Executive Briefings

Supply-chain Winners: Software Developers Who Consistently Show Profitability

In some respects selling supply-chain software is like training top-notch thoroughbreds. More than a good product, it takes training, internal discipline and great stamina, especially in this economy, to stay the course.

James Ware, a Virginia horseman, says the essentials to a winning thoroughbred, one that consistently noses the competition out of the running, are stamina, endurance and good bloodlines. Ware speaks with some authority on the subject; he had an interest in just such a horse, Testafly, which ran in a number of million-dollar races in the '90s and brought home to his owners some handsome purses, including the Baltimore Breeders' Cup. Pedigree is important, Ware says, but not sufficient. "You have to have good training, you have to put your horse in the class he belongs in, you have to know your competition and you have to pick your spot carefully."

He could just as easily have been talking about making it in the software development business. There, supply-chain front-runners certainly have good product -- solutions and applications that have been been around in continuously updated versions for years, a lifetime in the technology industry. But clearly, it takes more than just a good product. Most of the CEOs and other managers interviewed for this article - at J.D. Edwards, Prescient, HighJump Software and Manhattan Associates - acknowledge that their competition have something to offer customers in that regard. What sets these winners apart, however, is several quarters of profitability, even in the midst of a general software slump.

How is it that these companies have managed to perform so well, meeting or exceeding Wall Street expectations again and again - for 13 consecutive quarters in one's case? Is there something about their management strategy or approach that has allowed them to finish ahead of others in this difficult economy?

According to AMR Research, revenue in the overall supply-chain management technology market dropped 6 percent last year from levels in 2001, and fell almost twice that in the supply-chain planning segment. The economic climate, called a "perfect storm" by one manager (who wishes he had coined the phrase), was almost uniformly bad. But somehow, these four competitors keep finishing in the money.

"I've been in this business 25 years now, and this is the most difficult period I've seen in my career," says Bob Dutkowsky, chairman and CEO of J.D. Edwards. Dutkowsky, who joined JDE in January 2002, is the one who uses the storm analogy, and he says the industry is in for more of it. In addition to a continuing down economy, he says a lack of trust and confidence in the way business is conducted and the threat of war and terrorism will contribute to what he calls a "new reality."

"Our view is that boards of directors are going to inspect strategies and spending patterns inside businesses more carefully that they ever have before," says Dutkowsky. "A lot of people in technology have tried by the power of their optimism to change the path of the perfect storm. But if you think the software industry is going to be like it was in 1998, where you made a product and people bought it in volume whether it worked or not, whether it gave business a return on its investment or not - those days are over."

Eric Peters, vice president of marketing and alliances at Atlanta-based Manhattan Associates, agrees that macroeconomic conditions point to more of the same, slow IT environment. "It is clear that [capital expenditure] is not going to pick up as fast as everybody continues to think it will," he says.

That doesn't mean that companies aren't preparing supply-chain technology wish lists, but deals will be much harder to complete.

"The environment is incredible," adds Chris Heim, CEO of HighJump, based in Eden Prairie, Minn. It's not just winning deals that's the problem, he says. "There are still people shopping around and selecting companies. It's actually getting across the finish line and getting funds released - that's the frustrating part.

"We've been able to put together some solid growth, but we think it would be even higher in a normal environment."

HighJump, which specializes in warehouse management and supply-chain execution software, grew a whopping 40 percent last year, Heim says, and he is looking to repeat that performance by end of the current fiscal year, despite a slow first quarter. "We had a fabulous second quarter," he says.

Denver-based J.D. Edwards, whose broad range of enterprise and supply-chain software targets the mid-market, reported total earnings last year of $38m on revenue of just over $900m. Contributing to that was fourth quarter license fees of $74m, a 35 percent increase over the previous quarter. That sequential growth in licensing fees is one outcome of a solid approach to strategy, management and execution, Dutkowsky says. Other results are pro forma earnings-share growth of more than 70 percent on the year and $140m in cash flow generated from operations.

The numbers for the first quarter of 2003 continued to be positive with a net income of $7m. "[O]ur net income was the highest level for any first quarter in or company history," Dutkowsky says.

