Commercial software is paid for as though it were a physical asset. There is an upfront capital expenditure, initial implementation services, and an ongoing maintenance trail. Unlike physical capital, however, software is only ever ‘licenced’. It’s never owned by the licensee and so it can’t be ‘disposed’ of – that is, sold to a third party after initial use.
There are three main sources of revenue for commercial software vendors:
- Software licence fees. These are paid once, upfront, usually based on the number of seats, users, servers, CPUs, transactions or volumes licensed.
- Professional services, primarily implementation consulting and training, and usually driven by software sales.
- Maintenance. Yearly renewal fees, generally to the value of between 10% and 20% of the original software licence fee. Access to customer support and software updates are usually contingent on the payment of maintenance.
Many professional services businesses profitably implement commercial software without selling it. This tells you that revenue source 2 is self-sufficient. Once sold, software licences tend to be renewed for a number of years. So a software business that has been around for more than a few years will generate more from annual maintenance than new revenue. It is reasonable to assume that maintenance revenue is in most cases more than sufficient to cover software development costs and the overheads associated with providing customer support (both tend to be centralised functions). This tells you that revenue source 3 is self-sufficient, leaving source 1. The implication is that the revenue generated annually from new software sales mostly funds the sales organisation itself – that is, the salaries and bonuses of sales and presales people.
A variant of the commercial software business model applies to open source software. Red Hat distributes Linux. Its customers pay a subscription fee to access support and can additionally purchase training and other services. In the Business Analytics market, Revolution Analytics runs a similar model with its distribution of R.
Some professional services firms sign up to be distributors or partners with commercial software vendors, often to service a particular market segment. In such cases software licence and maintenance fees typically fund dedicated sales and business development resources.
Cross-sell and up-sell opportunities for commercial vendors consist of offering upgrades, new products and modules, and services – implementation assistance with additional project phases and ongoing training. The same services opportunities apply to the open source distributors and professional services firms.
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