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Doug Nebeker ("Doug")
I currently work (full time) as a freelance IT consultant for a corporate client. They currently heavily use a very complex Excel tool, grown over the years.
The IT department of that client has tried a few years ago to replace that XLS tool by a proper IT solution, built in house, but the project failed due to complexity (project cost 500K euros…)
Last year, the client estimated again the cost for an “as-is” replacement of the tool (between 300K and 600K) and this confirmed once more the overall risk & complexity of such project, and project was not even started.
In parallel to my main activity, during the last 4 years, I have been implementing the “proper” IT solution, that will fit and exceed my client’ expectation.
Several demos were already given to the client and feedback was very positive and a project will most likely be started to integrate my software.
- My client is a “corporate” client, who normally only deals with large IT providers
- I am a “one-man” company so far. My software can probably be sold to other customers (the software being not specific to my current client), in which case I can start hiring some developers, but currently I am alone.
- My client outsourced the engineering & maintenance of most of their IT department offshore (India)
- They have a strong procurement team…strong SLAs (service level agreement) etc
- Cost of the “as-is” replacement of the current tool was estimated to 300K– 600Keuros (analysis/development/system test). My software does the “as-is” and much more.
- No equivalent software on the market. This is really a “niche” product, complex to develop with probably a market too limited to attract big players.
I could try to go the classic way regarding licensing & maintenance:
- Sell a one-time perpetual licence & keep the source code proprietary
- Do bug fixing for a yearly fee.
I value the software to 350 000 euros; after negotiation, it could go down to 200K euros.
If I take 15% for maintenance costs (bug fixing), that would be around 50K euros/year.
Any new feature asked by the client would be charged separately.
However I fear that the procurement department will not accept this due to my company being too small. On top of that, to respect the SLAs in terms of bug fix delays, I will have to hire an offshore developer that would eat all my 50Keuros/year (until I find other customers – but this can take a while with corporate companies-).
Source code+Services approach:
Therefore I was thinking of other approaches, based on making the source code available to the client, while keeping the right to sell the initial software to other clients (and using this first client as a reference). Source code can be used within certain boundaries (number of users, scope of use etc). If those boundaries are exceeded, extra fee will apply.
Business model would be:
- Price of the source code: more of less equal to the above (maybe a bit higher): 200+Keuros
- During the first x years (eg 5 years), client commits to spend xxx euros with my company on consulting and software evolutions, on a “use or loose” basis. This could be 70 Keuros/year (this is what client spends on current tool/year).
The client will be responsible for the normal maintenance/bug fixing of the software (with my help if needed, as normal consultancy services).
- Any suggestion on the above? Any other pricing model?
- If instead of selling the source for a one-time 200Keuros, I ask for a yearly fee (for that source code): how much could it be? Any standard ratio I should use?
Thanks for any advice…
It's impossible to tell what will really work, you'll have to wing it.
One thought I have though is that a working solution in the hand now that can be tested is worth far more than an estimate of a possible end result of a project in the future, especially given the fact that a 500k project attempting it has already failed to produce anything. This suggests their minimal amount should be 500k. Convincing them of that though is the challenge.
I would you retain the source code and license it, if you think you can also sell it to others. In this scenario the price would be less than the 500k.
Alternatively, if you sell it outright the minimum sale price, as is, is 500k. And then of course ongoing maintenance would be available from you at a premium price, with the understanding being that as the creator you'll be able to make modifications and additions over time much more efficiently than any one else. But if they prefer to hire others so be it.
I think Scott is correct you will just have to hash it out with the client because it's too big of a deal to know what their and your deal breakers will be, in advance.
You obviously know what you're doing, but of course just be sure not to sell yourself (or 'it') short. I've never had to make the case for $500k software, but I expect your expertise, domain knowledge, time and risk assumed can all be used to justify the price.
I also would underplay (in your discussions with the client) any possibility of selling the software elsewhere, don't allow that possibility to lower the price. Unless you know other companies are googling how to solve this problem (which it sounds like they are not), you would face at the minimum a marketing problem getting it 'out there'... not to mention the potential that your software won't fit, or be adopted....
I don't want to be negative, I think it's awesome that you found a viable problem and I wish you luck. Currently I'm sitting here looking for what to do next with no real insight in to any industry but software development...
One other thought, just to shake things up, taxes. In Canada the first time you sell your company, the shareholders are entitled to up to $750K each TAX FREE. Eg. my wife and I own my company, if I sell it for $1.5M, my accountant has said, that it would be tax free. So, if you were to sell the IP for your software, and you live in a place with such a sweet deal as I describe, packaging it in a company could save you a lot of tax!
