The Biblical story that gives us the forboding phrase "the handwriting is on the wall" is set during a feast in the palace of Babylonia's last king, Belshazzar, hours before his kingdom would fall.  The festivities are disrupted by the apparition of a disembodied hand scribing upon the wall the words "mene, mene, tekel, upharsin."  Divined then as cryptic prophesy of doom for Belshazzar and Babylonia, the Aramaic words can be literally translated into English as:

"It has been counted and counted, weighed and divided."

Recent pronouncements and calculations about the fate of packaged and licensed software by those esteemed technological prophets of our day, IDC and other research firms, bring that story, phrase, and interpretation quickly to mind.  And, one can't help but wonder if King Larry and the many princes of non-SaaS software are any more prescient than were the lords of Babylonia on that fateful night.

The Handwriting Is On The Wall For Software Licensing
IDC has predicted:

• In 2010, world-wide revenue for licensed software will decline by $7 billion
• SaaS revenues will grow six times faster than software at large by 2014
• SaaS will show a compound annual growth rate (CAGR) of 26% by 2014
• Almost 85% of net-new software firms coming to market are SaaS vendors
• By 2014, 65% of new products from established ISVs will be SaaS offerings

Providing some additional validation of this trend, separate research from the firm BMI puts US packaged software sales in the same comparatively grim zone of 6.2% for that same period of the next three years.

And, speaking of the US, according to IDC, America currently accounts for 71% of the SaaS market, but a number of recent studies by Frost and Sullivan and others have predicted that SaaS adoption in Asia and other non-US geographies will increase rapidly in the next few years.

It is worth acknowledging that software as a service is not absolutely synonymous with cloud applications; as we understand and define them today, SaaS has been around for a bit more than a decade and cloud computing about half that time.  But, Gartner Group estimates that 71% of the SaaS apps delivered this year are also cloud apps, and everyone agrees that the percentage will increase in the next few years.  So, looking forward, this distinction will shrink to insignificance.

Those figures all certainly portend tough times coming for software vendors who are unable to make the technical and business transition to delivering SaaS applications in the cloud, but they probably understate the actual peril.  To get the real picture, one must take a few additional facts and factors into consideration.

Piracy
Last year, 43% of all packaged software used throughout the world was pirated, representing about a five percent rise over the previous two years.  As you might guess, though, the distribution of illegal software use is highly variable by region, with the individual rate in some places being as high as 90% and the rates for major regions being as follows:

• Central Europe: 66%
• Latin America: 65%
• Asia-Pacific: 61%
• Middle East-Africa: 59%
• Western Europe: 33%
• US/Canada: 21%

Over the years, software piracy has been met again and again with countless educational, legislative, and technical solutions, all of which have all only succeeded in slowing it growth by a relatively small measure.   Delivering software as a service in the cloud on a subscription basis, on the other hand, makes software piracy nearly impossible.

Consider, then, in relation to those numbers, the net effect on the packaged/licensed software vendors of the higher growth rate of SaaS/Cloud apps that is being seen in North America and Western Europe.  These are the very regions where the rate of piracy is the lowest for them, and the only places where many of them actively market and sell their products.

The average "piracy premium" they pay on every seat they sell in North America and Western Europe is 27% while, in the rest of the world it is almost 63%.  This, of course, means that, to not lose revenue overall, for every seat they lose in North America to SaaS, they will have to sell more than two somewhere else.  And, in addition to that being ever harder to do as SaaS takes hold in those place, If you factor in the lower profit margin available there, just to keep profits at flat, they will have to sell four or five licensed seats there for each seat they lose in the West.

Shelfware
This is the term given to software licenses that are purchased but not used by software buyers.  There are various reasons for shelfware, including overbuying to take advantage of volume discounts and price promotions, software versions or packages becoming obsolete before their scheduled implementation, and overestimating the popularity or adoption rates of discretionary products.

Some estimates peg business shelfware as consuming as much as 20% of all IT spending, and for some products the number of purchased user licenses that go unused is as high as 80%!  This means that a substantial portion of the revenue gained by packaged software vendors for many years now has been simply wasted by their customers and not resulted in a value transfer.

The phenomenon of shelfware will not disappear completely with SaaS in the cloud; those vendors are not immune to the lure of end-of-quarter specials and the like.  But, in the US and many other countries, subscription revenue can only be recognized over time, not when the deal is done, as with licensed software.  Also, best practices for subscription software are optimized against different factors than for licensed software, such as preventing churn and maintaining a smooth growth curve in subscriber acquisitions.  As a result, with SaaS cloud apps there is less opportunity for and advantage in growing shelfware.

SaaS is already being proven to be cutting into the "shelfware margin" of packaged software vendors, because the advent of cloud computing, coupled with the current state of the economy are causing customers to retract their planning horizons and, at every upgrade point for the packages they are currently using, to scan the market for subscription-based and usage-based alternatives.

Open Source
According to one research study, last year, of all the packaged software used around the world, 43% was pirated, 35-45% was licensed software, and 12-22% was free or open source software.  Furthermore, in recent years the CAGR of adoptions in various open source product categories have typically ranged from 20-50% on average.

So, even as cloud computing was just beginning, it was already a well-known given that open source was taking business away from commercial packaged software vendors and the rate of that attrition has only increased in the past few years.  Furthermore, open source adoption in regions outside North America and Western Europe has been happening at a much faster rate than inside.

With most open source products being mechanically equivalent to packaged software, on the surface it might seem that SaaS cloud apps would be comparably deleterious to open source product adoptions as they are to commercial licensed software, and, indeed, to a minor extent this has been true in the early going for some types of software.

Going forward, though, SaaS and the cloud are actually proving to be beneficial to many open source vendors.  When open source vendors sell against commercial package vendors, they typically give away the core software and make money on upgrades and on implementation and support services.  In other words, their business model was already more akin to SaaS than to licensing.

Now that the cloud, especially the public cloud, exists as an alternative platform, many open source vendors are finding it very easy to shift to a subscription-based business model and utility-based deployment model, and they are seeing a net increase in revenue in the process.

And, finally, between open source systems/enabling software and SaaS cloud application providers there is a sort of symbiosis that promises to pound another nail into the coffin of the licensed software.  Most cloud-based SaaS application providers are using open source operating systems, virtual machines, databases, programming languages, networking middleware, and so on, to build and deploy their services.

This is very different than it was back in the old days when ISVs and VARs built and sold licensed applications that incorporated or dragged licenses for enabling and platform software products from Oracle, Microsoft, IBM, and other.  Now, that kind of "channel business" is about to go off a cliff.

Without these three concomitant circumstances of piracy, shelfware, and open source, the licensed software would be in decline, but with them its state is approaching something closer to free fall.

The End Is Near
To summarize in closing, like Babylonia in the story, the old ways of the empire of licensed software have yielded riches beyond all prior imagining, but now it faces the portent of the handwriting on the wall that says one counting and another find it lacking, and so it faces division and defeat.  A powerful new force is at its gates, while inside its walls, the effects of theft, waste and desertion are beginning to take their toll.  Look for the rise of a new empire sooner than you could have imagined.