Interpreting Ariba's Numbers and Guidance (Part 2)

In the first part of my post covering Ariba's results, I discussed at length some of the trends from the recent earnings report and analyst call. In the second part of this Ariba mini-series, I'd like to go beyond the numbers, providing my own perspective about what is really going on in Sunnyvale (and Alpharetta, for that matter). But before I begin, I want to reiterate the importance that customers should place on evaluating the continued viability of their current -- and potential -- technology providers in the current environment. Despite all of the banter you might read on these pages and in the comments, Ariba remains at the top of my list as a viable provider (as does Emptoris despite what Ariba would try to have you believe). At the same time, customers and prospects should also not discount the risks of working with larger ERP providers, like SAP, that have failed to deliver on new release promises in recent years.

Enough back-drop. Here's what I'm really seeing if you go past the numbers in no particular order. First, with Ariba, I'm seeing an organization that has finally turned the corner with an on-demand software and solutions business model. The latest quarterly numbers -- and my own discussion with customers -- continues to prove this out. I could quibble with the speed of various initiatives in this on-demand migration (e.g., multi-ERP integration in the early going), but in general, we should commend Ariba for a successful business model transition based on the lower costs and lower deployment risks that such models can bring to customers.

Second, I'm seeing an organization that, with the exception of the Procuri deal, has largely been hands-off from a non-organic growth perspective in recent years. Indeed, I've come to look at the current iteration of Ariba (2.0 or 3.0 depending on your perspective) as a very conservative culture that remains gun shy and cheap on pulling triggers around potential acquisitions. In my view, this has resulted in lost revenue opportunities as well as a broader failure to inspire customers about what's next. I believe this conservatism in pushing the envelope has had a negative impact on customers in recent years who've missed out on additional savings opportunities as a result.

What areas has Ariba missed out on by not being more aggressive on the deal front? Two key ones come quickly to mind (though there are a bunch more). The first is supplier information management (which includes supplier enablement, risk management, content, etc.) Rather than opt to develop their own product that is not yet in the market, Ariba should have acquired Aravo, AECSoft, Supplier Force, CVM Solutions or another vendor in this area. Second, Ariba has lost an opportunity by punting on their services spend area. Rather than phase-out their own offerings, Ariba should have considered the purchase of Fieldglass, IQNavigator or Click Commerce (ProcureStaff and others would be more complicated deals because they are part of full-service MSPs). Regardless, Ariba has missed out on revenue by not going after this market with software or by organically developing an MSP solution. As an aside, it's not too late for either move. Both the supplier information management market and services procurement markets are still ramping up. Services procurement, especially, will do quite well when the economy rebounds, as staffing spend tends to ramp ahead of full-time hires.

The third topic that's worth bringing up and initiating a discussion around is Ariba's consulting business. I predict that Ariba's sourcing consulting services work (i.e., the old FreeMarkets business) has the potential to be hit hard in 2009 as volumes remain low in manufacturing. The services and indirect sourcing business should do just fine, but I'd be very cautious about the potential for direct materials cost reduction programs to sell in this environment. Even if there's a good ROI associated with it, fewer companies are going to want to pay Ariba upfront to identify sourcing -- and more complex "make vs. buy" -- cost savings opportunities unless Ariba is willing to put their own fees on the line (which in today's market, is a highly risky value proposition). In my view, any analyst modeling Ariba's financial forecast for 2009 should be leery of any consulting forecasts because of the broader market conditions impacting volume numbers and customer interest in pulling the trigger on projects.

Next and fourth on my list of areas to consider is the network business. So far, Ariba has failed to monetize the full value that the supplier network brings to both buyers and suppliers. Sure, they've managed to tick-off a few suppliers in the process who consider it a transaction tax, but in general, the network delivers disproportionate value to what Ariba earns from it. From what I can see, Ariba's also doing a mediocre job of penetrating the SAP and Oracle customer base with their current network offering. Perhaps a more effective message to this group might be to offer a Vinimaya-like offering (or simply to acquire Vinimaya) and offer both traditional network enablement and the virtual, real-time enablement that such capabilities can provide. This would certainly allow Ariba to gain substantial penetration in the ERP customer base, allowing significant up-sell capabilities. As is, the network business alone is not enabling this type of ERP penetration and is also resulting in lost revenue to Vinimaya and others.

The fifth and final behind the scenes observation that I'll make is that Ariba needs to take a close look at what it will take to once again get to -- and pass -- the $500 million mark in annual revenue. In most traditional software companies, channel partners and SIs play a key role in helping companies get to this level -- and stay there. But in the SaaS world, there's no recipe for channel and SI success. Ariba will have to write its own rules. But going the direct sales path alone is unlikely to get them there. And Ariba has not exactly done the best job with the traditional channels and SIs in the past few years, sharing in the services and implementation love.

To hit their next revenue milestones, Ariba will need to curry favor with the SIs and outsourcers or they'll need to find a different route and write their own channel rules. But Ariba will never be the company it could be by simply going it alone, maintaining the status indirect sales quo. Multiple Ariba partners I've spoken with in the past year have used the word "fee hoarding" to describe Ariba's treatment and behavior regarding services revenue and fees. In my view, this does not bode well for their SI relationships in general. And more important it's not good for customers long-term as it's the third party consultants who Ariba is pushing out in favor of their own resources who can often steer companies down the most cost effective implementation and process path by bringing additional parties to the table (i.e., other technology companies) and through their neutral expertise and experience. No vendor is an island -- not even a SaaS one.

To close this run-on post, I would be negligent in my blogging duties if I did not mention the Ariba acquisition talk rumors that heat up every six months or so. This time, the party that's supposedly taking a close look at them is SAP. Last year it was Oracle. Go figure. But don't come crying to me if you buy calls or sell puts on Ariba and lose your shirt when no deal materializes. I learned a long time ago to discount these rumors.

- Jason Busch