SAP Moves into SaaS, Still Has a Long Way to Go

The message in SAP’s (SAP) re-segmenting of its revenue streams (.pdf) on March 8 is that SAP is beginning its tortuously slow move to 21st-century Software as a Service (SaaS). But the announcement also shows that SAP has a long way to go to compete with the salesforce.com’s (CRM) of the world from a business model perspective, not to mention to compete with Intuit (INTU) and Microsoft (MSFT) in terms of both business model and “ERP” functionality. SAP is setting up the bucket but has little really new to put in it yet.

In the new category they call “Subscriptions and Other Software Related Services,” SAP posted 46% revenue growth, 2006 over 2005. But this new category does not currently include the SaaS that is getting all the buzz. Most of the newly segmented SAP revenue stream is for what the company calls Global Enterprise Agreements (GEAs). SAP says,

“GEAs are high-volume contracts (that) SAP closes with selected strategic customers. These contracts usually run for five years and allow customers to implement and use SAP solutions to the extent desired. Revenue for these contracts is recognized quarterly on a pro rata basis.”

That is sort of the CA definition of subscription revenue circa 2000. It is the way subscription maintenance has always been accounted for, which illustrates a minor investment research factoid about this change. Some (35%-45%?) of the 5 year’s worth of revenue in each contract would have previously been recognized in the year when the software was delivered without encumbrance. So SAP is flattening its annual revenue growth rate slightly in promoting these deals. However:

• I say that only “some” of the revenue is spread out rather than recognized up front under these contracts because the maintenance “half” of the contract would have been accounted for over the term of the agreement anyways. (For example, a standard $500,000 perpetual license, where a satisfied user pays the 20% maintenance fee in each subsequent year for 5 years, reaps $900,000 in revenue over the period. That additional $400,000 and even part of the initial license is currently accounted for as subscription maintenance revenue under GAAP.)

• And I say “slightly” because SAP is saying the total segment, which was not all based on GEAs, amounted to only 129 million Euro for the year, meaning probably less than 50 million Euro is to be recognized belatedly. (Remember, although the revenue is not recognized in the in the period when the software was delivered without encumbrance, which is the standard way license revenue is recognized, the company begins recognizing the license portion right away the next period so it “recaptures” about 20% of the delayed revenue in the year of the deal, on the average. )

But I digress unless SAP is simply saying it wants to be another CA. SaaS that matters is “try it for a few months, you’ll like it” (not a 5-year commitment) and involves tens of thousands of users (not “selected strategic customers”). SAP’s CRM on demand is also given as an example of a “Subscriptions and Other Software Related Services.” The on-demand CRM service (and Siebel migration program) announced in May 2006 apparently did not get much traction if much of the revenue was GEA. Given SAP’s direct sales model, that’s almost to be expected. And it might be simply be due to the “slowly turning aircraft carrier” effect.

But the SaaS services SAP really needs have not been rolled out yet. To get Business One competing with Intuit and Sage and All-in-One competing with SAP’s Microsoft Office Live, SAP needs go to market programs following the tactics it talked about during its most recent conference call with analysts. The delay in getting ERP SaaS out the door at SAP is a fundamental problem illustrating how SAP is continuing to struggle with its channel.

Knowing which type of SAP SaaS service is growing at what rate is important to investment research in the company. So far we know it’s a lot of traditional big SAP large-enterprise deals that are simply structured differently, a little CRM on demand (while salesforce.com grew its type of SaaS 61% to almost $500 million), and no ERP on demand (while Intuit and Microsoft report they are growing their on-demand ERP revenue streams strongly).

[Note from the above-linked chart that SAP is moving the revenue stream for “Hosting” services—basically a service bureau arrangement —to the small “Other Services” category that is not to be considered as an “important indicator for revenue oriented analysis.” But SAP considers something it calls Mandatory Hosting part of “Subscriptions and Other Software Related Services.” I’m confused by this distinction and am checking with SAP. Also note on the chart that “Perpetual” does not mean perpetual revenue but one-time revenue for a perpetual license.]

Disclosure: Author has no position in any of the above-mentioned securities.

Comments

[Dennis Byron:]

As promised, I followed up with SAP to try to understand the difference between its two types of Hosting. SAP's answer:

-- "The Hosting (the revenue flow of which) moved from Service Revenue to Other Services is so called Non-mandatory Hosting, meaning that the software can be hosted by SAP, our partners but also any other Hosting provider.

-- "Mandatory Hosting(, which) was previously in Subscription/Rental (Product) Revenue(,) is now (in) a new line item called Subscription and other SW related services. Customers can have their software hosted only by SAP and certified hosting partners, this is true for e.g. (for) SAP CRM on demand."

2007 Mar 16 09:25 AM