Prescient is a standout in the supply-chain planning space so hard hit in the last couple of years. The West Chester, Pa.-based company reports in its most recent statement that 2002 was the strongest year in its six-year history and that it doubled its license revenue last year. "Prescient is a shining star in a generally downbeat declining SCP market," said Larry Lapide of AMR Research, in a research alert published last October. "With a new, highly energized executive team and a solid marketing and sales approach, this small vendor is destined for further growth."

Manhattan Associates is the poster-child of profitability in the supply-chain execution arena, with the 2002 fourth quarter marking 13 straight periods in which the company has performed to investors' expectations. The company's 2002 net income was $25.2m, a huge increase of 56 percent over 2001. Other of the most recent numbers: total revenue for 2002 was just shy of $176m; software license fees in Q4 set a record at $10.6m, an improvement of 17 percent over fourth quarter 2001; services revenue for the same quarter were $27.6m, 8 percent over the year-ago period; and in the last quarter, Days Sales Outstanding, an important metric, stood at 65, down two days from the previous quarter.
"The healthy financials are a result of a mix of signing key new customers and continuing business with existing customers," says AMR's Lapide. The company reported 165 customer go-lives in 2002, almost one every two calendar days.

Despite the performances turned in by these four companies, they did not always reach their internal goals. "In order to have profitability growth like we did, obviously you have to hit a lot of marks," says Dutkowsky. "But J.D. Edwards is still in the midst of a turnaround. My belief is that the way you bring a company out of a bad patch and turn it around is you set aggressive goals for the organization. You're going to miss some of them, but you will be better off than if you set low goals for yourself. We're not about to declare victory until we meet them all." [Editor's Note: JDE, now about 25 years old, lost money for the first time in 1999; in an atmosphere likened by some to a "nuclear winter," more than 800 people were laid off and C-level did the management shuffle more than once. Recent history shows Dutkowsky is right when he says "we got all that behind us earlier in the decade."]

It's difficult to get top-line managers, who often are salespeople deep down inside, to talk about anything other than how wonderful their products are. If you're lucky, they will talk about their management vision.

Jane Hoffer, president and CEO of Prescient, says the company - the result of a management buyout - was originally intended to focus on bringing its supply-chain planning solution to mid-sized enterprises. It still does that, of course, but with a crucial difference. "We have since honed that message to mid-sized enterprises in the consumer products vertical," she says. "I would say that has been the real contributor to how we've been able to grow this company and grow it profitably. We happen to have chosen a very good and broad vertical, which given the economic challenges, is still one that is buying in the marketplace."

Heim says HighJump targets tier one and two customers either in manufacturing or retailing.
Manhattan has focused on retail and consumer packaged goods companies, while JDE, with its enterprise solutions, targets a wider range of potential customers.

Manhattan, whose strong suit has been its PkMS warehouse management system, recently augmented its own transportation management solution with the acquisition of many of the assets of Logistics.com. The $21m deal brings with it a number of major clients, including Swift Transportation and J.B. Hunt Transport Services.

Moreover, Manhattan has aggressively embraced the wireless supply chain, taking a leading role in Radio Frequency Identification (RFID) technology. It recently partnered with Zebra Technologies to offer combined products that will enable users to print labels embedded with ultra-thin RFID tags, and the company has committed to including RFID standards in its compliance guarantee for top retailers.

JDE offers a full suite of integrated solutions, ranging from ERP and CRM to SCM and supplier relationship management, and from business intelligence applications to collaboration and integration tools.

Dutkowsky sums up the way management approaches selling the product line today like this: "One of the tenets of the turnaround was to get the company more connected with the marketplace. The internal mantra we've asked the company to execute around is very simple: It's called 'listen, innovate, deliver.' We want to listen carefully to the marketplace, want all of our innovative capacity to address what we've heard from the market, and then want to deliver it in a timely cost effective way. The way JDE has worked historically is we innovated, we delivered and then we listened and fine-tuned the product. It sounds like it's a subtle change, but it's really a pretty big change."

If they are listening, surely one of the things that these companies and their competitors are hearing is a plea from cash-strapped companies for pricing leniency. Pricing is not an area managers like to discuss openly. However, these representatives say they are extremely conservative about accommodating customers' needs on that point.

