The cloud ERP is making significant headway in the business world in recent years. There has been a lot of hype about how cloud ERP will be the business management solution of the future. Are you about to shift from an on-premise ERP to a cloud deployment? Is a cloud ERP right for you? Let me offer you some food for thought.
3 ERP Delivery Methods
Let me start by identifying the three most common ERP solution delivery methods.
1. On-Premise ERP
This is the traditional method of ERP implementation where you buy the software license, install the software and implement the solution on your in-house hardware. Your IT staff maintains the software and handles upgrades. A common practice, you can likewise outsource support of the software to a third-party IT service provider (usually is the vendor that implemented the ERP solution for you).
2. Hosted ERP
This was called the ASP (application service provider) model in the early 2000s. Hosted ERP is an outsourced model where you buy the software license, but you install the software and implement the solution in a hosted environment. The hosting (including all hardware), maintenance and upgrades are handled by a third-party company. This hosted model operates in a single-tenant scenario. It means you own the software and have dedicated server that runs your ERP solution that you can access via the Internet. You have full control over the software and you can choose whether and when to upgrade.
3. Cloud ERP
Cloud ERP is nothing more than ERP implementation on cloud making use of cloud computing platforms and services to offer the solution as a Software as a Service (SaaS) to you. Cloud ERP is also referred to as Web-based ERP.
This cloud model is similar to the hosted ERP model except that it is provided in a multi-tenant environment. In other words, the cloud software provider will put many different companies on the same software and servers, with each company’s information separated by security. This provider handles all software, hardware, maintenance and upgrades. The ERP solution is accessed through the Internet. While the vendor allows you to configure the software for your company, the ability to make more company-specific customizations on your own may be limited. As such you would have to depend on the vendor to develop new capabilities to fulfil such requirements. The vendor may not agree so as to maintain the same software for many different customers. Even if the vendor agrees, you may have to wait for the new functionality to become generally available in new upgrades.
Whether you want it or not, you are required to upgrade when new upgrades are released allowing the vendor to keep all of its customers on the same version.
By the way, be mindful that some ERP vendors may claim that they have a cloud ERP when in fact they are offering a hosted ERP.
Moving to a cloud ERP simply means you are moving cost from a capital expenditure to an operational expense. In the financial statements, instead of setting up a capital asset for on-premise ERP that is depreciated over time, your company can expense the annual service fee for a cloud ERP.
Cloud vendors are touting that companies can realize significant cost savings by using cloud ERP. So what are these cost benefits? Let me now list out the main cost components for implementing an on-premise ERP versus subscribing to a cloud ERP.
1. On-Premise ERP Cost
- Software License (One-time cost, based on the number of concurrent users or named users)
- Software Maintenance (Recurring annual cost, typically 17% – 22% of the software license cost)
- Implementation Services (One-time cost, usually about 2 – 3 times the cost of the software license cost, and it includes project management, implementation, user training, and go-live support)
- Support (Recurring annual cost, ranges between 10% – 20% of the software license cost depending on the different levels of annual telephone/helpdesk and remote/onsite software support)
- Hardware (One-time cost, approximately 10% – 20% of the costs for software licenses and implementation services)
- Maintenance & Support Staff (Recurring annual cost, either in-house staff or outsourced to maintain the system)
- Upgrade Services (A major upgrade may be required usually between year 3 and 7. This cost ranges between 25% – 50% of the implementation cost)
2. Cloud ERP Cost
- Software Subscription (Recurring annual/monthly cost, based on the functional modules used, and on the number of named users that will be accessing the system)
- Implementation Services (One-time cost, approximately 2 times the cost of one-year of annual subscription fee)
- Hardware Subscription (Recurring annual/monthly cost, about $500 per monthly upwards. This component is sometimes factored into the software subscription)
- Support (Recurring annual cost, similar to that for on-premise ERP)
Cloud vendors claim that the initial cost to purchase the software license and implement the cloud ERP is less than the initial outlay for an on-premise ERP. They also said that many internal costs to support the on-premise ERP are eliminated. These include costs for the IT infrastructure, IT personnel, outsourced support, real estate and periodic upgrades. Is this true that these costs are not factored into by the cloud vendors?
