The ASP Phenomenon

Will the software rental model change your life? Maybe not. But if you need to get an application up and running fast, and if you don't have the resources to do it in-house, an ASP may be the answer.

By LAUREN GIBBONS PAUL
Network World, 02/07/00

If you're confused by the sudden explosion of application service providers (ASP), you're not alone. ASPs are popping up faster than Internet initial public offerings. Everyone from pure ASPs, such as Corio and Interliant, to established software vendors, such as Microsoft and Oracle, want a piece of the action.

And the range of applications you can rent is getting broader every day, from e-mail to messaging to customer service to human resources to finance to manufacturing.

The good news is that the concept underlying ASPs is blessedly simple. All you need to know is that ASPs are offering a different business model, an alternative way of delivering software over the Internet or a private VPN.

The ASP model is hardly new. It's very similar to time-sharing mainframe applications from service bureaus. What killed time-sharing 20 years ago was the advent of the PC. Today, several factors have aligned to make the rental scheme viable again:

1. On the vendor side of the equation, the Internet is by far the most important enabler. Even though most ASP applications today are actually delivered over private networks, the vision is that as the Internet becomes more reliable and secure, applications will be delivered over the Web. Two other factors setting the stage for the rise of ASPs are advances in server-based computing and access to increased bandwidth, says Hal Chapel, chairman of Xevo Corp., which sells infrastructure software to ASPs.

2. Software vendors need a better way to sell to small and midsize businesses. Most large companies have implemented enterprise resource planning (ERP) and sales force applications by now, and vendors such as SAP and Baan need a way to make their offerings palatable - both in implementation time and price - to the lower tiers of the market. Although some software companies are threatened by the ASP trend because they believe it will dilute their brands, many companies embrace it as a way to tap a fresh market.

3. Vendors like the rental model because it gives them a steady revenue stream, rather than a "license-signing frenzy" at the end of each quarter, says Josh Greenbaum, principal at Enterprise Applications Consulting in Berkeley, Calif.

On the user side, three factors are converging to ignite interest in renting applications, according to Lew Hollerbach, senior analyst at Aberdeen Group, a market research firm in Boston:

Competitive pressures are forcing businesses to re-emphasize their core competencies, which can lead to outsourcing their IT functions.

Companies are finding it impossible to hire and retain the right people to build and maintain their systems internally.
IT managers are struggling to get e-business initiatives up and running quickly on limited resources.

Increasingly, companies are loathe to deal with IT systems at all, says Phil Wainewright, managing editor of the "ASP News Review," an online ASP industry publication in London. "IT has gotten harder to do. It's 24 hours per day. The stakes are higher and everyone is overstretched. The ASP value proposition is, you pay us a monthly fee and we'll take care of all that for you - and to guaranteed service levels," Wainewright says.

At this point, the ASP phenomenon is one of high-decibel levels and low numbers of actual customers. For example, Corio, one of the leading ASPs, had a total of 38 customers as of early January. Many ASPs are caught in the bind of having to prove they are reliable and scalable, when they often don't have customers to back up their claims.

"Many ASPs are using an Internet financial model to build their companies. They're drumming up a lot of venture capital and predicating their strategy on gaining customers at all costs. They are desperate to prove themselves," Greenbaum says. "They're willing and able to show a loss on their early customers."

And many companies are willing to take a chance on an ASP - for them, the potential rewards are simply too tantalizing. The chief advantage is speed. Using an ASP is an undeniably quick way to get an application up and running. And at least in the near term, it can be the least expensive way, too. Many ASPs will install the application, and customers have the option of rolling that cost into the monthly service fee, which is based on usage. Many ASPs offer a sliding scale so fees drop as volume grows.

The ASP model also insulates customers from technology creep. That was a big selling point for Paul Marshall, senior director of customer support for Yellow Freight System, a $1.9 billion shipping company in Overland Park, Kan. Marshall wanted to add interactive messaging to his company's Web site but was hesitant to implement this capability himself, despite Yellow Freight's in-house IT expertise (see "Getting the ASP message"). "Technology moves so quickly. I didn't want to have to upgrade or replace something right away," he says.

Risky business

Of course, there is a downside to taking the ASP path. Customers must trade internal control and the ability to customize for the speed and cost advantages of the ASP model.

And it is risky to bet your business on the performance promises of third parties outside your immediate control - especially when those third parties are relying on fourth parties to provide the service. For example, nearly all ASPs partner with other companies to provide the physical data center where the applications are hosted. That's why guaranteed service levels - where the ASP takes ownership of the entire user experience - are crucial.

The lack of customization may not be a problem for a start-up that has no legacy systems and no entrenched business processes. But midsize and larger companies should never consider renting a vanilla ERP application, Greenbaum says. "You can't be competitive with a generic ERP implementation," he says.

Another issue: Current applications were written under the presumption that one company would own one copy of the software running on one server. Unexpected downtime and other problems can result as ASPs run multiple copies of the application on the same server. But this problem should take care of itself because the next application versions will come in a multi-tenancy format. Microsoft, Oracle, SAP and other major vendors have announced forthcoming versions of their applications that will be designed to be used by ASPs.

