Is open source software worth investing in?
Did you know that three out of four key developers of LAMP stack components (an open source web platform for websites and servers) are Nordic? Linus (Linux) and Monty (MySQL) are Finns, whereas Rasmus (PHP) is a Dane. This development highlights the nature of the Nordic startup with active internal and external communication resulting in the Nordics having a higher share of billion-dollar exits in comparison to GDP than any other region in the world (http://nordic.businessinsider.com/the-nordics-are-the-best-for-startups-2016-6).
Open source software embodies the Nordic culture of creating something new, and sharing it with others. Perhaps the welfare states also provide a fertile ground to develop open source software through providing a safe neutral place to try new things without fearing that someone else would take advantage of it, as the creator will be “recognized by principle of meritocracy” as Mikko Puhakka put it (http://arcticstartup.com/article/how-linux-got-to-china-and-the-nordic-open-source-miracle/).
Like Carl Eschenbach, I think open source software is great, but the lecture left me pondering upon whether it is investable. There is no lack of open source software (OSS) success stories. Red Hat has a market cap of $17,6B, MySQL was acquired for $1B and JBoss for $350M. Cloudera and Hortonworks are well on their way to becoming the next unicorn OSS companies. (https://medium.com/@stephenrwalli/there-is-no-open-source-business-model-cdc4cc20238) There seems to be no one open source business model, but it’s foremost a development methodology (http://www.fticonsulting.com/insights/articles/value-driven-oss-business-models). There seems to be a multitude of ways to make OSS profitable, for an overview of successful business models check the list at the end of this blogpost.
Peter Levine, a partner at Andreessen Horowitz, argues that OSS is not generating enough revenue to invest in innovation, making OSS companies highly dependent on the surrounding community for innovations. As a solution Levine suggests SaaS offerings using a mix of OSS and proprietary software and concludes that “in the future it will be all software companies, not just open source shops that move to the cloud to offer their software as a service.” (http://www.cio.com/article/2944334/open-source-development/why-the-open-source-business-model-is-a-failure.html)
There is also proof of support from the VC community: it has been estimated that over 180 OSS companies raised roughly $3.2 billion in financing from 2011 to 2014 (https://techcrunch.com/2016/02/09/the-money-in-open-source-software/), and Colombo et al. (1) found that OSS companies received funding from higher quality VC investors, and their funding was more frequently staged.
It seems like there is no one size fits all when it comes to OSS business models. With around 70 different types of open source licenses available (2) and the ability to calibrate openness later on (3) provides OSS companies with a lot of flexibility. What seems to be key though is to have a clear idea of the revenue model from their early days (https://techcrunch.com/2016/02/09/the-money-in-open-source-software/).
Fitzgerald (4) argues that OSS has metamorphosed into a more mainstream and commercially viable form, which he calls OSS 2.0. He suggests that the “value-added service-enabling” and “loss-leader market-creating” business models have become more nuanced, and have been complemented by strategies including leveraging the development community and the open source brand.
Now proprietary players are also looking into the possibilities of open source. IBM is a strong supporter of Linux eroding the profitability of competitors (4) and has recently donated 500 of its software patents to the open source community. Nokia has also announced that it will not enforce its patents against open source developers (5). There are two main reasons behind this i) open-source software is a great way to drive user adoption (https://techcrunch.com/2016/02/09/the-money-in-open-source-software/), and ii) it increases the likelihood of attracting skilled developers and thereby achieving a higher pace of technological development (6). It is however crucial to avoid “free riding,” and make sure to allocate part of their time to OS project as part of their strategy (3).
Interestingly, the most important factor for successful OSS does not seem to be the business model but rather branding. Whereas the open-source world treats intellectual property (IP) as a barrier to innovation (7), brand related IP can be what sets a company apart. Mårten Mickos explains: “If you have control of everything and you own the brand name, you have much more control. That’s why MySQL became such a valuable property. MySQL was acquired for a billion dollars. Postgres has never been acquired by anybody. Technically Postgres is as good as a product as MySQL. Some people think it’s better and that’s fine.” (https://opensource.com/business/14/10/open-source-business-models-part-3).
