of ERP sellers are offering closed-ended contracts. PeopleSoft, for one, offers smaller customers a set price for software and implementation. In addition, other ERP vendors are designing programs that are easier to deploy. "They take out a little bit of the functionality of the software," notes Moore, "then make it a package solution that doesn't require a lot of integration."

It will require maintenance, however (as does all ERP software). Usually, vendors charge an annual fee for upkeep on their programs - a fee that covers both the maintenance of an application (patches or security fixes, and so on) and later upgrades. Many times, the fee is a percentage that's based on the list price of a program, not the discounted price. Large vendors typically charge anywhere from 18 to 22 percent for maintenance; smaller vendors may charge less. At IQMS, for example, executive vice president Terry Cline says the company charges a 14 percent annual maintenance fee.

Of late, vendors have been coming under fire for ever-increasing maintenance fees. Apparently, some vendors are even willing to take a loss on their software sales, knowing they'll recoup the money on such fees. These fees must be paid for years, so analysts say buyers at SMBs need to pay particular attention to the details of the maintenance contract. "The license price of an application is a one-time price," according to AMR's Shepherd. "Maintenance you'll have to live with forever."

Management at Berner Foods found that out the hard way. After deploying its new Ross ERP software, managers became dismayed with increases in the annual maintenance fee. "We have very slim margins," says Grove. "The increase in maintenance was an annual recurring issue for us."

Grove began lobbying Ross for a reduction in the increase. "At first, they said, 'We don't negotiate that stuff.'" To get Ross's attention, Berner stopped paying its bills. Eventually, Ross agreed to base the increase on the consumer price index. Says Grove: "Our argument to them was, if you don't want to be a cost-conscious supplier, we might have to look at somebody else."

With all the interest in the SMB sector these days, the threat carries plenty of weight."

John Goff is technology editor of CFO, CFO Asia's sister publication.