Case in Point: How close can you stand to a software giant?

June 25, 2011

The big idea: Should small company SmartOps sign a deal with global software giant SAP that will entail substantial risks for SmartOps but also has the potential to greatly increase its growth?

The scenario: SmartOps, a fast-growing company that develops and markets supply-chain optimization software must decide whether to enter into a re-seller agreement with SAP. It would give SmartOps access to SAP’s large sales force, which would be selling SmartOps’s software as an extensionof SAP’s main software product. At the same time, SAP would require SmartOps to pay a substantial proportion of the software selling price in commissions. SAP would also represent SmartOps’s products as part of SAP’s core capability and as such dilute SmartOps’s attempts to establish its brand in the marketplace. Other companies that marketed software products with capabilities that complemented SAP’s core offering signed similar agreements. Sridhar Tayur, founder and chief executive of SmartOps, struggled with whether to enter into such a close relationship with SAP.

To Tayur and his senior management team, it was like handing over the keys of their new sports car to someone who might take it out for a spin and never return. With this close of a relationship, SAP could steal their ideas and develop their own supply-chain optimization capability. Intellectual property theft was not an unreasonable concern. Because it would have the power to negotiate the final selling price for SmartOps’s software, SAP might also use it as a loss leader to entice customers to buy its more expensive products at full price. In that case, SmartOps would make very little per sale. The risks in this deal were enormous.

But the upside was staggering as well. SAP’s global sales force was easily more than 100 times the size of SmartOps’s. With its products on SAP’s sales sheets, if even a small percentage of SAP’s customers adopted the SmartOps solution, this would translate into a large increase in demand. Because SmartOps generally had service contracts with those who bought its products, it could gain a lucrative stream of future income not subject to commission payments to SAP.

The resolution: SmartOps signed the re-seller agreement with SAP. It included the provision that SAP could not discount SmartOps’s software to a greater extent than it discounted its own software. SmartOps would also receive additional compensation if it provided technical assistance to the SAP salesman working on the deal.

The lesson: In strategic alliances, details matter a great deal. In this marketing alliance, pricing power is important. SmartOps had to give SAP some leeway as it would know facts of a given sales situation, but it also had to protect its margins. The threat of theft was mitigated by the fact that SAP was signing deals with other vendors, who were an important part of SAP’s growth strategy. If SAP behaved badly, negative word of mouth would have undercut that strategy.

— Ron Wilcox

Wilcox is a professor of business administration at the University of Virginia’s Darden School of Business.

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