The case for building repeatable intellectual property
Many major vendors are encouraging their service partners and end user customers to build repeatable IP, including Microsoft, Cisco, Salesforce and others. Of course, they are doing this out of self-interest, to make their underlying technology and applications stickier or to drive consumption of cloud services, but this is one of those times when the partners' interests align perfectly with that of their vendors.
In this article I will explain why it makes so much sense for SIs and services companies to build repeatable IP, and also the reasons why many companies that could and should do it, never do.
Building repeatable IP, whether that is applications or finding a way to monetize the data that is being collected, will have an impact on many of a company’s key business model issues, such as overcoming the cash flow chasm, Customer Acquisition Costs (CAC), minimizing churn, the impact on marketing, and building the right sales organization, so that they can adapt your organization to build, sell, and support repeatable IP. The benefits will ultimately far outweigh the costs and inconvenience associated with organizational changes.
You are ideally positioned to build a repeatable IP business
When a start-up, the proverbial two guys and a dog in a garage, have a great idea, they have to raise a lot of money just to replicate the infrastructure you already have as an SI or services company. You need:
- Customer support
- And, most important, a customer base that you can sell to
I am not saying that the same people handling these roles today will necessarily be the right people to make your IP successful, but you have defined roles and an understanding of how they work. You can leverage those resources and your organizational structure to kick-start the IP business without having to run out to investors to raise $20-$50 million.
Why do it?
Every business owner wants to make money. The goal for most of you is to grow the revenues and profitability of your company to generate a good income, and at some point, sell the business for as much as possible or increase your share price if you are already publicly listed. A successful repeatable IP business will help you achieve both objectives. Potential goals include:
- Higher revenues--repeatable IP becomes a new revenue stream
- Better margins--the gross margin contribution from IP is much higher than that of services. The typical margin from services ranges from 20-25 percent at the low end (e.g., basic networking, break-fix) to 50-60 percent for higher value services (application managed services, business consulting, BPM, etc.). The gross margin from on-premise software is 100 percent, while the margin for most cloud-based applications will be in the 70-80 percent range. Adding repeatable IP to the revenue mix will improve your overall margins over time.
The real pay-off, however, comes when it is time to sell the business. The market value of different business models will typically fall into the following ranges:
Services firms are bought based on a multiple of EBITDA (earnings before interest, taxes, depreciation and amortization). Companies that are providing on-premise services on a project basis are usually sold at 4-7 times EBITDA, depending on the types of services they provide, their profitability, the overall state of the economy, and other factors.
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