Archive for March 9th, 2009

Comparing companies effectiveness: a response to Savio Rodrigues

I was intrigued by a twit from Stéfane Fermigier, “Comparing only 1 oss vendor (RHAT) and 1 proprietary, monopolistic one (MSFT) is really a deep piece of economic science !” with a link to this article by long-time OSS debater/supporter/critic/fellow, Savio Rodrigues, that compares the financial breakdown of RedHat and Microsoft, and concludes that the commonly-held hypothesis that open source gives a capital advantage by providing savings on R&D is not true. In particular: “The argument is that commercial vendors spend on items such as advertising, marketing, R&D and most importantly, expensive direct sales representatives. We’re told that open source vendors spend significantly less on these items, and hence can be more capital efficient. These costs make up the difference between the costs of doing business as a commercial vendor vs. an open source vendor. Somehow, those numbers didn’t seem right to me.”

I am always skeptical of the “We’re told” part, as I also remember the “we’re told that all open source is developed by students in basements”, “we’re told that we can give the source code and people will start work on it” and many other, unsubstantiated or out-of-context comments.

I would like to point out a few things:

  • first of all, there are structural limits in how public listed companies can perform, and how the financial breakdown is performed. If Savio tried to extend his (somewhat limited) analysis to other public companies in the same sector he would have found that most of them are nearly identical in R&D versus SG&A costs, when compared within the same class in terms of market capitalisation. In fact, only startups (that rarely can go to the stock market) have an higher-than-average R&D. Other companies with similar properties are companies in the biochemistry and drug design firms, that have a long incubation period to create a product, and for this reason have a high R&D share.
  • Then, the balance sheet is in itself not a good way to measure the “productivity”, or savings in development compared to same-class companies. In fact, as I wrote some days ago, savings due to the adoption of OSS are not inherently visible in balance sheets, but appear as better quality product or as the capability of producing goods at a lower price point. In fact, just thinking of comparing RedHat with a company that is 55 times larger should provide an idea of how big an advantage is OSS in terms of efficiency.
  • Many companies are helped by the existence of a “trialable” product, and in this sense there may be a core of truth in the idea that cost for customer acquisition may be lower. I am not convinced that cost reduction is so significant, at least not to the same extent of R&D advantages that are clearly easier to measure, and that tend to be significant.

I agree with Savio that competition should not happen exclusively on pricing (but it may be a part of a larger strategy), but I contend that by looking just at two balance sheet breackdowns can give us information on whether OSS is more or less efficient in terms of product creation. I continue to believe that in many markets OSS provides a substantial advantage: after all, Rishab et al. estimated the average R&D advantage at 36%; my estimates are from 20% to 75% in specific industrial areas, but in any case substantial.

update: Savio added another company (Tibco) which is similar to RedHat size; as before, it shows very similar results. It is my belief that even adding additional companies will more or less show that for software-intensive companies the results will be more or less the same. I also believe that the real comparison should happen outside the financial sheets, by comparing the market: in which markets do the company compete? What is the average size of the competitors? If we can show that on average OSS companies tend to be efficient competitors in markets much larger than their own, then we can show that OSS can give an advantage. If Rishab’s evaluation is right, the 36% increased efficiency should bring the equivalent of a capital advantage of 50% (roughly) so we should check whether RedHat or Alfresco effectively compete with companies that are at least 50% larger than themselves.