Acquiring software is unlike any other purchase a company can make. That's because -- unlike other high-ticket items -- you aren't really buying the software; you're licensing it.
"If I buy a desk or a chair, I can do anything I want with it -- set it on fire, give it away, sell it," says Phil Bode, COO at International Computer Negotiations, a consulting firm in Winter Park, FL. "But with software, I'm just granted rights that are defined within the contract itself." In other words, what you're buying is the right to use your new acquisition in a limited set of ways.
The trick is defining those limits to work for you. And that's where the complications begin. It's not easy to establish a contract in which all the terms are indisputable. "One of the primary complaints we hear from customers concerns the interpretation of usage rights in the contract," says Jane Disbrow, research director at Gartner, Inc. in Stamford, CT. And it's only getting more complicated, as vendors continually introduce new license models in the hopes of simplifying the purchasing process and better matching expense with the value received.
Before you sign on the dotted line, then, you have to ensure the contract doesn't contain traps that down the road will cost you more money than you meant to spend. Here are some tips to arriving at the best deal (click here for additional online resources).
1) Consider future business plans
The most common mistake customers make when negotiating a software license agreement, according to Bode, is in failing to understand how the software will be used, and by whom, over its expected life span. "If you intend the software to have a five-year useful life, and you know you're merging with another company, that's going to have an impact on the license terms vs. a company that is fairly small and only operating in the state of New York with no plan to expand beyond the New England area in the next five to 10 years," Bode says.
In some cases, it may be difficult to gain this type of perspective on your own. That's why Bode recommends a team approach, with members from different parts of the organization ascertaining whether plans are afoot to, for instance, migrate to a new platform, add employees, expand the business or add locations.
For instance, say you sign a per-machine license agreement, only to have your company arm its employees with PDAs. This would entail purchasing an extra license for everyone using the application on the new platform. Or what if you sign a per-user agreement, and then the company decides to allow job-sharing? You end up buying two licenses to cover the two workers sharing a desktop computer to cover one full-time position.
You also need to be aware of your company's potential for increasing or decreasing its work force, says Alvin Park, research vice president at Gartner. If you lose a significant number of people because of a divestiture, and you've signed a three-year contract based on number of seats, you're still responsible for paying for those seats unless the contract states otherwise. Park suggests building in a clause stating that if you change the size of your work force by 10% that you can renegotiate license terms in good faith.
2) Leverage your power
Customers -- particularly small- and midsize companies that aren't spending millions of dollars on software -- often don't realize the power they bring to the bargaining table. Identifying those sources of power should be a prime objective of the purchasing team.
For instance, you can decide not to issue badges to vendor sales reps, which prohibits them from wandering the corporate premises and gathering information that ultimately can be used to their advantage. Similarly, if you know a sales rep is golfing buddies with one of the company executives, you can request that the exec direct all procurement conversations to the team.
Withholding information is another form of leverage. For instance, you don't need to reveal your budget or the name of the person ultimately in charge of making the purchase decision.
"You need to think of information as an asset," Bode says. "If you give them a lot of information, you're giving them a lot of leverage."
And remember: The moment you sign the contract, you lose any negotiating power you had. Bode relates the story of purchasing five licenses of a diagramming tool for his team. When others became interested in the tool, and he returned to the vendor after a few months to purchase 100 more licenses, he found himself at square one again. "You've got to negotiate while you still have leverage," he says. In other words, he should have negotiated a set price for any new licenses before signing the deal.
3) Tame maintenance costs
With software maintenance costs increasing over the past five years from about 18% to an average of 22%, this can be a major source of cost savings in software contracts, says Park.
Park suggests negotiating a freeze on maintenance costs for the term of the contract. To protect yourself at contract renewal time, you can also include a clause stating that maintenance costs will not increase by more than the current consumer price index. Another option is to set the increase at a fixed percentage (3% to 5% is reasonable), but remember to offset that with a clause stating that the percent can't exceed the actual maintenance increase. "Remember that sometimes maintenance costs don't go up," Park says.
