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Hi, I’m Brad Feld, a managing director at the Foundry Group who lives in Boulder, Colorado. I invest in software and Internet companies around the US, run marathons and read a lot.

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The Knives Your Sales People Should Have

Comments (27)

In December, I wrote a post titled Give Your Sales People All The Knives.  While I let you draw whatever conclusions you wanted from the post, I thought I’d follow through and give you a little more detail about what I meant by the statement.

I framed the problem with the struggle many software companies have been going through over the past few years (or decades – depending on who’s version of history you believe) around selling perpetual licenses vs. subscriptions.  I inadvertently included the construct of the deployment model (desktop, server, or SaaS / hosted) which, while a key part of the evolution of the software business, was not the part of the problem I was referring to when I suggested you should give your sales people all the knives.

A few people wrote me concerned that I was suggesting that the sales organization should determine the deployment model and that I was suggesting a company shouldn’t differentiate between desktop, server, or SaaS.  Don’t be concerned about this – it isn’t my argument or suggestion.

Instead, I’m focused entirely on the licensing and pricing model (which I’ll simply refer to as the “licensing” model – which includes price.)  I’ve been in more conversations that I care to count about how to price software, regardless of the deployment model.  The licensing model and the deployment model inevitably get tangled up when they shouldn’t. 

In 2009 (and going forward) customers will buy software using both perpetual licensing and subscription licensing, regardless of how the software is deployed.  In addition, customers will buy perpetual licenses but pay periodically (monthly, quarterly, annually) and customers will buy subscription licenses but pay in single payments up front.  If you can parse all of that, this is the exact opposite of the theory of how the software licensing and deployment were intended to line up.  Of course, this is nothing new as software leasing has been around since the beginning of the software business, as have prepaid services.

While I know all of this gives the auditors great pleasure because it means they get to spend more time lecturing companies about revenue recognition and enforcing accounting policies that distort the true financial picture of the company under the guise of complying with GAAP, it’s irrelevant.  Your goal as a company is to create great products that your customers will pay you for.  The goal of your sales organization is to sell these products; they shouldn’t care how the customer wants to license the products.

That’s the essence of what I mean by Give Your Sales People All The KnivesWhile it makes good business sense to have a religious point of view about the deployment model (there are fundamental differences between a SaaS deployment model and a software license / behind the firewall / on premise / whatever you want to call it deployment model), customers buy each deployment model a variety of different ways and your licensing model should accommodate.

I regularly hear the argument that the economics aren’t the same.  Baloney – they are approximately the same.  A typical perpetual model is $x in year 1 with 0.2x in year 2 and year 3.  A typical subscription model is 0.4x in year 1, year 2, and year 3.  Tweak this however you’d like; you get a roughly equal cumulative payment stream over four years.  I understand the cost of capital argument – you’d rather get the money up front, but remember that some customers want to pay for the subscription model up front (three year pre-pay for the subscription – or a single check of 1.2x) while others want to pay for the perpetual model in equal payments over three years (0.467x / year). 

Cash flow follows this logic.  The customer wants to pay in different ways to manage their cash flow.  Some want to pay monthly; some quarterly; some annually.  The deployment model doesn’t matter; the license model doesn’t matter – how the customer wants to pay is what drives this.

Fundamentally, the customer is managing two things.  First is cash flow.  If the customer has a use it or lose it budget, they want to pay now.  If they have no (or minimal) budget but really need the software, they want to pay monthly and try to bury the expense in a cumulative budget, or get a budget exception for a small monthly payment.  Second – and more subtle – is how the customer accounts for the purchase.  Many companies (whether they should be or shouldn’t be) want to capitalize the software purchase and put it on the balance sheet to manage short term earnings, especially in down markets.  Others are perfectly happy to have the purchase be an income statement item.  The two issues drive customer purchase behavior much more than your licensing model does.  As a result, I’m suggesting you should set up your licensing model to be flexible to accommodate your customer’s needs, rather than the other way around.

Bottom line – if you make software for a living, regardless of your deployment model, you should be able to provide either a subscription or perpetual licensing model, with any type of payment approach.

Many companies have only been giving their sales guys the brown handled knives (e.g. they are limited to using one type of licensing model.)  Selling software into a downturn is always harder.  Now is the time to give your sales people all the knives. If they don’t carve up enough business, they’ll at least have enough knives to put themselves out of their misery.

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