I think you can make much more on the initial sale of your software. The value of the software to this client is at least 500K, because they already spent that and got nothing for their money. You should be trying to get perhaps 800k on the initial sale (ie somewhat short of the psychological 1 million barrier).
I am worried that you have a programmer's experience and frame of mind for sales, you are already worried about the "strong procurement team" and that when negotiations start you may end up accepting very little money, say 100k for your software in total because you get stressed and afraid of losing the deal and you capitulate to their demands. If you are worried that hiring an offshore developer will eat into your profits, you are selling the product too cheap.
I would recommend you look at your personal network of friends and contacts for somebody who does deals like this on a regular basis and knows about sales. It might be a real estate agent friend, or perhaps and accountant friend. They might be able to help you with the process or put you in touch with somebody who can, or recommend you some books or other materials on "sales" to put you in a stronger position (both your mental confidence and how you are perceived by the customer) when it comes time to sell the product and negotiate.
I have worked for a company that provided custom software for large corporate clients. The base of their revenue was software that they sold 10+ years ago that was still providing income because it cost so much for their corporate clients to change their software systems and they were slow to do so. I think it would be a mistake to sell a perpetual license to this client, instead the license should be a function of time and take inflation into account. This client might find themselves still using your software in 15 or 20 years time and you should still be collecting money if they are.
Also, this company I worked for, after the initial sale of a solution to a client, would try to make further revenue from changes to the software ("VOs" or variation orders). The client will always want the software changed in some way after the initial delivery, either because it doesnt do what they want or because they want it improved. The company that I worked for, if they sold the product for X euros, would make NEARLY ANOTHER X in variation orders.
Therefore I think it would be a bad idea to provide the source code to the customer because it would weaken your position (open you up to competition) for doing VOs. Any contract that you sign for the initial sale of the software should make it lucrative for you to do VOs in the future when the customer wants the software modified. For example, make sure that any ongoing responsibilities to fix bugs in the software only covers defects and not modifications to the software otherwise that whole extra X euros can disappear or be reduced. Again you need to find a friend or contact who has experience maximizing the value of a sale or educate yourself on how to do it.
Thanks for reading my long post & for the interesting feedback so far.
You raised a very strong point (“a working solution in the hand now is worth far more than an estimate of a possible end result of a project in the future”); I will definitely include that in my proposal because I am pretty sure that the offshore partner will be contacted by the client for a counter proposal. And, as you probably know, sometimes decisions made by managers/procurement are surprising. So I will definitely insist on the fact that a 500K software already built and available has little to do with a software that only exists in a few slides with many assumptions and that should normally cost 500K if everything goes well.
@Bob: I will definitely not insist on the fact that I plan to sell the software elsewhere, but I’d like to be able to use that client as a reference implementation for future prospects. So I will have to mention this during negotiations. I will also use this to emphasize the fact that this software will evolve in the future. Your last point regarding taxes is a tough one. I have already been looking at it and taxes will be relatively high… I have already created a company (in Europe) and transferred the IP property to my company. This will allow my company to pay me some compensation (for the right of using my source code) whenever a license is sold; this compensation is taxed at a very low rate. However my company can’t pay me more than 15% of the license value. The rest will be taxed at the normal rate (30%+).
@Billy: You are absolutely right; I am someone interested in technical details, solving technical problems, programming etc but absolutely not a smart guy regarding sales and negotiations. So I contacted a lawyer, who used to work in a procurement team of a corporate company. He will conduct the negotiations with the client. This will also permit that I remain the “nice” guy, which is important as I am working for that client!
Regarding your statement: “it would be a mistake to sell a perpetual license to this client, instead the license should be a function of time and take inflation into account” .
=> If instead of a perpetual license of 300K, do you have any suggestion on what could be a license based on time?
Regarding the VOs (variation orders): I plan to sell the source code *but* any VO in the future *must* be implemented by my company. This removes the burden of maintenance and SLAs but still getting revenues in the future. I still need to check with my lawyer how concretely this can be written in a contract from an IP point of view. I will surely have to lower the license price due to this condition, but I believe that this is worth it. Once the client has it, he will keep it for at least 10 years, with many needs for VOs.
If anyone has some suggestion or criticism on my approach, please let me know – it is always useful to get some reactions from other people!
Thanks in advance
@John, just to clarify, my point about possibly having trouble selling it elsewhere was more to address THEM using it as a way to negotiate price down. I.e. they could say, well you can sell it many times and thus our price should be less than the cost of production. So if they come at you with that, make it seem hard to market.
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