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Business model innovation is usually more powerful than technical innovation; it is more disruptive and harder to copy than technical innovation. And yet, so many companies are focused on technical innovation to compete.
Consider Airbnb. What makes them so successful is not a technical advantage, but a business model advantage that provides them near-zero marginal cost. For a traditional hotel chain to increase its capacity, it needs to build more physical space at significant cost. Instead of shouldering that setup cost, Airbnb can add another room to its inventory at almost no cost by enabling people to share their existing houses. That is a business model innovation. Furthermore, it is extremely difficult for the traditional hotel chain to switch its business model to match Airbnb's.
The same is true in Open Source software. While it is true that Open Source often produces technically superior software, its real power may be its business model innovation: co-creation. Open Source software like Drupal or Linux is a co-created product; thousands of contributors build and enhance Drupal and everyone benefits from that. A large Open Source community produces vastly more software than a proprietary competitor, and shares in the production and go-to-market costs. It disrupts proprietary software companies where the roles of production and consumption are discrete and the production and go-to-market costs are high. While established companies can copy key technical innovations, it is extremely difficult to switch a proprietary business model to an Open Source business model. It affects how they build their software, how they monetize the software, how they sell and market their software, their cost structure, and more. Proprietary software companies will lose against thriving Open Source communities. I don't see how companies like HP, Oracle and SAP could change their business model while living quarter to quarter in the public markets; changing their business model would take many years and could disrupt their revenues.
Take Amazon Web Services (AWS), one of the most disruptive developments in the IT world the past decade. While AWS' offerings are rich and often ahead of the competition, the biggest reason for the company's success is its business model. Amazon not only offers consumption-based pricing ('pay as you consume' vs 'pay as you configure'), it's also comfortable operating a low-margin business. Almost 10 years after AWS launched, at a time that vast amounts of computing are moving into the cloud, HP, Oracle and SAP still don't have competitive cloud businesses. While each of these companies could easily close technical gaps, they have been unable to disrupt their existing business models.
If you're in a startup, innovating on a business model is easier than if you're in a large company. In fact, an innovative business model is the best weapon you have against large incumbents. Technical innovation may give you a 6 to 18 month competitive advantage, but the advantage from business model innovation can be many years. Too many startups focus on building or acquiring innovative or proprietary technology in order to win in the market. While there is usually some technical innovation around the edges, it is business model innovation that makes a successful, long-standing organization -- it tends to be a lot harder to copy than technical innovation.
Society is undergoing tremendous change right now -- those of us who enjoy services like Uber and Kickstarter are experiencing it firsthand. The sharing and collaboration practices of the internet are extending to transportation (Uber), hotels (Airbnb), financing (Kickstarter, LendingClub), music services (Spotify) and even software development (Linux, Drupal). While the consumer "sharing economy" gives us a taste of what it's like to live in a world where we own less, perhaps there is an equally powerful message for the business community. Using collaboration, companies are dramatically reducing the production cost of their goods or services.
Welcome to the zero-marginal-cost economy, a way of doing business where ownership of a core process is surrendered to community collaboration. In economic terms, the cost of a product or a "good" can be divided into two parts. The first part is a "setup cost", which is the cost of assembling the team and tools needed to make the first unit. The second part is called the "marginal cost", or the cost of producing a single, additional unit.
For decades, competitive markets have focused on driving productivity up and marginal costs down, enabling businesses to reduce the price of their goods and services to compete against each other and win customers. A good example of this approach is Toyota, which completely reinvented how cars were made through lean manufacturing, changing the entire automotive industry. Japanese cars were produced much more quickly than their American counterparts, created via traditional assembly lines in Detroit, ultimately driving down the final cost for consumers and shrinking margins for companies like Ford. Software development methodologies like the lean startup methodology and Kanban are modeled after the Toyota production line and have made software development more efficient.
