A big shift in the equilibrium point of Open Source and Proprietary Firms predicted for the next 10 years (Part 1- Qualitative aspects)

We are at a moment in our history at which the terms of freedom and justice are up for grabs. We have an opportunity to improve the way we govern ourselves—both as members of communities and as autonomous individuals. We have an opportunity to be more just at the very core of our economic system. The practical steps we must take to reshape the boundaries of the possible in political morality and to improve the pattern of liberal society, will likely improve productivity and growth through greater innovation and creativity.The time to wake up and shape the pattern of freedom and justice in the new century is now -1-.

In the present section of the report, we present the qualitative background information which help us simulate, via Conectome Tools°, a shift in the industrial equilibrium towards Open Source Intelligence and Technology products developments in the next 10 years. The article is presented as an example of the power of Conectome international market simulation tools  when applied to a specific business branch. First, Part 1 will present the qualitative aspects which serves as input parameters for the simulations made. Then, the sequel, Part 2 will present the results, analysis and discussion of this simulations. Finally Part 3, will apply this results to predict the economical impact over SMEs of the Technology Pole: Grenoble, France. This final section will serve as an example of Connectome Tools° applied to model local micro-economical markets.

1. Introduction

In 1999, George Lucas released a bloated and much maligned “prequel” to the Star Wars Trilogy, called The Phantom Menace. In 2001, a disappointed Star Wars fan made a more tightly cut version,which almost eliminated a main sidekick called Jar-Jar Binks and subtly changed the protagonist—rendering Anakin Skywalker, who was destined to become Darth Vader, a much more somber child than the movie had originally presented. The edited version was named “The Phantom Edit.” Lucas was initially reported amused, but later clamped down on distribution. It was too late. The Phantom Edit had done something that would have been unimaginable a decade earlier. One creative individual took Hollywood’s finished product as raw material and extracted from within it his own film. Some, at least, thought it was a better film. Passed from one person to another, the film became a cultural object in its own right.

The Phantom Edit epitomizes both the challenge and the promise of what has variously been called “the new economy,” “the information economy,” or, more closely tied to the recent technological perturbation, “the Internet economy.” It tells us of a hugely successful company threatened by one creative individual—a fan, not an enemy. It tells us of the tremendous potential of the Internet to liberate individual creativity and enrich social discourse by thoroughly democratizing the way we produce information and culture. And it tells us how powerful proprietors can weigh in to discipline this unruly creativity; to silence the many voices it makes possible.

We are at a moment in our history at which the terms of freedom and justice are up for grabs. We have an opportunity to improve the way we govern ourselves both as members of communities and as autonomous individuals. We have an opportunity to be more just at the very core of our economic system. The practical steps we must take to reshape the boundaries of the possible in political morality and to improve the pattern of liberal society will likely improve productivity and growth through greater innovation and creativity. Instead of seizing these opportunities, however, we are sleepwalking. We shuffle along, taking small steps in the wrong direction, guided by large political contributions, lobbyists, and well-financed legal arguments stretching laws written for a different time, policy arguments fashioned for a different economy. The stakes are too high, however, for us to take our cues from those who are well adapted to be winners in the economic system of the previous century. The patterns of press culture became settled for five hundred years within fifty years of Gutenberg’s invention; radio had settled on the broadcast model within twenty-five years of Marconi’s invention. Most of the major decisions that put the twentieth century broadcast culture in place were made in the span of six years between 1920 and 1926. The time to wake up and shape the pattern of freedom and justice in the new century is now -1-. 2.

Business models of the Open Source vs Proprietary Firms

First of all, it is important to observe that when we are referring to Open Source or ‘Commercial’ proprietary firms, we are not only referring to software development -where this terms are of common use-. Despite, we include all products produced by IT firms, which can be physical -related to hardware- or intangible -related to software-. The following picture show the main services identified in the Information and Technology -IT- Industry during for the simulations made. 01_PicturePicture 1. Main brunches for the IT industry as June 2015. Source: The global information technology report 2015 –2– The development model for any physical or intangible product is divided into 4 temporally linked stages: 1. Product development and licensing, 2. Consulting services for the product, 3. Released Product Maintenance, 4. Released Product Support.

