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Open Source and the Profit Motive How Smart Corporations Seek and Find Competitive Advantage in Free Software

Originally published May 4, 2006

With corporations prowling for multimillion dollar open source buyout prospects, it is becoming clearer than ever that open source software – software you can download, use and modify for no charge – has the potential to generate serious profits for corporations clever enough to figure out how to make it pay.

How can your company profit from open source software? You could try googling for the answer, as I did, by searching on "open source" profit commercial business. The fact that the search provides more than 9 million results tells me that the question has been asked and answered many times.

Some of the answers are obvious, such as, "Give away the software and sell the support," but you have to dig much deeper to find the more useful, and less obvious, approaches. If you have time for a study, the first place to look would be Setting Up Shop: The Business of Open-Source Software by Frank Hecker. Hecker played an important role at Netscape Communications Corporation, the first major open source success, which opened up their key security protocol and gained dominance, if only for a short time, over their competitors. Hecker has continued his open source participation over the years with the Mozilla, Firefox and other open source projects.

Originally written in 1998 and last updated in 2000, Hecker’s article presents eight basic open source business models, listed here with my commentary:

  1. Give away the software but sell support. In this case, revenue is generated through media distribution, training, consulting, development and the kind of general handholding that software support entails. The problem with this approach is that it turns the traditional software business model upside down. In the traditional model, you make the most money by selling shrinkwrapped boxes; support is usually a cost center. Support requires well-trained and intelligent employees; and if you succeed in getting many new customers, you are faced with the problem of scaling up your support infrastructure.

  2. With the "Loss Leader" approach, you bundle open source software along with traditional commercial software. For example, a seller of Windows PCs could give away a CD full of open source application software, or you could build a proprietary piece of software that runs on top of Linux or some open source application. You give away all the open source software, but sell your special program. Given the degree to which there are viable open source operating systems and applications, this approach is not unlike traditional software sales, where you develop your code for a particular platform (such as Windows or Novell NetWare), and then sell your own code while reselling the underlying products.

  3. "Widget Frosting" is Hecker's term for selling hardware that runs open source software. You build the hardware ("widget") and then use open source software to make it run ("frosting"). These days, this type of open source hardware is called an appliance, and appliances have been offered for years as network routers and firewall/security systems, as well as network file storage and dedicated data warehouses. This approach has the advantages of allowing you to cut development costs (if you would build your own system) or licensing costs (if you license existing commercial code). It also offers the option of optimizing the open source code for your hardware. On the downside, you have to be sure to abide by the conditions of the open source licenses, including making the code – and your changes – available to your customers.

  4. “Accessorizing,” according to Hecker, offers an open source niche to sell books and "other physical items" that relate to open source. While this model may work reasonably well for publishers like O'Reilly and Associates, there are not too many other useful "physical items" you can sell beyond low-tech plush penguins (the Linux mascot) and bumper stickers.

  5. The "Service Enabler" model involves open source applications that are created in order to offer some for-pay online service. Hecker wasn’t too clear on how exactly this would work. It would mean that regardless of what service you chose to offer, someone else could come along and offer the same service. Today, we know that blogging, Web searching and other community and/or compute intensive applications can be made open source without endangering the original developer’s business.

  6. The "Sell It, Free I" strategy was, at the time Hecker was writing, purely theoretical. You would begin by developing a traditional proprietary product and then sell it. Then as the product matured, you would turn it into free or open source software. I'll have more to say about this approach later in this article.

  7. "Brand Licensing," according to Hecker, would occur when a company would release its products under an open source license, then decouple its brand name from the actual software and license the use of the brand name to other companies that wish to build derivative products. To my knowledge, this business model is still a hypothetical one.

  8. Hecker's final suggested business model is open source software franchising, with the idea being that a company would authorize the use of their brand(s) by franchisees, who would resell the software as service in their own vertical or geographical markets. I think Hecker was stretching a bit here, but the idea of putting together packages of software that could be implemented in segmentable markets is certainly an interesting one. I'd like to see companies packaging open source platforms for libraries, Internet cafes or elementary schools, and then selling support for those packages.