"We have traditionally structured our payment where we have the client pay license fees 100 percent on signing and they pay as they go, if you will, for the implementation services," Hoffer says. "If there has been one area of pressure, it has been in tying more of the license payment to milestones in the implementation process."

Kevin Moore, who left Oracle last year to join Prescient as its chief operating officer, says the linkage matches payments to phases of the implementation, which typically are 90 days. "For vendors that can take a year and half for an extremely custom implementation, linking milestones to that kind of environment becomes a lot more complex and risky. We don't walk into an implementation with significant fear if someone wants that linkage because the period is so brief."

HighJump likewise demands an up-front payment and then charges for services as incurred.

As a publicly traded company, Manhattan has guidelines on how to recognize revenue and processes to follow, Peters says. "It's clearly a difficult time out there for most companies," he says, but Manhattan has to "manage toward" its license and service fee targets, and it can't afford to deviate from internal rules on pricing.

"There are all kinds of software companies that are in the ditch because they were loosey-goosey with things like that," Dutkowsky says. "We are very careful that customers understand our value, and that they sign our contracts and pay us before we take any revenue recognition, and that's the right way to run a company."

Buyers aren't the only ones concerned with expenses these days. Software developers are running businesses as well and must have their own cost containment initiatives.

HighJump has boosted its customer call center and internet contact programs to shave support costs. It's also been careful in hiring. Already lean with about 165 employees, HighJump has sought not to match headcount with revenue growth. "We've always had the profit discipline, so we probably never ramped as high as a lot of others who didn't have that discipline," Heim says.

Prescient is just as conservative, Hoffer says, which means it doesn't hire any new people until revenue growth supports it. "We've continued to grow, but we cherry-pick the opportunities to add individuals," she says.

Some software developers and vendors seem to have forgotten some of the fundamentals, in Peters's view. He says Manhattan has separate revenue and expense budgets for each quarter. "In conjunction with us watching our top-line revenue, we also are monitoring our expenses to make sure that if revenue is going to fall short 10 percent, as an example, that you don't want your expenses to be running your plan. You want to contract your expenses. This is where a lot of companies will say, 'we managed to our expense line, but we fell short on revenue.' Well, guess what, you lost money if you did that."

Flawed Business Models
From the perspective of HighJump and Prescient, the business models of some companies may be flawed from the outset. Heim says his company's model entails "pushing power" back to the customer. Simply stated, enterprise applications should allow for greater input from the customer during implementation and when changes are necessary. That cuts out service fees he calls exorbitant. An average implementation for HighJump is 90 to 120 days with one- to three-member teams, who may be certified consultants rather than HighJump personnel. "The professional services for our systems are much less than what our competitors' are."

Avoiding custom work where possible can significantly reduce costs, Hoffer says. "How that relates to profitability is, we don't do high-risk custom implementations that require a lot more investment from the company's standpoint, and in our maintenance and support operation we don't have teams of individuals that are maintaining custom applications."

She tends to break her competition into two categories (both bad) and confidently places Prescient in between. Many of the tier one companies, she says, simply overbuilt their organizations. For instance, they opened too many offices and retained too many people in custom software. "They just expanded very, very rapidly and were caught in a position where they couldn't flex with the change in the market." The other group is going to the well, its existing customers, too frequently. "These often are smaller guys who are staying alive on their installed base, but are not selling any new product."

The list of faults that can contribute to a company imploding in a difficult economy is not that long, but any one of them may preclude succeeding in the marketplace. They include taking an eye off the quality of the core product or its delivery, mismanaging cash flow, taking ill-advised deals, or an inability to make the hard decisions in such areas as staffing. Regardless of the reason, the responsibility falls back on management.

"Some of these software companies, even the ones with good products, just thought they could grow out of their messes. You don't grow out of messes," Peters says. "You've got to show a path to profitability, and most of these companies didn't show one. They just thought they would grow to a certain size, gain market share and eventually become profitable.

"Three years ago, profitability wasn't sexy," he concludes. "Now, it is."

Good products and good bloodlines make for winners. So do good training and internal discipline. It helps to pick your market niche, or your spot, and know who and what the competition is. And you need stamina and endurance, especially, when in difficult patches.
"Those are the essentials," says James Ware, the Virginia horseman, as he looks out over his stable. Some mares are in foal there, perhaps with a future winner. "You know that's what made Secretariat great. The longer he ran, the faster he went."