Security can be another bugaboo. Some industries will only adopt the "rent-an-app" model if they can access it on a dedicated, secure line, which is what most companies do when they elect to have their mission-critical applications hosted by an ASP.

What's ahead?

Although the ASP market is growing rapidly, it faces serious challenges. Not the least of these is simple confusion - there are so many players offering so many different applications targeting so many different industries.

Plus, if service levels begin to suffer as more customers flock to ASPs, that could damage the concept very quickly.

Consolidation among the more than 150 companies in the market is inevitable in the next 18 months. Some observers believe the market will swing toward independent software vendors (ISV), which increasingly will offer a hosted model along with the traditional licensing structure. It remains to be seen whether this will occur, as ISVs have good reason to feel threatened by the popularity of the ASP model. When customers begin to look at their software applications as a utility, that dilutes the ISVs' power and influence - not to mention their brands.

Several analysts say software companies should stick to their knitting. "Hosting software is a whole different business than developing software. Most software companies will never be in a position to become services companies," Greenbaum says.

Hollerbach agrees. "An ISV's core competency is not hosting, it's writing software," he says.

ASP proponents believe the application hosting model will forever change the way companies use information technology. "The IT industry is a products industry. It's now transforming into a service industry. Ten years from now, when you think IT, you'll think service, you'll think subscription," says Jonathan Lee, founder and chief strategy officer at Corio in Redwood City, Calif.

The application rental scheme may not take over the world, but one thing is clear: The metrics by which ASP customers gauge their provider's performance will become increasingly sophisticated - and increasingly tied to realizing business value.

Today, ASP customers measure their providers in terms of uptime, bandwidth, scalability, security and problem resolution, according to a report by Adrian Gonzalez, senior analyst at ARC Advisory Group, a Dedham, Mass., market research firm.

Tomorrow's metrics will cover cost savings, cycle-time reduction, customer retention and supply chain efficiency. According to Gonzalez, customers will be less interested in software applications, hardware platforms and other enabling technologies. Instead, they will focus on the business value offered by the ASP.

10 questions to ask before signing on with an ASP:

Can the vendor guarantee 99.9% uptime and application availability?
How can the vendor guarantee my data is secure?
Am I trusting my data to a viable and stable company?
Can I trust that my application will run efficiently on the vendor's network?
Will the vendor be able to support all my customer service needs, the network and the ongoing application management?
Can the vendor handle all my implementation needs?
Should I be threatened by the loss of control?
Is this a cost-effective solution over the long term?
If I want to bring my service back in-house, can I do that?
Am I the first to consider doing this out of house? Are other companies doing this?

A sage decision

In many ways, Dave Charlton personifies the typical ASP customer. As chief operating officer and chief information officer at Internet start-up AllHerb.com in Laurel, Md., Charlton two years ago needed outside help to create the company's site, which sells herbal remedies (See ASP Advice)

So he turned to Pandesic, a joint venture of Intel and SAP AG, to build, host and maintain an e-commerce site based on SAP's R/3 enterprise resource planning package for a usage-based monthly fee. To Charlton, the benefits are clear: Tiny AllHerb.com, with just 25 employees, could not afford to buy R/3 outright, and the site was up and running in just eight weeks.

"We could never have done this ourselves. I would probably have to have six people on staff to develop and maintain this - assuming I could even find them. Pandesic develops once for all their clients. It's much more efficient," Charlton says.

He also believes the ASP model provides greater scalability. When the site launched, it ran on two shared servers at Pandesic's data center; now - six months later - the site uses five shared servers. Rather than having to invest for future growth, Pandesic's solution is pay-as-you-grow.

The ASP model of renting rather than buying software applications is indeed compelling for dot-coms such as AllHerb.com. For many small and midsize companies, renting the application is the only way they can have access to high-end packages such as R/3. Because start-ups have no legacy systems, the fact that going with an ASP usually means foregoing customization is generally not a problem.

But the "rent-an-app" delivery model is increasingly attracting larger companies whose IT departments are too strapped in both financial and human resources to take on customer-facing e-business projects. Not surprisingly, the ASP market is poised for rapid growth. The Dataquest unit of market researcher Gartner Group estimates the worldwide ASP market will reach $22.7 billion by 2003.

And Charlton says the value he's getting from his ASP today is nothing short of miraculous: "We just love it."

Related links

Paul is a freelance writer in Waban, Mass. She can be reached at laurenpaul@mediaone.net.

Case study #1
Paul Marshall wanted to add real-time messaging to his company's Web site, but he knew his IT staff was already swamped with projects. When an ASP said it could deliver the application in seven days, Marshall jumped at the opportunity.

Case study #2
When the financial folks at his company wanted to hire an ASP to host mission-critical business applications, IT director David Blumhorst was skeptical. Start-up Corio changed his mind.

Case study #3
Flash Electronics didn't have the money, the people or the time to install SAP R/3 manufacturing modules. So, Flash took a chance on a start-up called Applicast.

Face-off
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