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Software for hire

Software for hire

Despite the apparent mushrooming in the number of application service providers and attempts by several big vendors to recast themselves in this role, the obvious benefits may still be elusive to potential customers.

It is never too early to plan for the holidays. This chestnut is especially true for toy stores that do business online. Faced with an unpredictable, seasonal buying frenzy, ventures such as ToySmart.com would normally have to push their IT systems infrastructures to meet the demand. But in 1998 the company sought outside inter- vention and outsourced certain key applications.

ToySmart.com is a textbook example of a midsize operation that sought help from an application service provider (ASP) to handle large volumes of business through application outsourcing.

Vendors of all stripes, many recasting themselves as ASPs, now offer outsourced application services, promising users quicker ramp-up times for new applications and the option to "rent" rather than buy software. Although the prospect of simplifying maintenance and expanding capacity through third parties is appealling, contracting with ASPs is not as simple as handing the car keys to the designated driver. Relationships with ASPs, like those with any outside services companies, need to be effectively managed, particularly in a crowded and immature market.

Application outsourcing is nothing new. "ASP" commonly refers to an outsourcing company that hosts customers' applications centrally and provides access to them via the Web.

Compared with the highly customised approach of one-off application outsourcing contracts, ASPs aim to offer similar services to a large number of customers.

"The distinguishing characteristic is the one-to-many delivery model. This model requires ASPs to negotiate partnerships in order to offer a set of services. It's more of a push versus pull model in that the ASP delivers a few standard offerings to the market and provides some degree of customisation," explains Clare Gillan, an analyst at International Data Corp.

Other variants include ASP services that handle the remote management of applications at a customer's location.

However an ASP's service is defined, the prospects look good for this sector of the outsourcing business. The ASP market currently lacks the revenue to match the hype and inevitability claimed on its behalf, but forecasts are rosy.

Focusing on the segment of the ASP market that delivers high-end applications, such as enterprise resource planning (ERP) and customer relationship management (CRM), IDC conservatively predicts a $US2 billion ASP market worldwide within four years, up from about $150 million this year.

Compelling proposition

The ASP phenomenon has been pigeonholed as a midmarket play, but observers note interest from Fortune 1000-level companies looking to respond quickly to competitive pressures by launching electronic-business applications, hooking up with supply-chain partners, or handing off core functions during mergers and acquisitions (M&A) or restructures.

Still, application outsourcing appeals most greatly to smaller companies, particularly those that seek rapid growth or lack the infrastructure and internal organisation to run ERP, electronic-commerce and other sophisticated applications in-house.

"We need to triple our size in the next six months," says Cynthia Hollen, president of Knowledge Strategies, a high-technology consulting company in New York. Knowledge Strategies evaluates emerging technology and advises venture-funded Internet startups in areas such as e-commerce and financial services.

Knowledge Strategies outsources its e-mail management, its financial and human resources applications, and the physical hosting of its servers.

"Managing e-mail service is really time-consuming and doesn't fit with our business model. We have ASPs in place because our focus is taking care of our clients, not our IT infrastructure. Our IT organisation handles development functions," Hollen explains. "It's a lot less work than having to do it all internally."

Although relying on ASPs has helped Knowledge Strategies ramp up quickly to handle the business load of a larger company, size is not always the determining factor in whether a company will benefit from the services of an ASP, Hollen notes.

"We advise some large companies that if they outsource, it's for the expertise of a specific function. Where you already have a large IT staff and T1 networking, for example, it's a small incremental cost to add software. But managing Web-based technologies takes a different skills base than standard IT systems," Hollen says.

As the number of outsourced services expands, so may the number of providers that handle a company's networking, management, or physical hosting. This can create a heavy management burden for customers, cautions David Marshak, an analyst at market research company the Patricia Seybold Group. "The biggest problem for customers is managing all the pieces," Marshak says.

The burden is also on the customer to ensure that business needs beyond the physical maintenance of an application server are being met.

"For a company like Exodus, which provides physical hosting services, maintaining [around-the-clock] systems availability is an easier problem than integration, and matching user interfaces to the way people work, and making sure the application works according to the customer's business model. The outsourced model has to have the flexibility of matching your particular business," Marshak says.