You must be mindful that the recurring annual cost for a cloud ERP that you pay to the cloud vendor is usually higher than the annual maintenance cost of an on-premise ERP. In fact, you are contractually committed and cannot stop paying the annual cost to the cloud vendor and must do so on a timely basis, failing which your subscription to the cloud ERP will be turned off. You will end up experiencing “payment fatigue”.
Whereas you can choose to stop paying the annual maintenance for an on-premise ERP (usually after year 1), and yet can continue to use the software, even when the software vendor goes out of business.
In order to determine how much cost savings you could realize by implementing a cloud ERP, I would recommend that you must do a 5 to 8 years cost comparison to clear identify the internal and external costs for both options. You will then be able to find out which is the more costly option.
Pitfalls Of Cloud ERP
I believe the biggest drawback of a cloud ERP is that you will be completely dependent on the cloud vendor. You will face an increased risk of “vendor lock-in” for 3 reasons:
1. You have limited rights and control
You do not own the software license and therefore the rights to the code in cloud ERP. You only pay for the right to access the functionality and use the intellectual property at the full mercy of the cloud vendor. If the vendor decides to take a different product direction, or if you miss your monthly or annual payment, or if the vendor’s support service sucks, you remain completely at the vendor’s mercy.
Many new and small cloud vendors are entering this rapidly growing market in the recent 3 years. Capitalization and viability may be an issue for some of them. What will happen if your cloud vendor goes out of business? You will have very little recourse.
2. Easy to switch to a cloud ERP, near impossible to get out
It is easy to move from an on-premise ERP to a cloud ERP. Once the cloud ERP goes live, you can continue to use the on-premise ERP for non-transactional purposes, mainly for reference of historical business information of past years.
However, over time you may faced with a situation that your business has outgrown the cloud ERP or you are dissatisfied with the support of the cloud vendor, you want to switch to another cloud ERP or shift back to an on-premise ERP. You will face a near impossible or expensive challenge switching out of the existing cloud ERP. Even if you are able to get the new cloud ERP or on-premise ERP in operation, your previous cloud ERP will be turned off once you cease your contractual commitment with that cloud vendor unless you continue to pay the subscription fee for as long as you need to access and refer to the historical business information in your previous cloud ERP.
So what if you have access and ownership to your database in the cloud ERP. This database is useless without the cloud ERP software which you do not own. It is impossible to migrate the entire database over to another ERP system because of different functionality and architectural standards, varying granularity of process flows, and complex metadata models. Moreover, most migration plans are very costly and lack clarity in how to successfully switch from one vendor to another.
Be aware that leaving a cloud ERP is rarely discussed by the cloud vendor.
3. Cloud vendors eager for your business now may grow fat and lazy in the future
The rush to earn a customer’s business remains intense. Most cloud vendors have customer friendly policies. However, the risk of vendor complacency grows with each percentage point shift from on-premise ERP to cloud deployment. What if the cloud vendor decides to raise its prices? You will likely loose leverage over time.
The Way Forward: On-Premise ERP With Payment Plan
Now you know what are the serious pitfalls associated with procuring a cloud ERP. It is vitally critical that you are able to discuss them with the cloud vendor. Before you sign on the service agreement with the vendor, you need answers concerning ownership, retention of data, late payment, system interruptions, as well as what happens if you choose to leave the vendor’s solution. You also need to know whether and how the vendor will support you as you migrate out of its cloud ERP and implement a different ERP solution.
Whether the drawback of a cloud ERP will be overcome will depend on how the cloud ERP evolves and matures in the future. At the same time, on-premise ERP would not disappear and will remain the preferred ERP delivery method for small and medium sized enterprises for a long time to come.
Instead of moving to a cloud ERP because you have cash flow issues, you should explore a payment plan with the on-premise ERP vendor. A payment plan turns a large upfront cost of investing in an on-premise ERP into a series of predictable low payments similar to a cloud ERP payment structure. A payment duration typically ranges from 12 to 36 months with relatively low interest rate between 2.3% – 4% per annum.
There are a variety of global and regional financing companies working with on-premise ERP vendors to help businesses of all sizes and across all industries deploy optimally structured on-premise ERP investments without substantial impact to their balance sheet and working capital.
In Singapore, when your company invests in an on-premise ERP, your company may want to leverage on the full PIC Bonus together with the existing benefits under the Productivity and Innovation Credit (PIC), a tax incentive offered by the government. Please consult IRAS website with any queries and for full terms and conditions of this PIC incentive.