Tuesday, April 10, 2012

Pet Rocks of the Software Kind

[Repost of my Forbes Article]

Napoleon Bonaparte once said “Never interrupt an enemy when he’s making a mistake”. For those in the business of organizational warfare, this rule is golden.

It is one of the reasons why we are a fairly secretive bunch about the finer points of value chain evolution and the games to play – blocking strategies, choke points, positioning, barriers to entry, exploitation of ecosystems and tactical weapons such as open source. Anything that gives an advantage is secret, everything that doesn’t … well, write a book on it.

I thought I would let you in on a ‘secret’ which you already know. Most of us are spending far too much money in IT on things that don’t really matter. It is the software equivalent of paying high prices for builder’s rubble because someone called it a ‘Pet Rock’ which you could customize.

You can guess what I’m going to talk about – the suspects are already forming in your mind ... Financial Enterprise Resource Planning (ERP) and Customer Relationship Management (CRM) must be top of most people’s list.

It’s not that these things aren’t necessary; they’re an essential part of every modern business. However, it’s precisely because most businesses need them to compete that they are ubiquitous and therefore of little differential advantage. Of course, heavy customization is where we gain the advantage … or at least we are told, whilst quietly ignoring that everyone else is also doing this. It’s not that these systems didn’t at one time create a differential advantage, they did. However, this was when not every company had them, when CRM and Financial ERP were less common.

Alas, things don’t stand still. All business activities evolve from the once rare, poorly understood sources of differential advantage (genesis) to more commonplace, well-defined commodities that are simply a cost of doing business. No matter how you dress it up, a rock’s a rock and something that doesn’t differentiate doesn’t differentiate. Failing to understand this can lead to poor investment choices. I know, I’ve made a few. I’m not alone.

Two years ago, I discussed this issue with over a hundred CIOs. We examined Financial ERP and it became clear that whilst everyone was heavily involved in customizing their system, we were spending significant amounts of resource and effort doing exactly the same thing. We were chasing differential advantage that didn’t seem to exist.

We do this because as customers we don’t talk transparently enough with each other. We believe that our ‘customization’ will give us an advantage, hence we keep it ‘secret’. We’re unaware that everyone else is doing the same. How many ways can an invoice be printed? How much differential advantage can be gained through invoices? What are the odds that everyone else is ‘secretly’ working on a customization that has the ability to share, create or print invoices via an iPad?

This is where we make our mistake. When something is common there is no differential advantage, only operational efficiency. And something can be common without us realizing it, including our most cherished customizations. Of course, that doesn’t mean differential advantage can’t be created on top of these systems – that is, by moving up the value chain and creating higher order systems.
History teaches us that it wasn’t the innovation of electricity with the Parthian battery, but instead the introduction of utility electricity services by Westinghouse and Edison that changed our world. It did so by enabling higher order systems and industries to form from the telephone to radio to Hollywood to Silicon Valley … an awful lot of value built on top of a commodity. Differential value is never in underlying systems that are common and well understood. The value is in what can be created on top of these.

So why isn’t a commonplace activity like Financial ERP provided as a utility service? This is already happening to infrastructure with the likes of Amazon EC2 as well as other parts of the computing stack.
The problem is inertia. As business activities evolve from genesis to commodity, they move through three economic states:

• One of build.
• One of peace.
• One of war.

What limits that movement is inertia from customers and vendors.

In the peace state which is characterized by relative competition between vendors, the incumbents build huge cultural inertia to any change due to their own past success. As the activity becomes suitable for utility provision, it’s normally an outside player who initiates the war, a time where disruption tends to exceed sustaining change and competition becomes a fight for survival.

Think about provision of electricity as utility services, the corresponding explosions of growth of new activities (telephone to radio) and the disruption of past industries (for example, gas lamps). This pattern of evolution, from genesis to utility, from build to peace to war constantly recurs in our industrial history and we’ve no reason to suspect the pattern will stop.

In the case of computing infrastructure, which has evolved from its genesis in 1943 with the Z3 to utility services, then the outside player who initiated this ‘war’ was Amazon. A retail company not encumbered by a hosting business model is forcing the hosting industry to evolve.

But with Financial ERP, aren’t the incumbents changing? Both SAP and Oracle have cloud offerings and Microsoft has, in the last few weeks, announced it’s getting in on the act. As both Blockbuster and Kodak taught us from different industries, even if you were first into a field, this doesn’t seem to help if you can’t deal with the past industry you’ve built up. Is it likely the incumbents will truly initiate and embrace the war and disrupt their own business? Or will it be the new entrants such as NetSuite, Infor and Workday who will change the game?

The million, or should that be billion dollar question, is “who is really going to shake up this space?” An obvious candidate would use Financial ERP extensively but not be encumbered by any past business model. They would need to overcome trust barriers that enterprises adopting such a service would inevitably have, and they must have a financial interest in doing this. By interest, it could mean their existing business model is under attack and they need to move up the value chain and secure relationships with large enterprises in other ways.

I’m not convinced we’re just going to replace one set of software vendors with another because retail banking could be such a candidate. Am I seriously proposing that banks might provide utility services for Financial ERP? It sounds odd, but no more than an online retailer providing utility infrastructure. Given the potential impact of mobile banking in this sector, I wouldn’t be surprised if some move up the value chain to strengthen their relationships with enterprise customers.

So this brings us to the mistake. The question we really need to ask is whether spending on customizing and upgrading Financial ERP systems is sensible given the likelihood of a change? Doesn’t sweating existing assets makes more sense? I’m all for opponents charging ahead especially when it might involve spending vast sums where it’s not necessary. But I would be mindful that Financial ERP will evolve just like every other business activity and if everyone is doing this then it’s only a matter of time. I expect those existing models will start to be disrupted and commoditized to utility services in the next few years despite the dismissal of many.

I’m used to a world of “it’ll never happen”, “it’s too complex”, finding simple ways of happening. In a case like this, there is a good argument for procrastination.

As Napoleon also said “A revolution is an idea which has found its bayonets” … well currently utility approaches are making a charge on former hosting models. Financial ERP can’t be far behind.