As a result, internal IT staff must couple systems expertise with both an understanding of the overall business model and the ability to manage outsourcing deals.

"It puts a premium on people with business-process and application-integration expertise. You're cutting previously monolithic applications into unequal parts, and the CIO has to pull that all together. Integration has to occur with each ASP," says Dave Liederbach, Net.Commerce marketing manager at IBM.

The ASP relationship can be high-maintenance, according to Liederbach. "In most cases, early on both parties probably know about 30 per cent of how the relationship is going to work out. There's no spec list for all roles and responsibilities. There is likely to be a bumpy start as cracks expose themselves in areas like customisation, performance, operations characteristics, and things like control of backup and maintenance," he says.

Former lives

The ASP market itself is all over the map, populated by professional-services companies, ERP vendors and other ISVs, ISPs, telecommunications companies, startups, data centre/hosting companies, and network bandwidth suppliers.

The mushrooming array of ASPs brings different strengths to the table, depending on their roots. Companies such as Corio and FutureLink began as systems integrators. USinternetworking is a pure ASP startup with a lineage that includes networking and infrastructure services. On the telecommunications provider side, Qwest Communications has added ASP services to its dossier, partnering with companies such as SAP, Siebel, and KPMG. ISPs also offer ASP services as an outgrowth of Web-hosting and e-commerce applications.

Because the ASP market is basically just out of the gate, the players are jockeying for the inside running, she adds. "The most interesting question is where the balance of power resides with regard to the customer. Vendors from all different segments of the market are vying to own the contract," Gillan says.

One dynamic that could blunt some of the optimism surrounding the ASP market, according to Seybold's Marshak, is the growth of outsourced applications to the point to which they are candidates for being pulled in-house.

"Companies might start external, but when it becomes big and strategic, they might bring an application back in-house," he says.

A number of ASPs countered that, provided the service company is flexible and attuned to the customer's needs, the ASP engagements need not hit a ceiling.

However, gaining tighter control over an outsourced application and injecting greater customisation come at a price, even if ASPs can accommodate those requirements.

The issue of control is critical in ASP deals. ASPs are generally seen as trustworthy when it comes to security and confidentiality, but the question of who controls the maintenance of a given application - how often and how extensively it can be altered - can be a sticking point.

In the case of ToySmart.com, the online toy merchant with a retail store in Massachussetts, the company outsourced the hosting and operation of its commerce site to Navisite, an ASP based in the US.

"Last Christmas, the business volume was huge. We threw T1s and all the machines we had into it just to keep up, but the scalability and availability demands have the potential to get beyond us," says Bella Labovitch, director of Web development at ToySmart.com.

"We saw the value of outsourcing operational aspects of the business, which allows us to focus on what we're good at, which is building good software, building a community around educational toys, and selling," she says.

ToySmart.com still handles its own human-resources, financial and other in-house business applications. "That was never an issue, because you want to retain some level of control. It's a balance," Labovitch says.

Overall, the value proposition of ASP services can be murky.

Weighing the typical subscription-based pricing of ASPs against the cost of IT staffing and infrastructure; software purchases, installation, and support; and other related services defies easy calculation, observers say.

Accessibility to new markets

For many companies going the ASP route, the services often provide a means of functioning as larger entities or getting into more specialised areas - fuelling growth and allowing them to get into markets to which they otherwise might not have access.

"The greatest benefit is lowering the initial investment in software, which can be $250,000 up-front and has to be amortised," says Seybold's Marshak, adding that the lower entry cost of the ASP model may alter the pricing of enterprise applications. ASPs are often measured in terms of physical business models, he adds.

"Retail companies looking at getting into e-commerce often compare the ASP costs to those of opening a store in a mall."

Whatever the specific cost metrics, the ASP market is one of the industry's most frenetic and bears close watching on the part of potential customers.

"This market is moving at lightning speed, and we anticipate seeing M&A action in the coming months and years.

"[This volatility] raises questions for customers. At the same time, for the ASP model to be successful, suppliers need to offer economies of scale," says Traci Gere, an analyst at IDC.

"If they stay small and focused, they're also at risk. No ASP is an island. They can't be successful by hunkering in a corner."

In light of its bustling early stages, the ASP market's midterm report cards will be eagerly anticipated.


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