Today, the focus is changing. Within service industries like hospitality and transportation, new entrants are succeeding not by optimizing production, but by eliminating production cost altogether. Consider Uber versus traditional taxi companies. For a traditional taxi company to add another taxi to its fleet, a car and license need to be acquired at significant cost. Instead of shouldering that setup cost, Uber can add another taxi to its inventory at almost no cost by enabling people to share their existing cars, all coordinated via the internet. Airbnb does the same for renting properties vs. acquiring more physical space. The fact that both these companies have near zero-marginal-cost production is threatening longstanding business and regulatory models alike.
In the software industry, the low marginal cost of producing Open Source Software threatens to our equivalent of longstanding business models: proprietary software companies. Free Open Source Software essentially can undermine the way proprietary software companies make money -- by selling software licenses. By sharing the cost to develop software, organizations can increase their productivity, accelerate innovation and bring down their setup costs.
The open source ideology extends even further beyond software. Last month, Elon Musk open sourced the patents for Tesla. His main reason? Pushing the automotive industry to create more electric cars. If Elon Musk is an indicator for industries across the board, it's further proof that capitalism is starting to become more collaborative rather than centered around individual ownership.
Great businesses can be built by adding value on top of a low-marginal-cost community that is owned by many. For example, my company, Acquia, creates value on top of the open-source Drupal software by providing support and software-as-a-service tools. Similarly, Uber adds value by providing consumer-friendly, on-demand services beyond just increasing the supply of available cars on the road. In both cases, the companies' products grow stronger as their communities grow, even as the acceleration of those same communities brings down marginal costs. The power of the community vastly improves previously inefficient base process (such as waterfall software development or taxi regulations) and creates a forcing function for business to generate profit based on products and services that appeal directly to users.
Within the next decade, businesses will need to become much more open and collaborative to survive in an increasingly zero-marginal-cost economy. Those who develop proprietary software are finding it harder and harder to sustain "business as usual". The sharing economy and collaborative development will further streamline capitalism, and organizations that figure out how to master this dynamic will succeed. A community model can work in any number of industries -- we just have to challenge ourselves to as entrepreneurs to discover how.
(I originally wrote this blog post as a guest article for The Next Web. I'm cross-posting it to my blog.)
A few days ago, I sat down with Quentin Hardy of The New York Times to talk Open Source. We spoke mostly about the Drupal ecosystem and how Acquia makes money. As someone who spent almost his entire career in Open Source, I'm a firm believer in the fact that you can build a high-growth, high-margin business and help the community flourish. It's not an either-or proposition, and Acquia and Drupal are proof of that.
Rather than an utopian alternate reality as Quentin outlines, I believe Open Source is both a better way to build software, and a good foundation for an ecosystem of for-profit companies. Open Source software itself is very successful, and is capable of running some of the most complex enterprise systems. But failure to commercialize Open Source doesn't necessarily make it bad.
I mentioned to Quentin that I thought Open Source was Darwinian; a proprietary software company can't afford to experiment with creating 10 different implementations of an online photo album, only to pick the best one. In Open Source we can, and do. We often have competing implementations and eventually the best implementation(s) will win. One could say that Open Source is a more "wasteful" way of software development. In a pure capitalist read of On the Origin of Species, there is only one winner, but business and Darwin's theory itself is far more complex. Beyond "only the strongest survive", Darwin tells a story of interconnectedness, or the way an ecosystem can dictate how an entire species chooses to adapt.
While it's true that the Open Source "business model" has produced few large businesses (Red Hat being one notable example), we're also evolving the different Open Source business models. In the case of Acquia, we're selling a number of "as-a-service" products for Drupal, which is vastly different than just selling support like the first generation of Open Source companies did.
As a private company, Acquia doesn't disclose financial information, but I can say that we've been very busy operating a high-growth business. Acquia is North America's fastest growing private company on the Deloitte Fast 500 list. Our Q1 2014 bookings increased 55 percent year-over-year, and the majority of that is recurring subscription revenue. We've experienced 21 consecutive quarters of revenue growth, with no signs of slowing down. Acquia's business model has been both disruptive and transformative in our industry. Other Open Source companies like Hortonworks, Cloudera and MongoDB seem to be building thriving businesses too.