James Ware, a Virginia horseman, says the essentials to a winning thoroughbred, one that consistently noses the competition out of the running, are stamina, endurance and good bloodlines. Ware speaks with some authority on the subject; he had an interest in just such a horse, Testafly, which ran in a number of million-dollar races in the '90s and brought home to his owners some handsome purses, including the Baltimore Breeders' Cup. Pedigree is important, Ware says, but not sufficient. "You have to have good training, you have to put your horse in the class he belongs in, you have to know your competition and you have to pick your spot carefully."

He could just as easily have been talking about making it in the software development business. There, supply-chain front-runners certainly have good product -- solutions and applications that have been been around in continuously updated versions for years, a lifetime in the technology industry. But clearly, it takes more than just a good product. Most of the CEOs and other managers interviewed for this article - at J.D. Edwards, Prescient, HighJump Software and Manhattan Associates - acknowledge that their competition have something to offer customers in that regard. What sets these winners apart, however, is several quarters of profitability, even in the midst of a general software slump.

How is it that these companies have managed to perform so well, meeting or exceeding Wall Street expectations again and again - for 13 consecutive quarters in one's case? Is there something about their management strategy or approach that has allowed them to finish ahead of others in this difficult economy?

According to AMR Research, revenue in the overall supply-chain management technology market dropped 6 percent last year from levels in 2001, and fell almost twice that in the supply-chain planning segment. The economic climate, called a "perfect storm" by one manager (who wishes he had coined the phrase), was almost uniformly bad. But somehow, these four competitors keep finishing in the money.

"I've been in this business 25 years now, and this is the most difficult period I've seen in my career," says Bob Dutkowsky, chairman and CEO of J.D. Edwards. Dutkowsky, who joined JDE in January 2002, is the one who uses the storm analogy, and he says the industry is in for more of it. In addition to a continuing down economy, he says a lack of trust and confidence in the way business is conducted and the threat of war and terrorism will contribute to what he calls a "new reality."

"Our view is that boards of directors are going to inspect strategies and spending patterns inside businesses more carefully that they ever have before," says Dutkowsky. "A lot of people in technology have tried by the power of their optimism to change the path of the perfect storm. But if you think the software industry is going to be like it was in 1998, where you made a product and people bought it in volume whether it worked or not, whether it gave business a return on its investment or not - those days are over."

Eric Peters, vice president of marketing and alliances at Atlanta-based Manhattan Associates, agrees that macroeconomic conditions point to more of the same, slow IT environment. "It is clear that [capital expenditure] is not going to pick up as fast as everybody continues to think it will," he says.

That doesn't mean that companies aren't preparing supply-chain technology wish lists, but deals will be much harder to complete.

"The environment is incredible," adds Chris Heim, CEO of HighJump, based in Eden Prairie, Minn. It's not just winning deals that's the problem, he says. "There are still people shopping around and selecting companies. It's actually getting across the finish line and getting funds released - that's the frustrating part.

"We've been able to put together some solid growth, but we think it would be even higher in a normal environment."

HighJump, which specializes in warehouse management and supply-chain execution software, grew a whopping 40 percent last year, Heim says, and he is looking to repeat that performance by end of the current fiscal year, despite a slow first quarter. "We had a fabulous second quarter," he says.

Denver-based J.D. Edwards, whose broad range of enterprise and supply-chain software targets the mid-market, reported total earnings last year of $38m on revenue of just over $900m. Contributing to that was fourth quarter license fees of $74m, a 35 percent increase over the previous quarter. That sequential growth in licensing fees is one outcome of a solid approach to strategy, management and execution, Dutkowsky says. Other results are pro forma earnings-share growth of more than 70 percent on the year and $140m in cash flow generated from operations.

The numbers for the first quarter of 2003 continued to be positive with a net income of $7m. "[O]ur net income was the highest level for any first quarter in or company history," Dutkowsky says.

