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SugarCRM - A Sweet Mix of Commercial and Open Source

I've always wondered where the word 'oxymoron' came from

I've always wondered where the word "oxymoron" came from. What does "oxy" have to do with "moron"? What about the words "commercial" and "open source"; do these words form an oxymoron when combined in one phrase?

The open source-based CRM software maker, SugarCRM, has successfully combined these polar opposites and implemented such a "commercial open source" business model. SugarCRM has taken its business model to a new level in that they have combined an enterprise server software sales model with that of a software-as-a-service model. Of course, SugarCRM offers its software for free as an open source server and then converts some users to paying customers by charging for add-ons, installation services, training, technical support, and software patches (see Figure 1).

The Start of Sugar
The Cupertino-based SugarCRM started in April 2004 with 10 employees, charging $149 per user per year for a set of support services to accompany the free software. They raised their first $2 million in first-round financing in August 2004 and $6 million in second-round funding in February 2005. Draper Fisher Jurvetson, a Silicon Valley venture capital firm, led the first round of financing, and Walden International, a global venture capital firm based in San Francisco, led the second round of financing.

The startup continued to attract investors throughout 2005 when New Enterprise Associates (NEA) led the series C funding, with help from DFJ and Walden International, of $19 million. NEA is a well-known venture capital firm that has funded over 500 companies since 1978 with a focus on early-stage investments.

Less than 18 months after its inception, SugarCRM had attracted a large enough community of software developers to make it available in 21 different languages. Currently, the company has approximately 3,000 developers around the world contributing to the ongoing product development (http://www.redherring.com/Article.aspx?a=13811 &hed=Six+Software+Startups+to+Watch&sector=Profiles&subsector=Companies).

SugarCRM says that its open source product is downloaded 1,500 times a day, totaling to more than 350,000 downloads since it became available in July 2004. SugarCRM maintains that it is the most popular customer-relationship-management tool of all time. Maybe? Assuming that 50% of the SugarCRM downloads are active (a very generous assumption) and that each one has five users (a reasonable assumption), then SugarCRM can be proud of its accomplishment of gaining 875,000 users, but the most popular tool of all time may be a bridge too far. To put this in perspective, the market leader, Siebel, claims they have only 4,000 customers totaling approximately 3.7 million users (www.siebel.com/customer-case-studies/software-solutions.shtm).

What Is Sugar?
SugarCRM has a three-tiered strategy: they give away the basic open source software application; they sell the professional version with some proprietary code and more advanced features such as a connector to the dark side (referring to MS Outlook, of course); and, last, they sell the enterprise version with integration capabilities if you're a large company looking to access Sugar's full potential. This product offering framework coincides with the approach of other application vendors selling commercial open source software (see Figure 2).

SugarCRM is offered as a free download under the Mozilla Public License; Sugar Professional Edition costs $239 per year; and Sugar Enterprise Edition costs $449 per user per year. The open source version of the software contains 85% of the code found in Sugar Professional. The annual fee includes premium forums, updates and patches, day-time technical support by e-mail or phone, and commercially licensed Sugar extensions and templates. The software is also available as a hosted solution starting at $39.95 per user per month.

How Do They Sell?
The company is said to have between 300 and 350 customers who have purchased the Enterprise or Professional Editions, with up to 400 seats. CEO John Roberts said that approximately 65% of customers purchase the software (referred to as "On-Premises applications" by Sugar's nomenclature) while the others purchase the hosted version (referred to as "On-Demand" by Sugar's nomenclature) (www.eweek.com/article2/0,1895,1844169,00.asp). The revenue potential is huge; if 300 customers with 400 users paid for the Enterprise Edition ($449 per user per year), that would make $54 million in annual revenue!

SugarCRM also sells an appliance called "Sugar Cube," which is for companies who won't entrust their customer information to a third-party vendor. Instead, these companies can store the sensitive information on an in-house piece of hardware. One of these "Cubes" goes for $4,495 excluding licenses (www.sugarcrm.com/crm/products/sugar-cubes.html). Roberts failed to mention the percentage of customers who purchase the Sugar Cube appliance. This begs the question: What's going on?

Sugar's licensing strategy is based on the named user concept, where each user theoretically rents the software yearly and must pay the fee to continue benefiting from the software each year. A downside is that if you forget to cancel your license, you're stuck paying for another year whether you like it or not; the so-called "negative option" renewal strategy. Sugar does not sell a perpetual license at this time.

The Strategy
"Software is bought, not sold," says John Roberts, co-founder and CEO of SugarCRM, using a weird adaptation of the M&A adage, "Small companies are bought, not sold." This implies that customers will be inclined to buy the software after they've used the open source version because of the usefulness and functionality of the product. Roberts believes that SugarCRM has a "disruptive business model because our focus is on building a great product, not on marketing." It is clear that a substantial percentage of spending is on R&D. Internal development efforts combined with the huge external community of developers has provided an excellent framework for the continued growth of SugarCRM.

Is this true or is this just marketing? If they are just an honest bunch of programmers, why did they raise $27 million in venture capital?

"They have developed an outstanding product and they have a world-class management team that has resulted in very rapid adoption of their product, which is apparent from the number of developers who are using the product and posting extensions to it in the sourceforge.net community," says Scott Sandell, a general partner of NEA who recently joined Sugar's board of directors. Sandell believes that NEA was attracted to SugarCRM because of its successful business model that effectively develops and sells commercial open source software. It's clear that customers will pay a premium to access the features of Sugar Enterprise Edition after trying the open source version.

Clearly the guys at SugarCRM are doing something right. They are successfully selling "commercial open source software" without becoming completely commercial or staying totally open source. Thus, the oxymoron is no longer valid; such "commercial open source" software seems to exist in full form.

More Stories By Paul Sterne

Paul L. Sterne is general manager, Americas, Open-Xchange Inc. (www.open-xchange.com), and managing partner, Sterne & Co. LLC, an M&A boutique specializing in technology deals. His most recent transaction: the acquisition of Protocom Development Ltd. by ActivCard Inc. He is a sponsor of openResource, a wiki about the Open Source industry (http://sterneco.editme.com/home).

More Stories By Nicholas Herring

Nicholas Herring is an associate, Sterne & Co. LLC, and a contributor to the openResource wiki. He has a Bachelors in Business Administration from The George Washington University.

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