Current Open Source Business Models
In retrospect, we can clarify and simplify the categories of open source business models that Hecker offered almost a decade ago. If you want to make money from open source software, you can:

  1. Use open source software instead of proprietary software in your business. If you build your own PCs, you can save at least a few hundred dollars per system; if you run thousands of PCs in data or render farms, you can save millions on licenses. Many of the most successful technology companies in business today use open source software as “Service Enablers.”

  2. Dual-license your open source product. This gives you the best of both worlds. If your software is popular, you will have many users who would not normally pay for it (including students and spare-time developers). Those users translate into a broad user base that is capable of reporting (and even fixing) bugs. At the same time, when those casual users become corporate users, they will be able to license the software commercially so they can receive professional support as well as resell their own applications.

  3. Give away the software, but sell the service. This model is like that used by cell phone service vendors. Give away (or sell at a deep discount) the fancy cell phone, but lock the user into an annual service contract.

  4. Build an open source appliance. Linux is powering any number of devices these days, from cell phones to servers. As long as the vendor is careful to comply with the open source licenses, they will get the benefit of faster development time. Additionally, using open source software means the vendor can concentrate on building quality hardware.

  5. Sell support. There's a big difference between Red Hat and Novell’s SUSE Linux distributions, and it's not just that Red Hat is much more expensive. The difference is that Red Hat aims to deliver a rock-solid, enterprise quality operating system (OS) that can be used for production services. SUSE, while it may be similarly robust, has been oriented to a greater extent toward desktop users. Corporate purchasers are willing to pay for quality software, and if it is open source, that’s just an added benefit.

These are the most popular open source business models. There are others, and there are a couple of twists that are worth mentioning.

Bait and Switch
As more open source companies seek venture capital funding, we will probably see a greater incidence of dual-code base applications. Venture capitalists (VCs) prefer to invest in companies that "own" something that no one else can own (and sell). This means that some open source companies may start building two sets of code. One version is open source software, to be distributed freely and without support; the other is a closed source, traditionally a proprietary version of the software to be sold to enterprises. The two versions would have to be built on entirely separate code bases, and naturally the commercial version would include some advanced features or enhanced performance for the enterprise market. However, it is hard to classify this as an entirely open source business model since it relies on giving away what amounts to a "trial" version of the code while selling a proprietary version.

What and When to Sell, What and When to Free
You will recall that Hecker's "Sell It, Free It" strategy was based on the idea that paying customers would be willing to pay a premium to get the latest technology first, while the non-paying customers would be willing to wait for the technology to mature before they would get the benefit of using it. At least one entrepreneur is using this model: James Ewing’s virtual software company, Sveasoft, offers a firmware subscription for the Linux-based wireless routers. Pay a small fee, and you get access to the latest version of the code; if you prefer, you can download older versions for free. Despite this exception, it turns out this model is backward: more commonly, commercial open source companies release their latest technologies to the world, incorporating improvements and bug fixes as they become available. Rather than trying to sell the "bleeding edge" product, they give it away and get the feedback they need to build enterprise-ready code from their open source communities.

Profiting from Open Source
Any business, no matter how low-tech or small, can profit from open source, even if it's just a matter of switching from costly proprietary software to no- or low-cost open source software. Developers should take note of the increasing acceptance of the open source model for using software. With more companies buying – and selling – free and open source applications, at the very least it's worth taking a look at the alternative business models that are possible with open source.

  • Pete LoshinPete Loshin

    Pete is Founder of Internet-Standard.com, an open source and open standard computing consultancy providing technology assessment, needs analysis and transition planning services for organizations seeking alternatives to commercial software. Pete has written 20 books, including “TCP/IP Clearly Explained” 4th Edition, Morgan Kaufmann, 2003) and “IPv6 : Theory, Protocol, and Practice,” 2nd Edition (Morgan Kaufmann, 2004).

    Pete can be reached at pete@loshin.com or at 781. 859.9175.

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