Following we discus the differences between the proprietary IT product business model that creates “end value” in a closed source, proprietary code, and the open source software business model that creates “user value” in the software developers who write the code. Proprietary IT product Business Model (Research and Development Model) The “research and development model” – otherwise known as the “Intellectual Property Rent model (IP-rent model)” or “proprietary business model” – works in the following way. A company invests research and development to create an IT as a protected intellectual property (a closed source, proprietary code base); then derives revenues by charging IP-rent for access to the software under a licensing agreement. The revenues generated from licensing allow reinvestment in further research and development -3-. This model seeks to derive revenues from the value of the end product. The process is depicted in Picture 2.

02_PicturePicture 2. Business strategy for a proprietary IT product. A closed loop where revenues are extracted form the value of the end product. For example, a company as Microsoft research into the market needs, develop a new software. Selling the license for the product, supported by IP rights, it earn money, to be reinvested in providing software maintenance and support and for improving the quality of the product in the future.

The following characteristics have been identified as positive for the proprietary software business model as regarding whether to SMEs or large companies:

  1. New business can start small but grow quickly because the IP-rent can be charged independently of any service or product provided
  2. Further reinvestment in the growing company is assured by the IP-rent which generates a sustainable cash flow into the company
  3. The IP-rent must not have a proportional relationship to the initial cost of software development, therefore, high profit margins can be leveraged from small reinvestments in research and development
  4. The model scales well: increases in the size and complexity of the code base scale proportionately with the size of the IP-rent that can be charged, and thus with the value of the company’s stock

The negative characteristics identified for the proprietary software business model are:

  1. There are higher costs in the short term related to the granting of a monopoly for the developed IP-product
  2. There are also threats to future innovation because the creative abilities of the company’s software developers are constrained by the capabilities of the proprietary software’s feature set
  3. By fencing its base code around with IP protection, the company is forced to generate the value of its end product without the assistance of the outside software community (this may not be a major problem for a larger company, like Microsoft, but for smaller companies, with limited resources, this is a severe disadvantage)

Open Source IT product Business Model (Research and Development Model) In contrast to the proprietary software business model that seeks to derive value from the end product, the open source software business model seeks to derive value from the software developer as an intermediate tool in the development of the end product. The model works in the following way. The company allows users/developers access to its IP, and in return receives assistance with the development of the tool. The open source license provides incentive for this co-operative effort: prohibition on terms restricting use, redistribution and modification of licensed subject matter motivates potential users to contribute to the writing and debugging of the code, which in turn generates a superior end product. Spin-off independent projects are there usual in this form of business. The process is shown in Picture 3.

03_PicturePicture 3. Business model for an Open Source IT product. The developing company leases its IP-rights, putting down costs for the production steps by getting help from the community. However, the fact of loosing full control over the IP-rights obligates the company to redesign its business strategy. The new business strategies to be implemented by the Open Source IT products for its commercialization will be described in the next section.

The positive aspects of the Open Source business strategy have been identified as the following:

  1. The model offers a way around the resource constraints of small business by public allowing access to the source code
  2. By acting as an IP donation to the public domain, the model preserves many of the advantages of the academic license.
  3. By harnessing the input of a large number of co-developers, the model invites innovation and extension of the capability and functionality of the software, resulting in an improved end product that better meets the needs of the end user -4-
  4. The Linux distributions (distros) have shown that it is possible to base a business on the distribution of free software. Red Hat is the premier example of a successful distro house that generates revenue through branding and user loyalty. While many people are knowledgeable about Linux, only Red Hat can provide the services of a “Certified and Trademarked Red Hat Engineer”.
  5. The IP asset of each distro house is its brand, and the brand may be licensed and trademarked.
  6. The communities expected for the IT product are, a priori, as much as 1 order of magnitude higher for the Open Source developpements -5-

