One of the most common scenarios we see as a custom software development firm is clients who are looking to solve problems for themselves and then ultimately seeking to monetize the solution for other organizations that suffer the same challenges. For the most part, this is a reliable and profitable endeavor. You can see examples of this in use today in various industries. Amazon developed a content management system at the Washington Post, which is now marketed to other enterprise organizations as Arc. Predictions are that Arc can become a $100 million revenue stream for the newspaper, making it the third-largest income source for the company. The idea of custom CMS in publishing isn't unusual. However, the Post has become one of the few actually to try to license it. And, the idea of licensing software as a revenue stream is gaining traction, as the Wall Street Journal recently reported.
However, licensing software does bring about its own set of unique requirements that need to be considered before this strategy is employed. This week, I'll focus on the pros, the cons, and the steps you need to take to monetize your in-house software solutions. First, let's look at the positives.
Pros
Why license your software? Well, there are more than a few reasons why you would want to do it:
- Revenue Stream: Of course, as mentioned above, licensing software brings about an additional revenue stream that can bolster your bottom line. Depending on the complexity of your business, it may be easier to execute versus your core offering. There is no doubt that the appeal of ongoing, predictable, and recurring revenue is substantial, in almost any business.
- Influence: Let's say you are in an old-school business that typically runs on archaic systems, and you can reimagine how the industry works with a comprehensive, easy-to-use software package. You'll immediately gain influence in your industry and become a thought leader by merely solving the problem. Granted, this is more of an ego play, but those who lead tend to reap the rewards, too.
- Diversification: The additional revenue stream allows you to diversify your income across an entirely different channel. If you are solving a problem for your customers and the software can potentially become a lynchpin in their operations, then your business will also have a better shot of surviving economic downturns or slowdowns. Typically, software that holds a company together is one of the last subscriptions to hit the chopping block.
- Future Acquisition: The multiples on software company acquisitions are still attractive and lucrative. Since these businesses are somewhat easy to run and, as mentioned, are predictable, they are highly attractive targets for purchase by a variety of private equity funds or more significant software players.
Cons
Of course, the above makes it all sound great, right? But be prepared, licensing software does also have its negatives, and for the most part its because software is a different type of business which follows it's own rules:
- Support: You need to be prepared to provide support to your customers. Anything that serves such an essential role for a company means that they will need help regularly in using it. While this challenge is easily met by creating support systems and can even be outsourced, it is expected and essential.
- Deliverability: Any software that powers a company needs redundancy and high levels of availability. This means that ongoing infrastructure costs, in addition to monitoring and emergency response, will be vital. All of this is easy to employ but can add up to maintenance dollars.
- Sales Challenges: Selling software is different than selling other products or services. In some cases, it's super easy: set up a self-service portal, and then folks are off to the races themselves. However, the more complex the application, the more likely that a manual sales component and even onboarding will be necessary. Again, this is an expense and cost of doing business that needs to be considered.
- Fast Moving: Software is always evolving. Like – every day! Folks who come from more traditional businesses need to be aware of this and adapt their way of thinking fast, or they'll not succeed in this market. When you are selling software, you need to respond quickly to user input, competition, and third-party tools, which may require integration or inclusion in your product. The idea of "set it and forget it" rarely applies to software. While its recurring revenue, it isn't passive income. It's very, very active.
Should You Do It?
Overall, I've seen many success stories for people who attempt to license software. The more niched the business, the better they do. I find that those who attempt this business model typically do better than those who are trying to build B2C companies. One reason is that users are often already identified. If you are running a company that sells widgets to astronauts, and you think you can better complete those transactions than anyone else via custom software, then it's pretty easy to find your target audience. However, if you are trying to build a mass-appeal product like an Uber or Door Dash… Well, that's an entirely different challenge.
Some questions worth asking when considering becoming a licensor should include the following:
- Can I easily define my target audience?
- Can I easily approach and pitch this audience?
- What price point makes the most sense?
- Does a business model built around that price point and predictable expenses make sense?
- Am I willing to work, potentially, outside my comfort zone in building an entirely new line of business?
If you can adequately weigh the risks of each above question and still consider it to be a worthwhile endeavor, then you may be onto something that can work.
What You Need to Do
I could probably make this another post all to itself, but I wanted to cover some particular areas of concern you need to approach before you become a software licensor. Some of this is technical, some logistical, but each needs to be negotiated and implemented to be successful.
- Legal Factors: You need to make sure, especially if your software was already built, that you have the legal rights to license it to others. If you are building your software from scratch, this is easy, because you can negotiate this issue before the product is created. However, if you've had software in place for years and now want to determine if you can sell it, you need to research your own license terms with the original developer, and also research if any third-party software was used in building the platform. It would not be good to be reprimanded later by someone claiming you infringed upon their rights and ownership of a particular code library or similar.
- "Multitenant": SaaS software must be multitenant. Meaning, it must be used by many different companies who often have all of their own users. Let's say you built a billing system for your business and it's been in place for quite some time. It may have been initially built for a single organization… yours! In this case, the software needs modification to be "multitenant", or in use by other organizations as well. There are various technical approaches to this problem. One is to deploy duplicate environments for each new customer. Doable, but a maintenance hassle and not best practice. The best scenario is to have all customers and users working within one platform with data siloed and protected. Building this way from the first line of code isn't much of an issue. However, transitioning old software is. This challenge must be considered early and solved before going too far down a pathway that could lead to a catastrophic roadblock.
- Account Management: As mentioned above, your software is right now in use for one group – yours. To make it usable as a business, you'll need to craft account management tools. In some cases, software can be 100% self-service. Users sign up, manage their accounts, can upgrade or downgrade, or cancel the service. There is also a need to display invoices, billing information, and of course, actually run the transactions for payment. Much like the multi-tenant issue above, there are many ways to approach this problem and a variety of technical solutions. But, whatever you decide, it must be systematic in nature, something that is consistent and repeatable and allows for some level of control for the customer.
- Marketing: Remember – software is an entirely new product line for you, and as such, you will need to market the product. This means building, in most cases, an informational website, development of marketing materials, social media followings, and all that comes with marketing a new product. Again, this is much easier in a niche setting. If you have only 300 possible clients in the world than a simple website that displays the product, makes the appropriate arguments, and reinforces your other sales approaches would more than suffice. However, if you are making a broad-appeal software package available, you'll be in a totally different ballpark in terms of marketing and messaging for your product.
- Support: People who use software need help. And people who rely on software expect a good quality of support. As the licensor, you will be expected to provide this on an ongoing basis, at the minimum during business hours, and in some cases beyond. Support means resources, training, onboarding, troubleshooting, and so on. Software that tends to provide excellent support also builds a following. The platforms that are absent from their user's problems quickly learn about high rates of attrition and how bad reviews can affect their bottom line.
- Continuous Improvement: I barely mentioned this earlier, but people who license software expect it to improve continuously with new features, updates, and optimizations. When a software package becomes essential to a company, it can develop a fanbase of users who look forward to these improvements. But on the other end, you also have people who will freak out when anything changes. It's a careful balance, but on the whole, you need to invest in ongoing improvements and development iterations to stay competitive with other services and not eventually be taken on by new competition that is ahead of those trends.
Is it worth it?
So at the end of the day, is it worth it to become a software provider in addition to your core business? I believe it is, as long as you have approached this new endeavor from a realistic, thoughtful position. When well-executed, licensing your custom software provides you with a way to monetize on your investment via a reliable revenue stream, gain a position of authority in your industry, and develop an asset that may be attractive to an acquirer further down the road.