November 30, 2004

New Wave Hits Software Industry Open-Source Pioneers Shake Up Bigger Rivals

MySQL, a software maker based in Uppsala, Sweden, is giving away five million copies of its best product: a database so powerful that global banks use it to track their credit risks and scientists rely on it to catalog the chain of chromosomes that make up the human gene.

The generosity is the same at Trolltech in Oslo, where 4,400 companies, including Siemens, IBM and Sharp, have downloaded a free product called Qt, a software toolbox that their developers can use to create functions that work across the mix of operating systems in their corporate networks.

For a decade, the ideological pioneers of the open-source movement, who gave away their software and its underlying source code, derived great satisfaction and little else for their efforts.

But recently, a second generation of companies like MySQL, Trolltech and the American companies Sleepycat and JBoss has emerged, making millions in sales, and, increasingly, profits, from open-source software.

As software vendors end a second year of single-digit growth, MySQL and other second-generation open-source companies are booming.

Most are doubling sales annually and adding staff as they transform the industry by distributing basic, powerful software for free or at a small fraction of the market price.

"We are already seeing quite profound effects from some of this open-source competition," said Gordon Haff, senior analyst at Illuminata, a research firm that is based in Nashua, New Hampshire.

"In the database arena, it's one of the main reasons that Oracle has shifted its strategic focus" to more complex software that allows companies to tap multiple databases through a single server, he added.

In a report to the U.S. Securities and Exchange Commission on Sept. 1, Microsoft warned investors that competition from open- source software might begin to erode its sales and profit. "For fiscal 2005, we believe industrywide factors such as PC unit growth and the success of noncommercial software could significantly affect our results of operations and financial condition," the company said.

On the growing use of Linux software in servers, Microsoft cautioned, "To the extent open-source software products gain increasing market acceptance, sales of our products may decline, which could result in a reduction in our revenue and operating margins."

Marten Mickos, president and chief executive of MySQL, said, "This is a far-reaching phenomenon that is going to change many parts of the software universe." In 2005, Mickos said, MySQL should return to an annual profit, after four years of losses. Sales this year are expected to double, for the third year in a row, to about $18 million

But some analysts expect the big players to adjust.

"Certainly all of the major vendors will have to change their licensing models to take on this threat," said Mike Thompson, principal analyst at Butler Group, an industry research company based in Hull, England. "The advantages companies such as MySQL have at the moment, I think, are purely based on the low cost of their products." Over time, Thompson said, the large makers of name- brand software will effectively lower their prices giving customers greater flexibility to mix all types of software and undercut the threat posed by MySQL and others open-source vendors.

"My belief is that the advantage they have is temporary," he said. "The big vendors will adjust their prices and reassert themselves because their products, generally speaking, have greater functionality."

For the second-generation companies, the key to making money in the open-source universe is simple: Give and ye shall receive. Unlike the developers of the open-source operating system Linux, companies like MySQL, Trolltech, Sleepycat, which is based in Lincoln, Massachusetts, and JBoss, which is in Atlanta, all own the intellectual property rights to their software. But instead of selling it, they give away more than 90 percent for free under open- source license deals.

Companies that weave MySQL's free database, JBoss's application server, Trolltech's Qt software toolbox or Sleepycat's Berkeley DB developer database into their own software products must distribute them for free under open-source contracts. But typically, 10 percent of these customers mostly large and midsize companies do not want to disclose their own source codes.

So they buy commercial versions of the same software from MySQL and its peers, typically at prices up to 90 percent less than those charged by the large proprietary software vendors like Oracle. This dual-licensing approach, offering both free and commercial software versions, makes it possible for MySQL and others to distribute their open-source software and earn money.

Although five million users around the world have installed MySQL's database, the company has only 5,000 commercial customers, who generate 60 percent of annual sales. The rest of the sales come from service contracts and training, said Kaj Arno, a vice president at MySQL, whose name refers to the structured query language that computer databases use to store and retrieve information. When these second-generation open-source companies sell software, they sell it relatively cheaply.

Cisco Systems, which is based in San Jose, California, and is the world's leading maker of computer networking equipment, built Sleepycat's Berkeley DB database into Cisco software known as the broadband provisioning registrar, which enables cable television operators to deliver, keep track of and bill customers for high- speed Internet service.

Sleepycat charged Cisco $150,000, plus a 20 percent annual service fee, for unlimited rights to use Berkeley DB. Proprietary software vendors would have charged Cisco an annual licensing fee of $10,000 to $50,000 for each cable operator that used Cisco's broadband registration system, said Sleepycat's president and chief executive Michael Olson.

Likewise, HypoVereinsbank, Germany's second-largest bank, opted to use MySQL's database over costlier systems to help track credit risk at its Bank Austria unit and other subsidiaries.

"The software works brilliantly," said Frank Baumgart, a manager in HypoVereinsbank's credit risk department. "We will continue to use Microsoft and other proprietary products, too, but MySQL allows us to create applications for the HVB group very rapidly."

The spread of discount, open-source, alternatives has not gone unnoticed by the world's largest software makers. IBM now sells a line of servers and other hardware using the Linux open-source operating language.

Computer Associates revealed in August the source code of its Ingres r3 database, its first venture into open-source terrain. And Sun Microsystems said this month that it would offer a free version of its new Solaris 10 operating system in an effort to broaden its use and put pressure on competitors. Even Microsoft, which has led the push against open-source software, this year released three open- source software tools for developers, complete with source codes.

Meanwhile, competition is pushing prices down. In September, Oracle began selling a stripped-down version of its Standard Edition Application Server an engine used by small and midsize businesses to run Web sites and internal company computer functions for $4,995 plus $745 in minimum annual licensing fees, just half, Oracle said, the regular price.

Still, David Keene, a senior director of product management in Oracle's application server division, said open-source software would not push out his own company's name-brand products, but rather complement and enhance them.

Oracle, Keene said, is working with open-source advocates to both contribute to open-source and enhance its own product palette a strategy it refers to as "open standards."

"What you are going to see is that some open-source software will migrate into the broader, more integrated, open-standards products that companies such as Oracle are selling," said Keene, who oversees Oracle's application server product management for Europe, the Middle East and Africa. "This is beneficial for us all, not destructive."

Alfons Stark, the manager of business-software platform strategy for Microsoft in Germany, said open-source startups would not drive leading software makers from the market. Microsoft's corporate clients, Stark said, base their buying decisions on the quality and reputation of the software maker, not the price, when making major purchases.