Hosted apps market to put pressure on Microsoft pricing

REDMOND, WASH. - Microsoft may appear poised to storm the applications hosting market, but the company actually has quite a few issues to sort out before it bulls ahead.

The most important and toughest of those issues is coming up with a hosted applications licensing structure that will be attractive to application service providers (ASP) and customers but that won't wipe out Microsoft's current lucrative software licensing model.

When asked at a developers event in San Francisco last week how Microsoft would make money as software shifted off the desktop, company President Steve Ballmer candidly responded: "Don't know yet."

But he does know that Microsoft's current licensing model is a cash cow the company has no intention of slaughtering. The model requires users to pay for a Client Access License (CAL) for each end user as well as a server license fee.

For instance, the price to license BackOffice 4.5 is about $3,100, which includes five CALs. An additional five CALs cost roughly $1,300.

"We want to figure out how to work with ASPs and not cannibalize our revenue," a company spokesman says. "We are looking at what makes sense."

Microsoft officials say they hope to establish a hosted applications licensing model within the next six months.

While Microsoft's indecision may be getting in the way of ASPs' business plans, the software company isn't standing still.

Last week, for instance, Microsoft made generally available to ASPs its Complete Commerce program, a hosted Windows NT platform for commerce applications. In April, Microsoft began a pilot program for hosting BackOffice, and it already has a number of partnerships with the likes of Dell, Qwest and Qualcomm in the hosted applications area.

But industry observers say Microsoft is still moving too slowly.

"I don't think Microsoft gets it," says Jane Giera, an analyst with Giga Information Group. "Eventually the Microsoft castle will have to crumble. Microsoft can dismantle its own licensing model and control the chaos, or have it done for them by the market."

In the hosted world in which users anticipate low-cost or no-cost applications, such as free e-mail, Microsoft must figure out how to collect similar amounts of money for its software whether it is paid upfront, as it is under the current model, or by subscription.

"On the monetary side, there are complex issues," says Dwight Davis, an analyst with Summit Strategies. "Those issues are keeping a lot of folks at Microsoft up late at night."

Davis doubts Microsoft will be able to maintain current revenue levels.

Microsoft does have a commercial licensing program underway. The company is using a pilot for hosted BackOffice to test various licensing models and explore how its channel partners fit into the puzzle.

FutureLink, an ASP in the BackOffice pilot program, simply pays a server license and a monthly access fee based on the number of users, according to Tony Hill, product manager for FutureLink. Data network giant Equant, which last week unveiled an ASP partnership with Microsoft and a hosted Exchange messaging service, says it does the same.

"We do that because we're still hammering out the arrangements on a final licensing model," says Laurence Huntley, an Equant executive.

But radical changes may not be forthcoming for enterprise customers.

"Our enterprise clients have asked if hosting will lower their licensing costs, and Microsoft has said no," says John Kretz, president of Enlightened Point Consulting Group. "Microsoft says the change is in delivery of software, not its cost."

Microsoft says management and administrative savings for enterprises will exist, however, when infrastructure is hosted by an ASP.