Building awareness for OSS can be a challenge and an opportunity (8). Bob Young, the founder of Red Hat was very aware of this, and he wanted to connect Red Hat to Linux in the way we associate ketchup with Heinz; “It was all about brand management.” (https://medium.com/@stephenrwalli/there-is-no-open-source-business-model-cdc4cc20238).
Conclusively, the exitability of OSS companies does not seem to depend as much on the business model as it does on building a strong brand and community around the software.
Sources:
(1) Colombo, M. G., Cumming, D., Mohammadi, A., Rossi-Lamastra, C., & Wadhwa, A. (2016). Open business models and venture capital finance. Industrial and Corporate Change, 25(2), 353-370.
(2) Ma, D. (2010). Open source business models. Toronto: Blaney McMurtry LLP.
(3) Bonaccorsi, A., Giannangeli, S., & Rossi, C. (2006). Entry strategies under competing standards: Hybrid business models in the open source software industry. Management Science, 52(7), 1085-1098.
(4) Fitzgerald, B. (2006). The transformation of open source software. Mis Quarterly, 587-598.
(5) Chesbrough, H. W. (2007). Why companies should have open business models. MIT Sloan management review, 48(2), 22.
(6) Dahlander, L., & Magnusson, M. G. (2005). Relationships between open source software companies and communities: Observations from Nordic firms. Research policy, 34(4), 481-493.
(7) Chesbrough, H. (2017). The Future of Open Innovation: The future of open innovation is more extensive, more collaborative, and more engaged with a wider variety of participants. Research-Technology Management, 60(1), 35-38.
(8) Krishnamurthy, S. (2005). An analysis of open source business models.
Readings on OSS business models
Blogs
Open Source Business Models – A More In Depth View. Groen and Maduro run across 80 different OSS business models when putting together this list of 16: http://www.openhealthnews.com/articles/2012/open-source-business-models-more-depth-view
5 Successful Business Models For Web-Based Open-Source Projects https://handsontable.com/blog/articles/5-successful-business-models-for-web-based-open-source-projects
Reports and papers
A Perspective on Open Source Software Business Models: How to Develop a Value-Driven Business Model, page 6. http://www.fticonsulting.com/~/media/Files/us-files/insights/articles/value-driven-oss-business-models.pdf
An analysis of open source business models. Dividing OSS into four business models. http://faculty.washington.edu/sandeep/d/bazaar.pdf
Open source business models. Ma divides OSS business models into four categories through outlining key elements of common licenses. http://www.blaney.com/sites/default/files/Open-Source-Business-Models.pdf
Entry strategies under competing standards: Hybrid business models in the open source software industry. An analysis of hybrid business models adopted by 146 Italian OSS companies. https://www.jstor.org/stable/20110582
Users who have LIKED this post:
One comment on “Is open source software worth investing in?”
Comments are closed.
From personal experience as COO of a startup delivering content over mobile in 2006-7, one area of controversy we had to address was open source vs. licensed software. In a startup, cost is critical. We were building a production environment in the early days of cloud computing using expensive hardware (a fully populated IBM Blade Center H, IBM DS 4800 SAN with 1 TB storage, Cisco 6509, F5 BigIP 3800 load balancer, Checkpoint FW, etc.). The engineering team thought it was perfectly acceptable to build our entire software suite on “free” open source software. However, I was not comfortable with that model going into production, as we’d be delivering content to paid subscribers from some name-brand sources, and I was not willing to take the risk that “free” software potentially carries in terms of maintenance and support. Consequently, I moved us to Red Hat EL 4 on paid, licensed releases. We had a maintenance and support contract with service level agreements in line with what we were doing in hardware with IBM, because, frankly, when one starts delivering content for money, one needs the behind-the-scenes support of a larger support team than what the typical startup can perhaps muster.