Society is undergoing tremendous change right now -- the sharing and collaboration practices of the internet are extending to transportation (Uber), hotels (Airbnb), financing (Kickstarter, LendingClub) and music services (Spotify). The rise of the collaborative economy, of which the Open Source community is a part of, should be a powerful message for the business community. It is the established, proprietary vendors whose business models are at risk, and not the other way around.
Hundreds of other companies, including several venture backed startups, have been born out of the Drupal community. Like Acquia, they have grown their businesses while supporting the ecosystem from which they came. That is more than a feel-good story, it's just good business.
We’re excited to announce that Acquia acquired TruCentric, a software-as-a-service company that is focused on providing personalization for websites. Earlier this year we launched Acquia Lift, which brings testing and personalization capabilities to Drupal sites. With TruCentric, we acquired not only a great complementary product that we will integrate with Acquia Lift, we also gained a great team with a long history and strong leadership in marketing automation technologies.
TruCentric uses real-time and historical data to build a deep understanding of both anonymous and authenticated visitors. Every action that a visitor takes and every piece content that they look at continuously updates this profile. TruCentric can infer a visitor's persona, interests, preferred content, and level of engagement as well as site-specific characteristics such as favorite team (for example on a sports destination), favorite products (such as on an e-commerce site), or favorite activities (for example on a travel site). This data can be married with existing customer and audience data, and tied together across multiple online destinations. Profiles can also be connected together across the different devices that a visitor uses.
Paired together with Acquia Lift, the joint solution will provide a powerful level of understanding about a website's visitors resulting in much more effective testing and targeting. Additionally, the solution will incorporate TruCentric's content recommendation and marketing offer capabilities. Content recommendations suggest and promote links to content that are most likely to interest a user, increasing engagement and time on site. Marketing offers enable the most relevant promotions, sign-ups and other types of calls-to-action to be selectively shown to site visitors, increasing conversions. Both offers and recommendations can be easily configured by site builders or marketers by selecting from a variety of rules, algorithms and filtering criteria.
Longer term, I'm particularly excited about the impact of Acquia Lift (with TruCentric) on e-commerce. Many brands and corporations today offer fragmented and poorly integrated shopping experiences that confuse the customer, are difficult to manage, and ultimately, leave money on the table. Top e-commerce brands have proven that content-rich product stories with the deep personalization and seamless e-commerce integration increase conversion rates significantly. We believe that building a software platform that uses the world’s best personalization practices in combination with the best possible content management capabilities presents us with a really big opportunity.
We've got great news to share today; we are announcing that Acquia raised $50 million, the largest round of financing we’ve ever completed.
The round is led by New Enterprise Associates (NEA), one of the world's top investors in our space. They have made various great investments in Open Source (MongoDB, Mulesoft, etc.) as well as SaaS companies (SalesForce, Workday, Box, etc.).
With the new funding, we can continue to go after our vision to help many more organizations with their digital platform and digital business transformation. In addition, Acquia is charting new territory in the world of software with a very unique business model, one that is rooted in Open Source and that helps us build a web that supports openness, innovation and freedom.
We have such a big and exciting opportunity ahead of us. This vision will not come to life on its own and the proprietary competitors are not resting on their laurels. We'll use the funding to double down on all aspects of our company; from increasing our investment in products to deeper investments in sales and marketing.
In addition to lead investor NEA, other investors include Split Rock Partners, and existing investors North Bridge Venture Partners, Sigma Partners, Investor Growth Capital, Tenaya Capital, and Accolade Partners. The new funding will bring Acquia’s total fund-raising to $118.6 million.
Of course, none of this success would be possible without the support of our customers, the Acquia team, our partners, the Drupal community and our many friends. Thanks so much for supporting Acquia!