Most open source companies can't thrive by selling maintenance and support
subscriptions. But the cloud may be the key to revenue generation.
Open source software companies must move to the cloud and add proprietary code
to their products to succeed. The current business model is recipe for failure.
That's the conclusion of Peter Levine, a partner at Andreessen Horowitz, the
Silicon Valley venture capital firm that backed Facebook, Skype, Twitter and Box
as startups. Levine is also former CEO of XenSource, a company that
commercialized products based on the open source Xen hypervisor.
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Levine says the conventional open source business model is flawed: Open source
companies that charge for maintenance, support, warranties and indemnities for
an application or operating system that is available for free simply can't
generate enough revenue.
"That means open source companies have a problem investing in innovation, making
them dependent on the open source community to come up with innovations," he
says.
Why is that a problem? After all, the community-based open source development
model has proved itself to be more than capable of coming up with innovative and
very useful pieces of software.
Revenue limits
The answer is that without adequate funding, open source businesses can't
differentiate their products significantly from the open source code their
products are based on, Levine maintains. Because of that there's less incentive
for potential customers to pay for their products rather than continue using the
underlying code for nothing. At the very least it limits the amount that open
source businesses can hope to charge – putting a cap on their potential
revenues. It's a vicious circle.
"If we look at Red Hat's market, 50 percent of potential customers may use
Fedora (the free Linux distribution,) and 50 percent use Red Hat Enterprise
Linux (the version which is supported and maintained by Red Hat on a
subscription basis.) So a large part of the potential market is carved off – why
should people pay the 'Red Hat tax'?" Levine asks.
You could argue that this is actually good for businesses, because the
availability of open source software at no cost provides competition to open
source companies' offerings based on the same code, ensuring that these
offerings are available at a very reasonable price.
But if open source businesses can't monetize their products effectively enough
to invest in innovation, then potential corporate clients can't benefit from the
fruits of that innovation, and that's not so good for customers.
Uneven playing field
The problem is compounded when you consider that open source companies' products
are not just competing with the freely available software on which their
products are built. It's often the case that they also have to compete with
similar products sold by proprietary software companies. And that particular
playing field is often an uneven one, because the low revenues that open source
companies can generate from subscriptions mean that they can't match the huge
sales and marketing budgets of competitors with proprietary product offerings.
It's an important point because although sales and marketing activities are
costly, they’re also effective. If they weren't, companies wouldn't waste money
on them.
So it follows that open source companies miss out on sales even when they have a
superior offering, because having the best product isn't enough. It's also
necessary to convince customers to buy it, through clever marketing and
persuasive sales efforts.
The problem, summed up by Tony Wasserman, a professor of software management
practice at Carnegie Mellon University, is that when you’re looking to acquire
new software, "open source companies won't take you out to play golf."
The result, says Levine, is that open source companies simply can't compete with
proprietary vendors on equal terms. "If you look at Red Hat, MySQL, KVM … in
every case where there’s a proprietary vendor competing, they have more business
traction and much more revenue than their open source counterparts."
As an illustration of the scale of the problem, Red Hat is generally held up as
the poster child of open source companies. It offers an operating system and a
server virtualization system, yet its total revenues are about a third of
specialist virtualization vendor VMware, and about 1/40th of Microsoft’s.
Hybrid future
This is why Levine has concluded that the way for open source companies to make
money out of open source software is to abandon the standard open source
business model of selling support and maintenance subscriptions, and instead to
use open source software as a platform on which to build software as a service (SaaS)
offerings.
"I can run a SaaS product by using Fedora as a base, but then building
proprietary stuff on top and selling the service. So the monetization goes to
the SaaS product, not to an open source product," says Levine. "I think we’ll
start to see an increasing number of SaaS offerings that are a hybrid of open
source and proprietary software."
[Related: Can LibreOffice successfully compete with Microsoft Office?]
He adds that many SaaS companies – including Salesforce, Digital Ocean and
Github (two companies Andreessen Horowitz has invested in) – already use a mix
of open source and proprietary software to build their services.
And Levine says that Facebook is the biggest open source software company of
them all. "I was shocked when I realized this, and Google probably is the second
biggest," he says.
Facebook has developed and uses open source software for the infrastructure on
which its social network is built, and adds its own proprietary software on top
to produce a service it can monetize. Google also generates a large volume of
open source infrastructure code, although its search and advertising software is
proprietary, he adds.
While the existence of free-to-download software undoubtedly makes it harder for
open source businesses to monetize the same software by adding support,
maintenance and so on, it's also the case that these low-cost alternatives must
make life more difficult than otherwise for proprietary vendors trying to sell
their products into the same market.
That's because these low-cost alternatives necessarily make the market for
proprietary software smaller even if proprietary companies have higher revenues
that they can use to innovate, differentiate their products, and market them.
This could help explain why some proprietary software companies are moving their
products to the cloud, or at least creating SaaS alternatives. A mature product
like Microsoft's Office suite can largely be functionally replicated by an open
source alternative like LibreOffice, but Microsoft's cloud-based Office 365
product takes the base Office functionality and adds extra services such as file
storage, Active Directory integration and mobile apps on top.
That's much harder for anyone to replicate, open source or not. And it suggests
that in the future it will be all software companies, not just open source shops
that move to the cloud to offer their software as a service.