Prescient is a standout in the supply-chain planning space so hard hit in the last couple of years. The West Chester, Pa.-based company reports in its most recent statement that 2002 was the strongest year in its six-year history and that it doubled its license revenue last year. "Prescient is a shining star in a generally downbeat declining SCP market," said Larry Lapide of AMR Research, in a research alert published last October. "With a new, highly energized executive team and a solid marketing and sales approach, this small vendor is destined for further growth."

Manhattan Associates is the poster-child of profitability in the supply-chain execution arena, with the 2002 fourth quarter marking 13 straight periods in which the company has performed to investors' expectations. The company's 2002 net income was $25.2m, a huge increase of 56 percent over 2001. Other of the most recent numbers: total revenue for 2002 was just shy of $176m; software license fees in Q4 set a record at $10.6m, an improvement of 17 percent over fourth quarter 2001; services revenue for the same quarter were $27.6m, 8 percent over the year-ago period; and in the last quarter, Days Sales Outstanding, an important metric, stood at 65, down two days from the previous quarter.
"The healthy financials are a result of a mix of signing key new customers and continuing business with existing customers," says AMR's Lapide. The company reported 165 customer go-lives in 2002, almost one every two calendar days.

Despite the performances turned in by these four companies, they did not always reach their internal goals. "In order to have profitability growth like we did, obviously you have to hit a lot of marks," says Dutkowsky. "But J.D. Edwards is still in the midst of a turnaround. My belief is that the way you bring a company out of a bad patch and turn it around is you set aggressive goals for the organization. You're going to miss some of them, but you will be better off than if you set low goals for yourself. We're not about to declare victory until we meet them all." [Editor's Note: JDE, now about 25 years old, lost money for the first time in 1999; in an atmosphere likened by some to a "nuclear winter," more than 800 people were laid off and C-level did the management shuffle more than once. Recent history shows Dutkowsky is right when he says "we got all that behind us earlier in the decade."]

It's difficult to get top-line managers, who often are salespeople deep down inside, to talk about anything other than how wonderful their products are. If you're lucky, they will talk about their management vision.

Jane Hoffer, president and CEO of Prescient, says the company - the result of a management buyout - was originally intended to focus on bringing its supply-chain planning solution to mid-sized enterprises. It still does that, of course, but with a crucial difference. "We have since honed that message to mid-sized enterprises in the consumer products vertical," she says. "I would say that has been the real contributor to how we've been able to grow this company and grow it profitably. We happen to have chosen a very good and broad vertical, which given the economic challenges, is still one that is buying in the marketplace."

Heim says HighJump targets tier one and two customers either in manufacturing or retailing.
Manhattan has focused on retail and consumer packaged goods companies, while JDE, with its enterprise solutions, targets a wider range of potential customers.

Manhattan, whose strong suit has been its PkMS warehouse management system, recently augmented its own transportation management solution with the acquisition of many of the assets of Logistics.com. The $21m deal brings with it a number of major clients, including Swift Transportation and J.B. Hunt Transport Services.

Moreover, Manhattan has aggressively embraced the wireless supply chain, taking a leading role in Radio Frequency Identification (RFID) technology. It recently partnered with Zebra Technologies to offer combined products that will enable users to print labels embedded with ultra-thin RFID tags, and the company has committed to including RFID standards in its compliance guarantee for top retailers.

JDE offers a full suite of integrated solutions, ranging from ERP and CRM to SCM and supplier relationship management, and from business intelligence applications to collaboration and integration tools.

Dutkowsky sums up the way management approaches selling the product line today like this: "One of the tenets of the turnaround was to get the company more connected with the marketplace. The internal mantra we've asked the company to execute around is very simple: It's called 'listen, innovate, deliver.' We want to listen carefully to the marketplace, want all of our innovative capacity to address what we've heard from the market, and then want to deliver it in a timely cost effective way. The way JDE has worked historically is we innovated, we delivered and then we listened and fine-tuned the product. It sounds like it's a subtle change, but it's really a pretty big change."

If they are listening, surely one of the things that these companies and their competitors are hearing is a plea from cash-strapped companies for pricing leniency. Pricing is not an area managers like to discuss openly. However, these representatives say they are extremely conservative about accommodating customers' needs on that point.

"We have traditionally structured our payment where we have the client pay license fees 100 percent on signing and they pay as they go, if you will, for the implementation services," Hoffer says. "If there has been one area of pressure, it has been in tying more of the license payment to milestones in the implementation process."