There's another gotcha with maintenance costs -- if you successfully negotiate a lower license price, be sure the contract states that maintenance costs are a certain percentage of the net discounted price of the license, not the then-current price. Park has seen deals where the license price was discounted 60%, but the maintenance price was set against the list price of the software. "If you don't catch that, you can really get soaked," he says.
4) Scrutinize the audit clause
Audits are inevitable, but customers do have some control over how they are conducted, Park says. He cautions companies to scrutinize the audit clause and request customer-friendly amendments such as 90-day notice, instead of the standard two to four weeks. You can also try to have some say over who will perform the audit. "You don't want the Business Software Alliance or the software vendor itself messing around in your shop, so you might want to exclude them from who can be picked to do the audit," Park says.
Some audit clauses will require the customer to pay for the audit if it's more than 5% out of compliance, which is another area to negotiate, either to increase that percentage to 10% or require the vendor to pay for it, regardless.
5) Look before leaping into new technology
Before you sign on for any major change in your technology architecture, consider the effect on licensing costs. In the hardware world, for instance, multi-core processors can wreak havoc on software costs. That's because many vendors charge for software according to the number of processors resident in the server, and some software vendors consider cores to be processors. So, depending on the application you're running, a move to dual-core architecture could double your license costs.
"When they move to quad-core or eight and 16 processors on a chip, you can see it's a problem that will escalate quite rapidly," Park says.
It's important, then, to ask your software vendor for its stance on the issue and build protection into the contract against future changes to its policies.
Another technology trend effecting software licensing is virtualization. While many companies are using EMC Corp.'s VMWare or Microsoft Corp.'s Virtual PC to set up virtual machines in their server environments, application vendors have been slow to change their policies and licensing models to take that into account, Park says. So if you have a quad-processor server and decide to run eight virtual machines on it, you might have to pay for eight licenses instead of four, he says.
"The potential exists for software companies to leverage this trend for more revenue, and the customer has to make sure they haven't left any doors open to allow that," Park says. One way is to insert a clause that you won't pay for more than the number of physical processors on the box.
6) Define, define, define
Particularly with vendors trying out new license models, it's important to be 100% clear on how licensing terms can be defined.
For instance, if you agree to pay for software based on the number of employees in your company, you need to realize there are variations in how people define "employee," Disbrow says. Some software vendors would count the number of W-2s you submit during a year, which is not advantageous to companies with high turnover. Companies with temporary employees or contractors will need to determine how to count these workers.
"You may want to base it on some average number of employees," Gartner's Disbrow says. "Otherwise, when you get audited, the contract might say 1,200 employees but the software vendor finds 1,500, and you'll have to pay an upgrade fee."
License models that are based on business metrics -- such as the number of purchase orders made or the level of expenditure in a particular area such as transportation -- are particularly prone to misinterpretation, Disbrow explain. "It's not always clear what should be included or excluded."
For instance, if you're tracking costs to completed purchase orders, how do you count zero-based purchase orders that you use to move equipment among company subsidiaries? Or in a transportation-spend model, how do you account for increased gas prices? It might be better to base the software fee on something more tangible like trucks managed, Disbrow says.
Exerting Control
Most important, small and midsize companies should realize they're in the driver's seat when it comes to software negotiations. "You don't get what you don't ask for," Bode says. "The worse they can so is 'no,' and if you hear 'yes,' you know you've left something on the table."
And don't let the first 'no' be the final answer, he says. "Wait a while and ask again, in an hour or a day or a week. Don't get discouraged because if you still hear 'no,' it just means you're getting closer to completing the deal."
Lastly, be aware of the vendor's financial calendar. Knowing when the vendor's quarter ends -- and the pressure this can bring upon on quota-obsessed salespeople -- can only help increase your negotiating leverage.