On the negative side of Open Source development of IT products it can be distinguished:

  1. Giving away IP “for free” makes business sense if it creates demand for another product or service provided by the company, or even for the company itself as a licensed brand
  2. In the short term, the expected profit of commercialization are significantly lower

Partial conclusion As the open source movement continues to gain market momentum, traditional proprietary software vendors may need to develop their own sustainable open source business models if they are to counteract a predicted decline in profits from proprietary products.

3. Open source business strategies for competitiveness advantages

Open source offers enterprises the opportunity to be more self-reliant through source code modification. It allows incremental project and upgrade schedules, free reign in integration decisions, and direct interaction with the user community. It creates the opportunity to implement projects in a way that is consistently mindful of enterprise goals, rather than the goals of a proprietary software vendor. Open source allows enterprises to select from a broader range of hardware and software vendors, and services providers than proprietary solutions. For these and other reasons, the pace open source adoption continues to accelerate. The fact of leasing the intellectual property rights in Open Source IT product development, requires to implement strategies with substantial marketing and service alternatives that are creative and highly competitive -5-. Picture 4 show some of the main companies using the open source strategies to foster innovation, create product value, attract customers, and generate revenue. Each of these strategies are explained in greater detail below. 04_PicturePicture 4. Some of the main companies using Open Source Business Strategies.

The optimization strategy: The optimization strategy is an open source manifestation of Clayton Christensen’s “law of conservation of modularity”. The strategy is based in developing optimal and innovative solutions changing few modulus of a product, while the others remaining the same. The existing, robust and modularized data base allows for the implementation of oriented optimization to feed a wide range of user needs -6-.

The dual license strategy: Under the dual license strategy, a software company offers free use of its software with some limitations, or alternatively offers for a fee, commercial distribution rights and a larger set of features. A free option facilitates new business in a number of ways, including improved customer awareness and faster adoption, stronger competitive positioning, and a large base of users to find bugs and recommend improvements for the product. Any modifications that are distributed must also be made public and companies cannot use the free version as a component of any product or solution they commercialize. This prevents third parties from developing improvements that would rival the original open source software -7-.

The support strategy: According to analysts at Culpepper, by 2020 overall company revenues from maintenance and consulting will double the revenues from licensing. The strategy, therefore, consist in providing a free license for the product and providing paid maintenance and consulting for it -8- -9-.

The consulting strategy: The strategy consist in removing nearly all licensing costs from a proposed solution, and create winning bids for customers, at both lower prices and higher margins. The strategy consist in implementing the development towards the search of a particular market solution, rather than for developing a licensable product. Being today reported fees for IT companies declared to be 80% in implementation and 20% in license, this strategy is making sense in modern markets -10-.

The patronage strategy: This strategy is usually used by large companies, which invest time, energy and human resources in developing Open Source solutions. The implementation of this Open Source solution have a direct impact over a commercialized product of the company and usually serves for taking intermediates out of the chain between this product and the users.



2 The global IT Report 2015

3 Open Source and Commercial Software -BSA-

4 Open Innovation: The New Imperative for Creating And Profiting from Technology

5 Open Source vs Proprietary Software – The never ending Battle

6 Seven Open Source Business Strategies for Competitive Advantage, John Koenig

7 The Common Optimization Interface for Operations Research: Promoting open-source software in the operations research community, Louge-Heimmer R ; IBM Research Division, Thomas J. Watson Research Center, P.O. Box 218, Yorktown Heights, New York 10598, USA

8 Open Source Public Sector Business Intelligence Systems

9 Open Innovation and Strategy

10 Some simple economics of Open Source

11 ERP Software Blog


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