Kevin Moore, who left Oracle last year to join Prescient as its chief operating officer, says the linkage matches payments to phases of the implementation, which typically are 90 days. "For vendors that can take a year and half for an extremely custom implementation, linking milestones to that kind of environment becomes a lot more complex and risky. We don't walk into an implementation with significant fear if someone wants that linkage because the period is so brief."

HighJump likewise demands an up-front payment and then charges for services as incurred.

As a publicly traded company, Manhattan has guidelines on how to recognize revenue and processes to follow, Peters says. "It's clearly a difficult time out there for most companies," he says, but Manhattan has to "manage toward" its license and service fee targets, and it can't afford to deviate from internal rules on pricing.

"There are all kinds of software companies that are in the ditch because they were loosey-goosey with things like that," Dutkowsky says. "We are very careful that customers understand our value, and that they sign our contracts and pay us before we take any revenue recognition, and that's the right way to run a company."

Buyers aren't the only ones concerned with expenses these days. Software developers are running businesses as well and must have their own cost containment initiatives.

HighJump has boosted its customer call center and internet contact programs to shave support costs. It's also been careful in hiring. Already lean with about 165 employees, HighJump has sought not to match headcount with revenue growth. "We've always had the profit discipline, so we probably never ramped as high as a lot of others who didn't have that discipline," Heim says.

Prescient is just as conservative, Hoffer says, which means it doesn't hire any new people until revenue growth supports it. "We've continued to grow, but we cherry-pick the opportunities to add individuals," she says.

Some software developers and vendors seem to have forgotten some of the fundamentals, in Peters's view. He says Manhattan has separate revenue and expense budgets for each quarter. "In conjunction with us watching our top-line revenue, we also are monitoring our expenses to make sure that if revenue is going to fall short 10 percent, as an example, that you don't want your expenses to be running your plan. You want to contract your expenses. This is where a lot of companies will say, 'we managed to our expense line, but we fell short on revenue.' Well, guess what, you lost money if you did that."

Flawed Business Models
From the perspective of HighJump and Prescient, the business models of some companies may be flawed from the outset. Heim says his company's model entails "pushing power" back to the customer. Simply stated, enterprise applications should allow for greater input from the customer during implementation and when changes are necessary. That cuts out service fees he calls exorbitant. An average implementation for HighJump is 90 to 120 days with one- to three-member teams, who may be certified consultants rather than HighJump personnel. "The professional services for our systems are much less than what our competitors' are."

Avoiding custom work where possible can significantly reduce costs, Hoffer says. "How that relates to profitability is, we don't do high-risk custom implementations that require a lot more investment from the company's standpoint, and in our maintenance and support operation we don't have teams of individuals that are maintaining custom applications."

She tends to break her competition into two categories (both bad) and confidently places Prescient in between. Many of the tier one companies, she says, simply overbuilt their organizations. For instance, they opened too many offices and retained too many people in custom software. "They just expanded very, very rapidly and were caught in a position where they couldn't flex with the change in the market." The other group is going to the well, its existing customers, too frequently. "These often are smaller guys who are staying alive on their installed base, but are not selling any new product."

The list of faults that can contribute to a company imploding in a difficult economy is not that long, but any one of them may preclude succeeding in the marketplace. They include taking an eye off the quality of the core product or its delivery, mismanaging cash flow, taking ill-advised deals, or an inability to make the hard decisions in such areas as staffing. Regardless of the reason, the responsibility falls back on management.

"Some of these software companies, even the ones with good products, just thought they could grow out of their messes. You don't grow out of messes," Peters says. "You've got to show a path to profitability, and most of these companies didn't show one. They just thought they would grow to a certain size, gain market share and eventually become profitable.

"Three years ago, profitability wasn't sexy," he concludes. "Now, it is."

Good products and good bloodlines make for winners. So do good training and internal discipline. It helps to pick your market niche, or your spot, and know who and what the competition is. And you need stamina and endurance, especially, when in difficult patches.
"Those are the essentials," says James Ware, the Virginia horseman, as he looks out over his stable. Some mares are in foal there, perhaps with a future winner. "You know that's what made Secretariat great. The longer he ran, the faster he went."